Clause 372: Building society dividends

69.     This clause treats building society dividends as interest. It is based on section 477A of ICTA.

70.     Subsection (1) provides that any building society dividend is to be treated as paid by way of interest for the purposes of this Bill. See Change 80 in Annex 1. The wording "for the purposes of this Act" is necessary here since building society dividends are not treated as interest for all income tax purposes. They are treated as dividends for the purposes of deducting tax, by virtue of regulations made under section 477A(1) of ICTA (regulation 3(1) of the Income Tax (Building Societies) (Dividends and Interest) Regulations 1990 SI 1990/2231) or by virtue of section 349(3A) of ICTA.

Clause 373: Open-ended investment company interest distributions

71.     This clause and the two clauses that follow provide investors, who are liable to income tax, with the information required to determine their taxable income from the open ended investment company (OEIC). The tax provisions relevant to the OEIC, which is liable to corporation tax, are not in this Bill.

72.     This clause is based on section 468L of ICTA and the Open-ended Investment Companies (Tax) Regulations 1997 SI 1997/1154. These regulations provide that the tax treatment of investors (shareholders) in an OEIC generally follows the tax treatment of investors (unit holders) of an authorised unit trust (AUT). For an outline of the treatment of investors in an AUT see the commentary on clause 376.

73.     The clause provides for amounts that are not interest and would otherwise be something else to be treated as interest received by the investors. The amounts so treated are charged by clause 369 and are subject to the deduction of tax rules in section 349 of ICTA as amended by section 468L(4) of ICTA.

Clause 374: Date when interest payments under section 373 made

74.     This clause is based on sections 468H and 468L of ICTA and the Open-ended Investment Companies (Tax) Regulations 1997 SI 1997/1154. It applies to the amounts treated as interest.

Clause 375: Interpretation of sections 373 and 374

75.     This clause is based on sections 468H and 832 of ICTA and the Open-ended Investment Companies (Tax) Regulations 1997 SI 1997/1154.

76.     The regulations contained in SI 1997/1154, in so far as they apply to invoke the AUT rules for the tax charge on OEIC investors liable to income tax, are rewritten in the preceding clauses. The regulations remain in place in respect of investors liable to corporation tax and all other aspects concerning OEICs. A saving has been made in Part 5 of Schedule 2 of this Bill to preserve the power in section 152 of FA 1995 so that regulations may continue to be made for achieving any purpose that could be achieved by such regulations before enactment of these clauses.

Clause 376: Authorised unit trust interest distributions

77.     This clause and the two clauses that follow provide investors, who are liable to income tax, with the information required to determine their taxable income from the authorised unit trust (AUT). The tax provisions relevant to the AUT are not in this Bill. This is because the AUT trustees are treated as a company liable to corporation tax under section 468(1)(a) of ICTA.

78.     This clause is based on section 468L of ICTA which is part of the special tax rules for AUTs. These rules provide that AUTs are treated for tax purposes as though all of the money shown in their distribution accounts, as available for distribution or in the case of investors holding accumulation units, for adding to the capital value of their share of the fund, is actually paid out to unit holders. This means that the investors are taxed when they receive the benefit of the distribution made by the AUT rather than when they sell their units.

79.     The investors are treated as receiving a payment of interest or a dividend depending on how the AUT has allocated the money in its accounts. There are various rules which determine how and when this allocation can be made by the AUT.

80.     The amounts treated as interest are charged by clause 369 and are subject to the deduction of tax rules in section 349 of ICTA as amended by section 468L(4) of ICTA. The amounts treated as dividends are dealt with in clause 389.

Clause 377: Date when interest payments under section 376 made

81.     This clause is based on sections 468H and 468L of ICTA. It applies to the amounts treated as interest.

Clause 378: Interpretation of sections 376 and 377

82.     This clause is based on sections 468H and 832 of ICTA.

Clause 379: Industrial and provident society payments

83.     This clause provides that share interest from industrial and provident societies is treated as interest. It is based on section 486 of ICTA.

84.     Section 486(4) of ICTA provides that share or loan interest is chargeable under Schedule D Case III. The definition of "share interest" in section 486 of ICTA is "any interest, dividend, bonus or other sum..". This clause treats the dividend, bonus and other sums as interest. See Change 81 in Annex 1.

85.     Subsection (2) to (5) are definition subsections. The reference to "the Department of Agriculture for Northern Ireland" in section 486(12) of ICTA is rewritten in subsection (5) as the "the Department of Agriculture and Rural Development", its current title.

86.     The closing words of section 486(12) of ICTA ("and references to the payment of share interest or loan interest include references to the crediting of such interest") are not rewritten. They are relevant to the rules within that section on the deduction of tax rather than the charge.

Clause 380: Funding bonds

87.     This clause provides for an issue of funding bonds in respect of a liability to pay interest to be treated as a payment of interest. It is based on section 582 of ICTA.

88.     There is one specific situation where a funding bond is chargeable to tax under Schedule D Case VI rather than Schedule D Case III. Section 582(2)(a) of ICTA provides that where funding bonds are issued some bonds have to be retained on account of income tax. However, section 582(2)(b) of ICTA provides that where it is "impracticable" to do this the recipient is chargeable to tax under Schedule D Case VI on the amount of interest treated as having been paid by the issue of the bonds. This clause charges this income also as interest for income tax purposes. One consequence is that all funding bond interest will be included in what was Schedule D Case III income in section 1A of ICTA as consequentially amended. See Change 82 in Annex 1.

89.     Relief for losses under the former Schedule D Case VI provisions will still be available under section 392 of ICTA.

90.     Section 582(1) of ICTA treats the issue of funding bonds as a payment of interest and they are taxed accordingly. The deemed interest is equal to the value of the bond at the time of issue. This clause clarifies that the value which applies is the market value of the bond and not its nominal value. If the value were the nominal value a change in value could only occur in the unlikely circumstance of a change in the face value of the bond after issue. Moreover, tax could be easily avoided by issuing bonds with a low face value but repaying at a premium.

Clause 381: Discounts

91.     This clause treats discounts taxed under Schedule D Case III(b) as interest. It is based on section 18 of ICTA.

92.     Although section 18 of ICTA includes discounts as a separate category of charge without treating them as interest, this clause provides for them to be charged as if they were interest. See Change 83 in Annex 1.

Chapter 3: Dividends etc. from UK resident companies etc.

Introduction

Clause 382: Contents of Chapter

93.     This clause explains the scope of the Chapter. The Chapter contains the charge to tax on dividends and other distributions (and amounts treated as dividends) from companies resident in the United Kingdom. It also contains special provisions about dividends paid in respect of shares awarded under approved share incentive plans ("SIPs"). And, it contains provisions about tax credits and deduction of tax.

94.     Exemptions from the charge to tax under this Chapter are signposted in subsection (3). Section 498 of ITEPA is part of the SIP code (see further the commentary on clause 392 and the overview to the SIPs provisions). It provides that a person participating in an approved SIP is not liable to income tax if dividend shares cease to be subject to the plan and the participant is a "good leaver". In the source legislation, section 498 of ITEPA is expressed as a proviso to section 251C of ICTA (see section 251C(6) of ICTA). But as the charge to tax in respect of all dividends and other distributions of UK resident companies is under this Chapter, section 498 of ITEPA is signposted as an exemption from the tax charge under this Chapter.

95.     Subsection (4) replicates the position under the source legislation by ensuring that stock dividends are taxed under Chapter 5 of Part 4 of this Bill and not under this Chapter. (Despite their name, they do not count as dividends for the purposes of Schedule F. See further the commentary on Chapter 5 of Part 4 of this Bill.)

96.     See the commentary on Part 1 of Schedule 1 for an explanation of the repeal of Schedule F.

Clause 383: Charge to tax on dividends and other distributions

97.     This clause charges to tax dividends and other distributions from UK resident companies. It is based on Schedule F in section 20 of ICTA.

98.     The clause charges to tax "dividends and other distributions". The expression "distribution" is not defined in the Bill except by reference to section 832(1) of ICTA (see the index of defined expressions in Part 2 of Schedule 4 to this Bill).

99.     The main reason for not rewriting "distribution" in this Bill is the importance of the expression in a corporation tax context because, for example, distributions of companies resident in the United Kingdom are not taken into account in computing profits for corporation tax purposes (section 208 of ICTA) and do not give rise to a tax deductible expense for the distributing company (section 337A of ICTA). The expression therefore needs to be retained in a corporation tax context. Rewriting it in an income tax context would mean maintaining similar but not identical provisions for different purposes (some of the provisions - for example, section 209(5) to (7) of ICTA - are not relevant for income tax purposes). This is not thought to be straightforward or convenient for users of the legislation.

100.     Section 20(1) paragraph 1 of ICTA charges to tax all dividends and other distributions. This is subject to section 95(1A)(a) of ICTA. Section 95(1A)(a) of ICTA provides that tax is not charged under Schedule F. Instead, it is charged under Schedule D, Case I or II. Clause 383 does not explicitly rewrite this proviso. Instead, "Subject to section 95(1A)(a)" is dealt with by clause 366(1) which gives charging priority to Chapter 2 of Part 2 of this Bill. So a distribution made by a UK resident company which is a receipt of a trade is charged to tax under Part 2 of this Bill and not under this Chapter.

101.     The charge to tax under Schedule F in the source legislation is also subject to section 171(2) of FA 1993 (Lloyd's underwriters: taxation of profits and allowance of losses) (see section 20(2) of ICTA). So again the tax charge in the source legislation is Schedule D Case I and not Schedule F. But section 171(2) of FA 1993 additionally provides that the amount of the profits arising from assets in an ancillary trust fund is nevertheless calculated under the relevant Schedule or Case. This is rewritten in clause 366(1) which gives charging priority to Chapter 2 of Part 2 of this Bill and clause 2(4) which ensures that the calculation can be made under this Chapter.

102.     Subsections (2) and (3) confirm that the distribution is regarded as income for all income tax purposes even if it would otherwise be treated as capital (a capital dividend is a distribution - see section 209(2)(a) of ICTA).

Clause 384: Income charged

103.     This clause sets out the amount charged to tax and is based on section 20(1) paragraphs 1 and 2 of ICTA. The amount charged is the amount or value of the dividends paid and distributions made in the tax year. But if the recipient of the distribution is entitled to a tax credit, the amount charged is the amount or value of the distribution plus the tax credit (see subsection (3)).

104.     Dividends are treated as paid for the purposes of the Corporation Tax Acts "on the date when they become due and payable, except in so far as Chapter III of Part XII makes other provision for dividends treated as paid by virtue of that Chapter" (see section 834(3) of ICTA).

105.     The "Corporation Tax Acts" means the enactments relating to the taxation of the income and chargeable gains of companies and company distributions (including provisions relating to income tax) (see section 831(1) of ICTA). Chapter III of Part XII of ICTA specifies the date on which dividends which an authorised unit trust is treated as paying are paid. So in all other cases the date on which a dividend is paid is the date on which the dividend becomes due and payable.

106.     The date when a final dividend becomes due and payable is usually established by a resolution of the directors or the members. The dividend becomes due when the date on which it is expressed to be payable arrives. Only then is payment enforceable. In the case of a final dividend where a date for payment is not specified, an immediately enforceable debt is created so that the date of declaration is the due and payable date.

107.     An interim dividend can be varied and rescinded at any time before payment and can therefore only be regarded as "due and payable" when the date for payment arrives.

108.     The main case law authority is Potel v CIR (1970), 46 TC 658 HC which indicates that the declaration of a dividend by a company and its payment are two separate matters.

109.     So a dividend is paid for income tax purposes on the date on which payment may be enforced.

Clause 385: Person liable

110.     This clause states who is liable for any tax charged.

111.     Under the source legislation there is no provision expressly stating who is liable for the tax charged. Although section 20(1) paragraph 1 of ICTA makes it clear that the charge to tax encompasses all distributions of a UK resident company made in a tax year, and includes a reference to the recipient, it does not actually specify the person liable.

112.     The person liable can however be deduced from the legislation as a whole (and this has been reflected in subsection (1)).

113.     Section 20(1) of ICTA refers to recipients of distributions and persons entitled to tax credits. Paragraph 1 of section 20(1) of ICTA provides that distributions are regarded as income "..however they fall to be dealt with in the hands of the recipient"; paragraph 2 of that section provides that where "..a person is entitled to a tax credit" in respect of a distribution it is the aggregate of the distribution and the tax credit which is taxed.

114.     Section 231(1) of ICTA (tax credits for certain recipients of qualifying distributions) provides that a UK resident individual receiving a qualifying distribution is entitled to a tax credit. And section 232 of ICTA (tax credits for non-UK residents) refers to distributions "received" by certain individuals. Section 231(4) of ICTA deals with the case where a distribution "is, or falls to be treated as, or under any provision of the Tax Acts is deemed to be, the income of a person other than the recipient", so that other person is treated as receiving the distribution for the purposes of section 231 of ICTA. So, section 231(4) of ICTA suggests that where the distribution actually belongs to someone other than the recipient, or under any provision of the Tax Acts is treated as belonging to someone other than the recipient, that other person is liable for the tax charged.

115.     Section 209 of ICTA is the main provision which defines the term "distribution". Section 209(1) of ICTA provides that "The following provisions of this Chapter, together with section 418 of ICTA, shall, subject to any express exceptions, have effect with respect to the meaning of "distribution" and for determining the persons to whom certain distributions are to be treated as made ..".

116.     Where an asset or liability is transferred by a company to a member, section 209(4) of ICTA requires an amount to be treated as a distribution made to the member.

117.     Distributions are made, in most circumstances, to shareholders. For the purposes of Part 6 of ICTA (company distributions, tax credits etc) section 254(12) of that Act regards something done "in respect of a share" as being done to the shareholder, or to someone who has at a particular time been the shareholder. This suggests that someone to whom a distribution is treated as made for the purposes of Part 6 of ICTA is liable.

118.     The definition of distribution is extended by section 418(1) of ICTA to include any amount which is required to be treated as a distribution by section 418(2) of ICTA. Under section 418(2) of ICTA, where a close company incurs expense in providing a benefit or facility for a participator "the company shall be treated as making a distribution to him of an amount equal to so much of that expense as is not made good to the company". While it does not explicitly identify the person liable in respect of the distribution, in practice the participator is regarded as the person liable.

119.     So, while there is no express person liable provision (as there is for Schedule D for example), there are provisions covering:

• the person to whom a distribution is made or to whom it is treated as made for the purposes of Part 6 of ICTA - sections 209(1) and (4), 254(12) and 418(2) of ICTA;

• the person receiving a distribution - sections 20(1)1, 231(1) and (4) and 209(4) of ICTA;

• the person entitled to the distribution - sections 20(1)2 and 231(4); and

• the person to whom the distribution, under any provision of the Tax Acts, is treated as belonging (where that person is not the recipient) - section 231(4) of ICTA.

120.     A provision stating who is liable for any tax charged on distributions from UK resident companies needs to cover all these possibilities save the last one. If a distribution is treated under any provision of the Tax Acts as the income of a person other than the recipient, that legislation will provide who is liable for the tax.

Clause 386: Open-ended investment company dividend distributions

121.     This clause and the two clauses that follow provide investors, who are liable to income tax, with the information required to determine their taxable income from the open ended investment company (OEIC). The tax provisions relevant to the OEIC, which is liable to corporation tax, are not in this Bill.

122.     This clause is based on section 468J of ICTA and the Open-ended Investment Companies (Tax) Regulations 1997 SI 1997/1154. These regulations provide that the tax treatment of investors (shareholders) in an OEIC generally follows the tax treatment of investors (unit holders) of an authorised unit trust (AUT). For an outline of the treatment of investors in an AUT see the commentary on clause 376.

123.     The clause provides for amounts that are not dividends and would otherwise be something else to be treated as dividends received by the investors. The amounts so treated are charged by clause 383 and the provisions about tax credits or tax being treated as paid at clauses 397 to 399 will apply as appropriate.

Clause 387: Date when dividends paid under section 386

124.     This clause is based on sections 468, 468H and 468J of ICTA and the Open-ended Investment Companies (Tax) Regulations 1997 SI 1997/1154. It applies to the amounts treated as dividends.

Clause 388: Interpretation of sections 386 and 387

125.     This clause is based on sections 468H and 832 of ICTA and the Open-ended Investment Companies (Tax) Regulations 1997 (SI 1997/1154).

126.     The regulations contained in SI 1997/1154, in so far as they apply to invoke the AUT rules for the tax charge on OEIC investors liable to income tax, are rewritten in the preceding clauses. The regulations remain in place in respect of investors liable to corporation tax and all other aspects concerning OEICs. A saving has been made in Part 5 of Schedule 2 of this Bill to preserve the power in section 152 of FA 1995 so that regulations may continue to be made for achieving any purpose that could be achieved by such regulations before enactment of these clauses.

Clause 389: Authorised unit trust dividend distributions

127.     This clause and the two clauses that follow provide investors, who are liable to income tax, with the information required to determine their taxable income from the authorised unit trust (AUT). The tax provisions relevant to the AUT are not in this Bill. This is because the AUT trustees are treated as a company liable to corporation tax under section 468(1)(a) of ICTA.

128.     This clause is based on section 468J of ICTA which is part of the special tax rules for AUTs. For an outline of the treatment of investors in an AUT see the commentary on clause 376.

129.     The amounts treated as dividends received by the investors are charged by clause 383 and the provisions about tax credits or tax being treated as paid at clauses 397 to 399 will apply as appropriate.

Clause 390: Date when dividends paid under section 389

130.     This clause is based on sections 468H and 468J of ICTA. It applies to the amounts treated as dividends.

Clause 391: Interpretation of sections 389 and 390

131.     This clause is based on sections 468H and 832 of ICTA.

Shares in approved share incentive plans ("SIPs")

Overview

132.     Clause 392 and the following four clauses are based on sections 251A to 251C of ICTA which are part of the legislation relating to SIPs. The SIPs legislation was originally contained in Schedule 8 to the FA 2000 (introduced by section 47 of FA 2000) and was rewritten in ITEPA. The majority of the SIP code is contained in Chapter 6 of Part 7 of and Schedule 2 to ITEPA.

133.     The SIP code is designed to encourage employee share ownership. The core of the SIP code is that a company establishes a share incentive plan. Under the plan various types of share can be acquired or awarded - free shares, partnership shares and matching shares. In addition, scheme participators may, with the dividends paid on their shares, acquire "dividend shares".

134.     The shares awarded or acquired under the plan are held on behalf of the scheme participant by the trustees of the scheme. Therefore, any dividend paid by the company on those shares is paid to the trustees.

135.     The participant may choose (or the company may require) that all cash dividends paid on the shares be reinvested in further shares. If so, the cash dividend is used by the trustees of the scheme to acquire further shares. Those shares are called dividend shares.

136.     Section 493 of ITEPA (which is rewritten as clause 770(2)(a)) provides that a scheme participant is not liable to income tax on the amount applied by the trustees in acquiring dividend shares on the participant's behalf.

137.     But a tax charge may arise if the dividend shares subsequently cease to be subject to the approved SIP. The special rules applying when dividend shares cease to be subject to the plan are rewritten in clause 394.

138.     If the trustees cannot reinvest the cash dividend either because the amount of the cash dividend is not sufficient to acquire a share or because there is an amount remaining after acquiring shares, the trustees may keep the cash dividend and carry it forward with a view to reinvestment at a later date (see paragraph 68(2) of Schedule 2 of ITEPA). In that case, section 496 of ITEPA (rewritten as clause 770(1)(b)) provides that the participant is not liable to income tax in respect of the amount of the cash dividend held by the trustees.

139.     But if the trustees subsequently pay over the cash dividend to the participant, the tax charge may revive. The special rules applying when the cash dividend held by the trustees is paid over to the participant is rewritten in clause 393.

Clause 392: SIP shares: introduction

140.     This clause introduces the special rules about SIPs. It is based on section 251A of ICTA.

141.     Subsections (2) to (6) ensure that clauses 393 to 395 only apply if the participant has benefited from the tax advantages applying to an approved SIP. Those tax advantages apply to an individual who is chargeable to tax under Part 2 of ITEPA in respect of eligible employment (as defined in subsection (4)) or, if the shares were awarded before ITEPA came into force, under Schedule E.