Wealth management update: taxation of non-residents

Entrepreneurs' relief

In a case heard in the First Tier Tribunal last November, a taxpayer carried on a business of selling food supplied to him by nine different organisations and he received commission from those suppliers. He sold a part of his business to one of the suppliers and claimed Entrepreneurs' Relief from capital gains tax. The case (Gilbert v HMRC [2011] (UK FTT) 705 TC) raised the question whether the sale was a disposal of assets used in the business or whether it was the disposal of the whole or part of a business. The latter would qualify as a 'material disposal of business assets', whereas the former would not.

The principle was similar to the old retirement relief cases such as McGregor v Adcock and Atkinson v Dancer.

The taxpayer claimed that he was carrying on nine separate businesses and therefore there was a sale of a separate and definable part of the business when he sold his business relating to one of the suppliers.

The taxpayer sold his database of customers, the goodwill, trademarks and contracts of that business. HMRC said that the business carried on by the taxpayer had not materially changed after the sale, so that it was only a sale of business assets and not a sale of a business or part of it.

The Tribunal held that this was a disposal of a part of a business. This case is useful as it is the first reported case on this subject for Entrepreneurs' Relief purposes.

EMI Investment Limited

From 16 June, an individual can hold unexercised enterprise management incentive options with a value up to £250,000 (that is an increase from the previous figure of £120,000). This increase was announced in the 2012 Budget, but was expressed to be subject to state aid approval. This is beneficial to employees and also to employers. The limit on the total value of options which an employer can grant has not increased, but the employer can now provide a greater incentive to specific employees.

Employment through intermediaries

There have been two developments in ?this area.

The first development is a consultation document published jointly by HMRC and HM Treasury on 23 May 2012, which relate to the engagement of a senior employee.

The 'IR35' rules, which are contained in chapter 8 of Part 2 of ITEPA 2003, currently apply where the services of a person who would normally be treated as an employee if he were engaged directly by an organisation, are supplied to that organisation by an intermediary company (usually) or by a partnership or LLP. For example, a company which is 100% owned by the worker could contract with the 'employer' to supply the services of that worker.

In those cases, the intermediary is responsible for calculating income tax and employees' national insurance contributions arising on amounts received by it and paying those sums and employer national insurance contributions to HMRC.

These arrangements remove any responsibility for the engaging organisation to deduct and account for tax and national insurance contributions. HMRC now say that when the IR35 legislation was first introduced, it was unusual for an organisation to employ its own senior employees through a personal service company, but that has become more common due to the tax savings which can arise if an organisation does so.

The proposed new rule will apply where the services of a 'controlling person' are supplied to an organisation through an intermediary. A 'controlling person' is someone who 'has managerial control over a significant proportion of the [engaging] organisation's employees and/control over a significant proportion of the budget of the [engaging] organisation'. I have added the words in square brackets.

The new rule, if applicable, will require the engaging company to deduct and account for tax and national insurance contributions where the engaged worker falls within this definition.

If enacted, these new rules would take priority over both the IR35 rules and also the agency rules, which require agents to account for income tax and national insurance contributions on payments made to employees. Responses to the consultation are required by 16 August 2012.

The second update in this area is that HMRC issued guidance on its risk-based approach to IR35 on 9 May 2012.

The guidance contains twelve 'business entity' tests as to whether there is a low, medium or high risk that IR35 applies to a particular engagement.

Each of the business entity tests asks questions and allots scores depending upon the answer. The aggregate score will indicate the band in which a business falls.

This guidance should be useful in giving some degree of certainty to a worker in deciding whether to contract directly with the employing organisation or to contract through his own personal service company.

Statutory residence test

The government published draft legislation to set out a statutory residence test on 21 June 2012. The legislation takes into account responses to the consultation which followed the 2011 Budget and are contained in a 130 page document which includes the draft legislation.

The principle of encapsulating the resident rules within legislation is a welcome one, because it should prevent the uncertainty which currently exists due to the mismatch between complex case law and HM Revenue practice.

The draft legislation applies to residence for income tax, capital gains tax and (where relevant) inheritance tax and corporation tax. The legislation contains a basic rule that an individual is resident if either:

(a) The individual meets one of four automatic residence tests and none of the automatic overseas tests for the year or

(b) the 'sufficient ties' test is met for the year.

New legislation also includes provisions relating to split year treatment and anti-avoidance.

One area of simplification is the abolition of the concept of 'ordinary residence'.

The government estimates that the impact on tax receipts as a result of both the new statutory residence rules and the abolition of ordinary residence will be negligible. Initial reading of the draft legislation shows that the new rules will be relatively straightforward and easy to apply. The legislation is intended to take effect from April 2013, so there will continue to be a number of cases which need to be judged on the basis of the existing case law.

Non domiciled individuals - remittances

Where a non domiciled individual invests in a UK company, business investment relief operates so that the investment will not be treated as a remittance of foreign income or gains. Following concerns about whether that relief will apply where the investment is made in a close company (because the company could be a 'relevant person' under section 809M ITA 2007), HMRC have confirmed that no remittance will occur in these cases.

General anti-abuse rule

Following the report by the study group led by Graham Aaronson (QC) last November, the government announced in the Budget this year that it would consult on a 'general anti abuse rule' (GAAR), which would be targeted at artificial and abusive tax avoidance schemes (but that it had no plans to introduce a general anti avoidance rule).

The consultation document was published on 12 June. It may be coincidental that only a few days later the Prime Minister commented on tax planning arrangements made by a well known comedian.

The proposed GAAR will apply to inheritance tax (subject to further consultation), income tax, national insurance contributions, corporation tax, capital gains tax, stamp duty land tax, petroleum revenue tax and the proposed annual charge on 'non natural persons' owing property.

The rules will cover any arrangements where the securing of a tax advantage is the main purpose and which are 'abusive'. Arrangements will be abusive if they 'cannot reasonably be regarded as a reasonable course of action'.

The draft legislation gives typical characteristics of arrangements which will indicate that they are abusive and they include arrangements which:

(a) Result in significantly less income, profits and gains being taken into account for tax purposes than the true economic amount.

(b) Result in significantly greater deductions and losses for tax purposes than the true economic cost of loss.

(c) Result in a claim for repayment of tax that has not been, or is unlikely to be, paid.

The proposals also catch arrangements which include a transaction at a value which is significantly different from market value or on non commercial terms.

An independent advisory panel will be created to give an opinion on whether an arrangement should be caught by the proposed GAAR and a Tribunal or Court must consider that panel's views. The panel will comprise both HMRC representatives and non HMRC members.

The introduce of such a GAAR will almost certainly result in more schemes and arrangements being examined and nullified. There is some uncertainty as to what is 'reasonable', which will ultimately depend upon the decision of a Court or Tribunal, taking into account the advisory panel's opinion. This does not give a taxpayer any greater certainty about whether an arrangement is acceptable to HMRC when he or she is considering whether to enter into it, but it is likely to dissuade a number of advisers from recommending certain schemes.