Dawn Primarolo: In the consultation before the Budget, we received many representations that a consequence of extending the transfer pricing rules to domestic transactions would be to cause many companies to cease to be dormant. As the hon. Gentlemen pointed out, that would cause significant administrative costs.
The Government are sympathetic to the representations, but there are two important constraints on what we can do. First, we must ensure that we do not create uncertainty under European law. We cannot treat dormant companies with a foreign parent less favourably than dormant companies with a UK parent. Secondly, we must ensure that we do not create an opportunity for dormant companies to be used as a conduit for extracting profits from the UK without paying tax. That is by far the greater danger to the corporate tax base, in that it would be possible for a group to transfer income-generating assets to a company and then allow that company to become dormant. Such planning cannot be done if the exemption is limited to companies that are dormant at 1 April 2004. I am sure that neither hon. Gentleman needs to engage in a leap of the imagination to understand that the opportunity to create dormant companies at any time would also create the opportunity to extract profits from the UK without paying tax in the UK.
Mr. Burnett: I think I referred the Paymaster General to the fact that the problem of loss to the Exchequer resulting from use of a post-31 March 2004 dormant company could be avoided if the Government were to introduce a clearance procedure as a precondition for exemption of newly dormant companies.
Dawn Primarolo: This is the problem. Groups might be able to use insolvent companies as a means of washing out tax liabilities in the same way as for companies that became dormant. That is a real problem. I find it a little odd that, in a situation in which there is such a risk to the corporate tax base, the hon. Gentleman, who normally impresses on the Government that they should aim for simplicity and not add complexity, seeks to put more layers into the tax system in order to prevent what he knows will happen without that protection. It seems better not to provide the opportunity in the first place.
The Government's proposals provide that companies that are dormant on 1 April 2004, but not those that subsequently become dormant, satisfy the two constraints that I have identified. The hon. Member for Hertford and Stortford suggested that a reserve power in the amendment might be able to be operated. That is not a practical alternative. A dormant company is not required to provide a return to the Inland Revenue. It would be impossible to police any special rules using a reserve power because the Inland Revenue would never see the information in the first place, unless—this is not provided for in the Bill—we had another battery of arrangements to
Column Number: 119specify when and how it should be notified. We would require all that because, as the hon. Gentleman recognises, there is the potential for dormants to be used to extract profit. It seems much more sensible not to provide the opportunity in the first place.
Mr. Prisk: I fully appreciate what the Paymaster General is saying, although the call is perhaps slightly closer than she suggests. Inevitably, a number of innocent enterprises will be caught. Was any consideration given, before the legislation was prepared, to making the date 1 May, or even 1 June? In other words, does she recognise that the sudden cut-off—there is no time gap: the Bill was published seven days after the date we are discussing—made it very difficult for any enterprise, however innocent, to take advantage of the provision?
Dawn Primarolo: We are not talking about innocents—we are talking about using dormant companies to extract profit without paying tax. Any delay or any period that opened up the possibility of removing profit and therefore escaping UK tax would not be acceptable.
All these routes lead to mischief, not to a practical reason why what the hon. Gentleman proposes is necessary. Why would we knowingly allow in the system an opportunity for mischief and then say, ''Well, we hope that you won't undertake this mischief, but just in case you do we're going to do X, Y and Z''? Why would we have even more complicated rules when hon. Members have already rightly pointed out, only two clauses into this chapter, how complex transfer pricing is in the first place?
The problem with the measure being triggered, as the hon. Gentleman would like, by some sort of reserve power, is deciding when that reserve power would be used. Would it be used only when the Revenue believed mischief was being undertaken? Given that the Board would identify any such practice as mischief, we come back to the same argument. Even if the Government were prepared to allow it, which we are not, there would be huge difficulty in drawing the distinction between cross-border and UK. The uncertainty—the very thing that we are designing out of the system in response to business—would be reinserted in a different dimension with a different set of rules.
The hon. Gentleman has not made a case for the necessity of his proposal. What business function does it provide for? We dealt with dormants in a certain way up until 1 April 2004. There would have been administrative pressure where the companies were dormant, and we were responding to business and trying to be helpful.
The question of insolvency is very important. Insolvency rules serve to protect the position of creditors and other interested parties when a company becomes insolvent. Insolvency is not a reason to relieve a company of transfer pricing requirements; the reverse should be true. Transfer pricing requirements ensure that the transactions between associated enterprises are priced on an arm's-length basis for tax purposes. If insolvent companies within a group were removed from
Column Number: 120transfer pricing requirements, which is what the hon. Gentleman seeks to do through his amendments, there would be opportunities for the group to use them to reduce taxable profits in the UK. As a Minister, I am not prepared to allow the Exchequer risk that goes with that.
I understand the importance of the questions around dormant companies. In the clause, we have responded very positively to business by making sensible arrangements up to 1 April 2004. I am not prepared to take the next step that the hon. Gentleman suggests I might consider, which would be to leave a gap in the rules with the possibility of profit being extracted and escaping UK tax. That is not acceptable, so I hope that he now understands why we chose the dates that we did, and on that basis will refrain from pressing his amendments. If he does not, I will ask my hon. Friends to oppose them should there be a Division.
Mr. Prisk: We have had a useful discussion on an essential element of the rules. I concur with the Paymaster General that certainty is crucial, but I am not clear that the date chosen was the best date for the benefit of business. The debate about amendments Nos. 9 and 10 revealed that the Minister assumed that all business activity in that area is mischief. That is an unfortunate assumption. I understand that it might be the case—who knows, were I to be in her position, I might come to that view. However, it is not the right view.
I accept that lines have to be drawn, but the danger is that that assumption is more revealing about the Government's position on tax avoidance and their confusion between avoidance and evasion than about anything else. However, I stated that the proposals were probing, and I beg to ask leave to withdraw the amendment.
Amendment, by leave, withdrawn.
Mr. Prisk: I beg to move amendment No. 11, in
This probing amendment is essentially about time. The definitions of small enterprise and medium-sized enterprise should be determined by the results of the prior period rather than by reference to the chargeable period in question.
Under the drafting of paragraph 5D of schedule 28AA to the Taxes Act 1988, the definitions of small and of medium-sized enterprises in the Commission's recommendation are amended for the purposes of the rules so that the various tests are applied by reference to the chargeable period in question and not by reference to a prior period.
I am sure that there are many circumstances that Committee members can remember when companies in their constituencies crossed that threshold in the course of an accounting period. Companies may not be aware that they need to maintain the relevant records in preparing documentation on transactions entered into in that period. They will realise that they need to do so in the subsequent period, but perhaps not during that taxable year. That could arise as a
Column Number: 121result of the natural growth of the company, but it might be something else—for example, a takeover.
The provisions of new paragraph 5D amend the definition of small and medium-sized enterprises so that they are determined by reference to the chargeable period in question. As I said, the purpose of the amendment is to recognise that potential confusion and remove it from the Bill.
Mr. Burnett: I, too, have read the brief on this matter that was produced by the Law Society. It is useful and compelling. To protect revenue and to ensure compliance, we will have to use the immediately prior accounting period, as the hon. Gentleman made clear. To use the rules in the existing paragraph 5 would put taxpayer companies in jeopardy of breaking the law when they do not have any idea that that is what they are doing. Companies grow organically and for other reasons, as has been described. It is fair to taxpayer companies to ensure that they can apply their rules and flag up the problem just after an accounting period has ended.
As the Paymaster General knows, it is important that we have a vibrant corporate and corporation tax system. One of the things that I used to be involved in before coming to the House was the acquisition and sale of companies. Having the rules as the Government have outlined would inhibit such transactions because it would provide another hurdle for the company to overcome and to give warranties over when a share sale is being agreed and transacted.
For simplicity's sake—the Paymaster General has always persuaded me that simplicity is frequently if not invariably important, and I am sympathetic to that idea—it would be wiser to take out paragraph 5, as the amendment would do. It is a case of simplification, it would enable the smooth running of the corporation tax system and it would reduce yet another burden on business.
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