UK: International Tax - The World According To GAAR: Part 2

Last Updated: 14 July 2012
Article by James Quarmby

The nice people at HMRC are certainly taking their vitamins, judging by the number of consultation documents that have landed on my desk in the last two weeks. If you don't fancy the "Ensuring the fair Taxation of Residential Property Transactions" or "The Taxation of Controlling Persons" or indeed the fascinating "Withdrawing a Notice to File a Self-assessment Return" then how about the latest on the General Anti-Abuse Rule (GAAR)?

I have already opined at some length on my feelings about the GAAR and if you haven't read The World According to GAAR Part 1 (shame on you) then please view here. By the way, this is a long edition, so you may need to take some vitamins too before jumping in.

So what's the damage?

Essentially, its full steam ahead with the GAAR, but the consultation document emphasises that it will only be used to target "artificial and abusive arrangements". Indeed, there has been a subtle change of name with the substitution of the word 'avoidance' with 'abuse' in the title.

Many of the examples given in the condoc of the kind of schemes against which the GAAR will be used are actually quite comforting as they involve artificial arrangements to generate capital losses or other tax credits where there is no real economic substance to the transaction. This is all well and good as most people would accept, for instance, that the highly artificial loss generating schemes that have been flying around really aren't cricket. Whilst I have some reservations about the proposed drafting of the rule (of which more below) I am generally more comforted than worried. Of course, it goes without saying that I am still opposed to the idea of a GAAR as I believe that if HMRC wishes to stop egregious tax planning then it can use Targeted Anti-Avoidance Rules (TAARs) of the kind it has been churning out for the last few years.

Scope of the GAAR

The GAAR will apply to income tax, corporation tax, CGT and petroleum revenue tax as originally planned but has now been widened to include inheritance tax, SDLT and the "enveloped property annual charge". The condoc makes it clear that the GAAR will act in addition to any TAARs and they anticipate that the government will continue to introduce TAARs until such time as they believe the GAAR is really working well (i.e. never). This is what I find bewildering – if you have effective TAARs then you simply don't need a GAAR, unless you admit that your drafting skills are so rubbish that the TAARs are ineffective. Likewise, if you have a GAAR, what exactly is the role of the TAAR?

It is interesting that the GAAR will be used to attack any 'abusive' advantages obtained under double taxation agreements (DTAs). This seems to be a re-hash of reform that was tried last year and dropped after the government realised that over-riding the provisions of a DTA would be disastrous for UK trade, as investors would have no certainty of the outcome of their tax affairs.

The proposed rules

The original proposed rule in Aaronson's report was that only arrangements that have as its sole purpose or as one of its main purposes will be caught. However the draft GAAR has lowered the bar and now arrangements are caught if tax avoidance was a "main purpose or one of the main purposes". I have a problem with this definition as it rather assumes that we live in a binary world where we either do something for tax avoidance or not. The fact is that many clients, when taking advice, have a number of objectives and one of those may be tax. For instance, if a client is setting up a trust he may wish to do so primarily to protect his assets and to pass them onto his dependents in a sensible way. This is the main purpose. But what if he takes tax advice – or even doesn't take advice but knows that the trust will also be sensible for his IHT position. Under the proposed new test the trust could be caught by the GAAR as one of the purposes is tax efficiency.

There is a specific exclusion for arrangements "without tax intent" but that is pretty useless as nearly every client will want to organise their affairs tax efficiently and it would appear that any attempt to obtain tax advice would mean that this exclusion will not apply. Since I'm a nice man, I will give you an example – say a client wishes to capitalise his company and you talk through with him the choice of loan or share capital, explaining the tax outcomes of each choice. The client chooses the loan route as it is more tax efficient. This will be 'tax intent' and as such the exclusion will not apply.

This brings me neatly to the next concept, that of "abusiveness". I tell you what is abusive and that's bombarding poor tax advisors with consultation documents every few days, but I digress. The condoc proposes the hilarious concept of the 'double reasonableness' test. The proposed rule is as follows:

"tax arrangements are abusive if they are arrangements the entering into or carrying out of which cannot reasonably be regarded as a reasonable course of action, having regard to all of the circumstances".

So, that's all clear then - tax payers must be reasonably reasonable as opposed to unreasonably reasonable or reasonably unreasonable in carrying out their tax arrangements. I can see what they are trying to say but what idiot drafted this?

There is a very helpful list of the indications of tax arrangements that might be abusive in the proposed clause 2(4) of the rule and I have no objections to any of the four examples given therein. If only it stopped there - unfortunately it states that the indications listed in clause 2(4) are "not read as limiting in any way the cases in which the tax arrangements are regarded as abusive". This is a real shame as we really need some clear guidance from HMRC as to what they consider to be abusive or not, especially as there will be no form of clearance system.

How will it work?

How will GAAR in practice be applied? There are draft provisions for counter-action of abusive tax advantages which essentially give HMRC the power to decide how a transaction should have been taxed if it had not been abusive. So far, so reasonable. It is also states that the GAAR is to be ignored in applying other provisions particularly TAARs. However, if HMRC find that a TAAR is not sufficient then they can bring in the big guns and counter-act the measures using the GAAR.

It is proposed that the GAAR is dealt with under the self-assessment regime. This means that taxpayers must self-assess under the GAAR. I suspect that this will need to be done in the "white space". So, if you think you are caught by the GAAR, then you are supposed to tell HMRC that you are. Perhaps the disclosure will look something like this:

"Hello, I am an imbecile. I have entered into a loss generation scheme which was sold to me by a nice man with white socks and a clip-board. He tells me that it really works but if I am to be honest (which apparently I must) I think it's pretty abusive and therefore would suggest that you counter-act any tax advantage by using your powers under the GAAR. Please also kick me in the head. Thank you."

OK, perhaps that is unlikely. I think it more likely that we will have very carefully crafted disclosures in the white space using the Valtema principle – namely that if you give sufficient disclosure on the tax return about a transaction that you have entered into then once the enquiry window passes HMRC cannot enquire into it. This would give tax payers some certainty but what is 'sufficient' disclosure? I suspect the disclosures will be something along these lines instead:

"Hello, it's me again. I have entered into the following transaction [provide tedious details here together with a tax analysis]. I have considered whether the transaction is abusive and covered by the GAAR and have decided that it does not. Please don't kick me in the head again."

Disclosure in your tax return will be areal issue from now on in. Get it wrong and there is nothing to prevent HMRC from enquiring into your return years after the enquiry window has closed. This is a horrible risk as if HMRC decides that some transaction you did years ago is caught by the GAAR then you will be hit with interest and penalties on top of the tax liability. Ouch, that's my head again!

The advisory panel

We have a system of tax tribunals which work perfectly well and I am struggling to see how the advisory panel could remain independent enough to be of any use. However, readers will be very happy to know that I have written a letter to HMRC to volunteer my services as a member of the advisory panel. I am sharpening my pencil in anticipation.


I am not as depressed about this proposal as I was when the original consultation came out, although I still have serious reservations about the drafting of the rule itself. I am also worried about the operation of the GAAR within the self-assessment regime and the risk for taxpayers if tax returns are not completed perfectly.

I am also conscious that, as reasonable as the drafting is intended to be, once it becomes law the GAAR will be wheeled out by HMRC Inspectors whenever they feel that the taxpayer is getting the better of them in an argument. In effect, this legislation is a bully's charter and it will be operated by an acknowledged bully. For anyone concerned about the erosion of personal freedoms the advent of the GAAR is very bad thing indeed.

This month's household tip

My potato in the breadbin tip last month was hugely popular so, in a similar vein, how about keeping some chalk in your jewellery box as this will help stop the contents from becoming tarnished. Also, to remove fine scratches from the face of your beloved wristwatch rub the glass with liquid brass cleaner.

Best wishes

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