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This is a probing amendment. We have been approached by the Chartered Institute of Taxation and the Law Society, which are still concerned about the wide scope of the wording of proposed new section 135A of the Finance Act 1993. In their opinion, the new provision is still capable of catching many companies that prepare their accounts in foreign currency for perfectly normal, commercial reasons rather than because of tax factors.
Both organisations expressed the concern that the test remains an expected main benefit test as opposed to a purpose test. The question posed is what is the main benefit that might be expected to accrue from exchange gains having to be computed for tax purposes by reference to a particular currency, rather than the relevant question as to what is the main benefit that might be expected to accrue from drawing up commercial accounts in a particular currency. The expected benefits of a transaction is the expected result, whereas a purpose test is a motive test.
A company's motive in choosing to use a particular reporting currency might have been to avoid exchange fluctuations where the majority of its assets or liabilities are denominated in that currency, but, applying the proposed new section 135A, it may be possible to conclude that the expected main benefit of using the currency was that the company would avoid realising an exchange gain under the foreign exchange legislation.
The key concerns about this anti-avoidance provision are whether wider commercial factors can be taken into account and at which time the expected main benefit test is to be applied. Those issues exercised the institute and the Law Society; both expressed concern that the new test could catch a large number of the investment companies that the reforms in clauses 106 and 107 are introduced to assist.
Will the Minister offer assurances that commercial factors can be taken into account, and that the expected benefit is to be judged at the time when a company first prepares its accounts in foreign currency? Will she also confirm that the provisions of the section will not apply when a company is preparing its accounts in foreign currency, in accordance with normal accounting practice, in order to avoid its results being distorted by exchange rate fluctuations? The current provisions are widely drawn, and it would be most welcome and helpful if the Minister would give us a clear statement on the cases to which the anti-avoidance provision might be applied.
As those supporting measures are necessary to enable the new system to fit in with the existing law, I realise that the Opposition's attempt to drop the whole clause is not serious. Indeed, the hon. Member for Arundel and South Downs (Mr. Flight) admitted that the amendment is a probing one, and that the real concern is about the part of clause 106 that deals with the new anti-avoidance measures in the clause: the new section 135A of the Finance Act 1993, designed to stop the new rules established under clause 105 being exploited to avoid tax.
As the hon. Gentleman knows, the effect of section 135A is to undo the application of the new rules where the main benefit that might be expected to accrue to a company from using a particular currency in its accounts is that a taxable currency gain would not be recognised. In Committee, the Government made it clear that the rule will apply only where net exchange gains would be cancelled out. That demonstrates that we are interested in the overall position of the company and not in the effect of individual transactions considered in isolation.
The hon. Gentleman continues to express concerns about the scope of the rule, however, so I shall try to reassure him with some comments that I prepared earlier--as they say on "Blue Peter". These comments will also cover points of interest to others who read our proceedings.
Let me emphasise first that the new rule is intended to catch avoidance. It is not aimed at any particular type of company or business, but seeks to ensure that the new system of calculating tax, based on a company's accounts, cannot be abused to avoid tax. So trading companies and investment companies conducting their business in a normal, commercial way will not be affected. The point of the test is to establish whether the main benefit that might be expected to accrue to a company from the structuring and accounting of assets and liabilities in a particular currency is that a net exchange gain would be avoided.
The wording of the test allows for commercial considerations to be taken into account. For example, even if the currency adopted in the company's accounts was particularly weak or strong, if it made commercial sense to use that particular currency and the company's assets and liabilities in that currency were broadly matched, no net exchange gains would have been expected to have been avoided, and the section would not apply.
Where a net gain has been avoided, the test would still be whether the main benefit from using the currency was the furtherance of the commercial purposes of the company or the avoidance of that exchange gain. The Government believe that a company will normally be able to judge whether it would pass or fail this test. In particular, a company will know whether the decision to account in a particular currency makes commercial sense or whether the structuring and accounting of the company's affairs has been skewed to avoid generating taxable exchange gains.
To conclude, let me reiterate that the new rule is intended to tackle avoidance. It will not affect legitimate business undertaken by any company, whether that company is a trading company or an investment company. However, it will affect companies that aim to exploit the new rules for a tax benefit.
I hope that those remarks clarify the scope of the provision and give the hon. Gentleman some of the reassurances that he and others seek on the implementation of the clause. The Inland Revenue will also be providing some written guidance on how the provision will be applied. Given this clarification, perhaps the hon. Gentleman will now feel able to withdraw his amendment. It is only regrettable that we did not have an opportunity to cover these points more fully in Committee.
'such descriptions of general insurer as may be prescribed:'
(i) such descriptions of general insurer as may be prescribed: or
(ii) a general insurer who elects to be subject to an arrangement prescribed in regulations which appear to the Board to be appropriate;'.
Miss Johnson: Clause 107 deals with tax deductions for general insurance reserves and introduces the principle of discounting. It consists mainly of regulation-making powers, and this use of regulations has allowed for consultation with the insurance industry, which has been undertaken, and which good continues--to good effect. The amendments will allow regulations made under the clause to incorporate a change to the original proposals which was suggested in the course of consultation.
In order to explain the amendments, I will briefly explain the effect of the clause. Regulations made under the clause will introduce a process of recalculation of the tax deduction for a year. If it turns out that the tax deduction exceeded a discounted value of actual costs, additions will be made to taxable profits. The additions
This leads to the question of what should happen if it turns out that a deduction was too low. It is right that this situation should be recognised, alongside the case where a deduction is too high. If a deduction was too low, an amount of interest will also be calculated and it will be given as a tax relief for the insurer.
The consultation paper for the secondary legislation proposed allowing this relief only against interest additions made under the clause, and only in the same year or a later year. In Committee, I agreed that this relief should be made more widely available than was originally proposed, and suggested two options--that relief be available against all trading profits, or that it should be available to carry back to an earlier year.
Industry representatives have suggested that the two options should be combined, with a general right of set-off in the same year, combined with a limited right of set-off in an earlier year. Of the two options, their preference was for an unlimited set-off in the same year. The amendments to the clause will make this change, by providing that interest on overpaid tax will take the form of additional trade expenses. The expenses will be available in the normal way against all taxable profits arising in the same year. If they create a loss, there will be the usual one-year loss relief carry-back.
The amended clause also leaves open the possibility of a limited form of carry-back of relief to an earlier year. This is, however, a matter for secondary legislation, and will be decided following further consultation, along with other matters of detail.
The amendments create an even-handed approach in the way the clause deals with overpayments and underpayments of tax. In this way, the clause will ensure that the tax outcomes are fair to the Exchequer and fair to insurance companies.