Among the detailed tax announcements today was a measure blocking, with immediate effect, arrangements where profits are transferred between companies in the same group for tax avoidance purposes. Where it applies, the transferor company will be taxed as if the transfer had not taken place and will not be entitled to any tax deduction for the payment. However there is no corresponding disregard for the transferee; in the hopefully unlikely event that it is UK resident, it would potentially still be taxed on the profits transferred to it.
At first sight this might appear to be an alarming restriction of well-established group reliefs. UK group companies commonly surrender losses intra-group and transfer assets to other group members on a tax neutral basis and the effect of this is to shift profits and losses to other group companies, generally to reduce the group’s overall tax bill. Surely this type of planning is not now under attack? Fortunately the draft legislation is accompanied by a Technical Note which makes clear that this measure is intended to be much narrower in scope. It is targeted at arrangements similar to those relating to total return swaps which were blocked in the Autumn Statement but which are not caught by the earlier legislation as they do not involve derivatives.
The December 2013 anti-avoidance provision applies where a UK resident company enters into a total return swap with a non-UK resident associate and pays its profits to the non-resident, typically in return for a lesser amount and an undertaking to pay the transferor an amount if it makes losses. The derivatives legislation previously allowed the UK company to claim a deduction for the payment, thereby transferring the profit outside the UK tax net. The payments under the total return swap were in substance distributions of profits (like dividends), not expenses incurred in earning the profits, and so, with effect from 5th December 2013, they can no longer be claimed as deductions from profits.
This earlier anti-avoidance provision applied only to derivatives, so would not apply if profits were effectively being transferred outside the UK tax net in some other way. The new provision will be inserted at the end Chapter 1 of Part 20 CTA 2009, which deals with payments which do not qualify as deductions. It will therefore apply for all corporation tax purposes, not only to derivative contracts, where the arrangements result in “what is, in substance, a payment (directly or indirectly) from A to B of all or a significant part of the profits of the business” of A or a member of its group and the main or one of the main purposes of the arrangements is to secure a tax advantage for any person. This is intended to catch payments economically equivalent to dividends, rather than normal intra-group transfers and surrenders but, as it is not restricted to derivative contracts, there may be some uncertainty over its precise ambit despite the published guidance. The guidance gives examples of how profit transfers might be regarded as taking place in various commercial situations, e.g. where royalty or other payments are linked to profits, securitisation transactions, reinsurance, hedging, franchising, sub-participation, limited recourse funding and conduit arrangements, but states that the new anti-avoidance measure will only apply where there is a tax avoidance purpose.
Despite reassuring noises in the Technical Note, it seems likely that this will create further cause of uncertainty in group tax planning.