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New Clause 10

Attribution of gains to members of non-resident companies

'.—( ) In section 13 of the Taxation of Chargeable Gains Act 1992 (attribution of gains to members of non-resident companies) in subsection (5) omit the word "or" immediately preceding paragraph (d) and at the end of that paragraph insert "; or
(e) a chargeable gain accruing on the disposal of an asset held by a company which complies with subsection (2) of section 13A of the Taxes Act 1988 (close investment–holding companies).".'.—[Mr. Flight.]

Brought up, and read the First time.

Mr. Flight: I beg to move, That the clause be read a Second time.

I regret that, at this late hour, I raise for the third year running what I believe to be a continuing injustice in the tax system. However, I accept that this injustice occurs in very limited circumstances.

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Section 13 of the Taxation of Chargeable Gains Act 1992 prevents UK residents avoiding tax on capital gains by arranging for gains to arise in closely controlled offshore companies, namely companies owned by a few individuals. Section 13 counters any abuse by taxing UK residents on their corresponding share of such gains. It is widely drawn and contains only limited exemptions, principally for gains made by overseas trading companies.

A particular difficulty arises when commercial activities do not amount to trading, and a later new clause will explore the trading versus investment issue and the outdated approach that is sometimes used. The result of the difficulty is that a UK family-controlled business can find that it is taxed on gains made in overseas subsidiaries whether or not those gains can be remitted back to the UK and to the family who make up the controlling body. In some cases, the gains may not even represent real profits, but only exchange rate fluctuations.

The particular problem is for property investment businesses. Section 13 places a considerable compliance burden on such companies and can result in anomalous tax charges, putting privately owned British groups at a considerable disadvantage compared with public companies and non-British businesses.

The new clause seeks to address the issue by extending the gains that will not be subject to the section 13 charge to gains arising to groups of companies that invest in property on a commercial basis. It would do that by using an existing definition in subsection (2) of section 13A of the Taxes Act 1988 to distinguish trading and property investment companies from pure investment activities. That would ensure that ordinary equity and similar investments could not be packaged into UK companies to avoid capital gains tax.

The Grosvenor Group of companies feels with some justice that it is being persecuted under the law as it stands. In one case, it owns indirectly 25 per cent. of an EU-resident property investment company and the remaining shares are controlled by EU residents. The European group's strategy is to create a property fund and it will sell 49 per cent. of the shares to a new company established to hold a group of companies that own established retail investment properties in Europe. The price to incoming new investors is determined and the company uses the cash to reduce external debt and finance new property investments.

The company is not controlled by Grosvenor, although Grosvenor can have a place on the board. It is difficult to argue against such a compelling commercial strategy simply on the ground of a domestic UK tax difficulty. Even if Grosvenor objected to the transaction, it would not have any power to prevent it.

Grosvenor has incomplete information from the company in question and has difficulty complying with the reporting requirements for the European company's investments, and little UK tax is payable as a result of the historic structure of the European company. The equivalent UK section 13 base case cost is negligible because the underlying company is to be sold or financed by loans rather than share capital. Therefore, Grosvenor picks up a large UK capital gains tax bill of £10 million and corporation tax at 30 per cent. works out on a euro basis at £10.7 million.

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From the point of view of Grosvenor, the UK holding company, the gain is unrealised because the European company is not making any distribution to shareholders and the cash realised simply pays down debts. The £10 million tax is payable, but no cash flows through to pay it. If Grosvenor sells its interest in the European company to release funds to pay it, there is no credit for the section 13 tax to be set against the tax on the gains of the sale of the European company, which is a double taxation situation.

The problem has been recognised in negotiations to date, but it is a low priority. Aside from general policy objections, the Government might be concerned that the arrangements in the new clause could allow UK residents to shelter gains on UK investment properties by holding them in non-UK resident companies. If so, we could exclude the holding of land in the UK from the qualifying activities.

The bottom line is that the law as it stands can create a double capital gains taxation charge. If the Government do not like our proposal for addressing it, will they produce one of their own?

Mr. Burnett: Do I understand the hon. Gentleman correctly? Is he saying that private companies are merely seeking the same tax treatment as public companies?

Mr. Flight: In essence that is the case, but the arrangement is sparked by the problem that arises when a private group is controlled by a family trust.

Rob Marris: I think that I understand the hon. Gentleman's argument, but it sounds as though he wants to change the law to give a tax break to property speculators who engaged in a tax avoidance vehicle that failed to deliver.

Mr. Flight: With respect, I expected better from the hon. Gentleman, who is a lawyer. That is not the case in the slightest. A UK company that owns minority investments in, for example, European property companies gets a look-through tax treatment and does not suffer double taxation. If the holding is controlled not by individual shareholders but by a trust, it gets exposed to double taxation. I cannot think that the hon. Gentleman, as a man of principle, would want our tax law to impose double taxation on normal commercial investment activities. I would be pleased to take him through the details at another time, but the new clause is not about speculation and tax sheltering. It is merely designed to achieve fair taxation in line with publicly owned companies that have shareholders.

Rob Marris: I am grateful to the hon. Gentleman for his offer of an explanation at a later date, which I may take him up on. Most, if not all, hon. Members would not be in favour of double taxation, but can he explain why a trust exists rather than a regular company in the example that he gave? Is not the trust a tax avoidance measure?

Mr. Flight: No. The hon. Gentleman associates trusts, for some good reasons, with tax avoidance schemes, but many companies—especially family companies—prefer the old-fashioned bona fide use of a trust, and the new

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clause is aimed at them. The legislation was designed to abolish a tax avoidance scheme, which I named the Belgian wheeze. Inadvertently, however, it catches one or two bona fide situations. Some relief has been afforded, but we leave open an unfair double taxation charge.

Mr. Burnett: I assure hon. Members that trusts do not exist solely for the purpose of tax avoidance; in fact, many are set up for the sensible family reasons that have been given.

Rob Marris: I was not trying to suggest that every trust is set up as a tax avoidance vehicle. I was referring specifically to the Grosvenor trust, which, from what was being said, sounded like such a vehicle.

Mr. Burnett: I am not aware of the intricacies of the Grosvenor trust or trusts. All I can tell the hon. Gentleman is that in my time as a practitioner I have set up a great many trusts, invariably for bona fide family reasons such as ensuring succession in a business and, often, the prudent running of a business.

In Committee, we referred to "investment bad, trading good", and I note that the matter will come up later. Investment companies are very important. They employ many individuals, and they facilitate jobs, trading and industry. In an intervention on the hon. Member for Arundel and South Downs (Mr. Flight), I asked why the Bill should prejudice private companies. If the Paymaster General has an explanation for that, I look forward to hearing it.

Dawn Primarolo: I shall deal first with the last point, which is the claim that the Bill discriminates unfairly against private companies compared with public companies in otherwise identical circumstances. It counters the avoidance of UK tax by UK residents who invest through closely controlled companies. Any closely controlled public company will fall within the scope of the Bill, and a private company that is not closely controlled will fall outside it. The Bill draws no distinction between companies according to whether they are public or private; it is the fact that the company is closely controlled that is crucial.

Mr. Burnett: Will the Paymaster General explain whether there is different tax treatment, in the same circumstances, for a closely controlled company and another company, let us say a public one? If so, will she justify it?

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