House of Commons - Explanatory Note
Income Tax (Trading and Other Income) Bill - continued          House of Commons

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Clause 855: Basis periods for partners' notional businesses

1756.     This clause gives the rules for determining the basis periods for the assessment of a partner's share of the non-trading income of a firm if the firm carries on a trade. It is based on section 111 of ICTA.

1757.     There is no special basis of assessment for a partner's share of the taxed income of a firm, or of the untaxed income of a firm that does not carry on a trade. In those cases, the usual tax year basis applies.

1758.     Subsection (1) gives the general rule that the basis period for the partner's notional business is the same as that for the partner's notional trade.

1759.     Subsections (2) and (3) are similar to clause 852(3) and (5), dealing with notional trades.

1760.     If a firm is formed by a sole trader taking another person into partnership to carry on the same trade, subsection (2) makes it clear that the original trader's notional business starts with the formation of the firm. Similarly, if a firm is dissolved and a partner carries on the same trade alone, subsection (3) makes it clear that the continuing trader is treated as ceasing to carry on a notional business.

1761.     It follows from the rules in clauses 854 and 855 that the income from the partner's notional business is assessed in accordance with the commencement and cessation rules in clauses 199, 200 and 202.

Clause 856: Overlap profits from partners' notional businesses

1762.     This clause sets out a special rule to deal with the possibility that the deduction of overlap profit may produce a loss. It is based on section 111(9) of ICTA.

1763.     A consequence of the application of the trading income basis period rules is that there may be overlap profit (see clause 204) of a partner's notional business.

1764.     Subsection (1) deals with the case where a deduction is made for overlap profit on a change of accounting date (to a date later in the tax year), in accordance with clause 220.

1765.     Subsection (2) deals with the case where a deduction is made for overlap profit on cessation of the firm's actual trade, in accordance with clause 205.

1766.     Subsection (3) gives relief for any excess of overlap profit over the income otherwise to be assessed for the year of the change of accounting date or cessation. This excess would not usually qualify for relief against total income because it is not a trading loss. But this clause ensures that relief is given in that way.

Clause 857: Partners to whom the remittance basis may apply

1767.     This clause gives a special rule for the treatment of the profits of a firm that is managed and controlled outside the United Kingdom. It is based on section 112(1A) of ICTA. The source legislation charges the remittance basis partner's share of the profits of such a firm under Schedule D Case V.

1768.     In most cases, the charge under Case V rather than Case I has no practical effect on the partners' income tax liability. But, if the profits of the firm arise from the carrying on of a trade wholly or partly outside the United Kingdom, an individual who is assessed on the basis of the amount of income received in the United Kingdom (the "remittance basis") is charged only to the extent that the overseas profits are received in the United Kingdom.

1769.     This result is achieved by two rules in section 112(1A) of ICTA which require:

  • computation of the firm's profit as if the trade were carried on by an individual not resident in the United Kingdom; and

  • treatment of any profits arising outside the United Kingdom as arising from a "possession out of the United Kingdom".

1770.     Subsection (2) of the clause reproduces the first ICTA rule. The assumption in ICTA that the trade is carried on by a non-resident individual means that the computation of the firm's profits excludes any profits that arise outside the United Kingdom. This clause does not require that assumption. Instead, this rule is directed specifically at the profits arising in the United Kingdom to produce the same result. The determination of the firm's profits in accordance with clause 849 will involve subsection (2) of that clause (because the partner is resident in the United Kingdom - see subsection (1)(c) of this clause).

1771.     Subsection (3) of the clause reproduces the second ICTA rule. The assumption that the profits arising outside the United Kingdom arise from a "possession out of the United Kingdom" means that the partner's share of those profits may be assessed on the remittance basis. This clause treats the profits as "relevant foreign income" for the purposes of the Bill. So the remittance basis may apply.

1772.     Section 112(1A) of ICTA applies if "any of the partners .. satisfies the Board that he is not domiciled in the United Kingdom..". The quoted words (introduced in 1995) are based on section 65(4) of ICTA as it was until 1996.

1773.     As part of the introduction of Self Assessment, all such references to the Board being satisfied were intended to be removed - a person self-assessing could not know whether the Board were satisfied. So the words in section 65(4) of ICTA were changed, by section 134 of and Schedule 20 to FA 1996. The words became "any person who makes a claim to the Board stating that that he is not domiciled ..".

1774.     The corresponding amendment to section 112 of ICTA was not made. It is clear that section 112(1A) of ICTA should apply to exactly the same category of person as section 65(4) of ICTA.

1775.     This clause applies if a partner is an individual who satisfies the conditions in clause 831. So the rule for a non-domiciled partner is expressed in the same way as the rule for non-domiciled individuals generally.

Clause 858: Resident partners and double taxation agreements

1776.     This clause ensures that a UK resident partner's share of the income of a foreign firm remains liable to United Kingdom tax even though the income of the firm as a whole is exempt from United Kingdom tax in accordance with a double taxation agreement. It is based on section 112(4) and (5) of ICTA.

1777.     The business profits article of the United Kingdom/Jersey double taxation arrangement exempts the profits of a Jersey firm from United Kingdom tax. In the case of Padmore v CIR (1989), 62 TC 352 CA 12, the Court of Appeal decided that the exemption extended to the share of the profits arising to a United Kingdom resident individual. The rules in section 112(4) and (5) of ICTA were enacted in 1987 to remove the exemption.

12 STC [1989] 493

1778.     Subsection (1) sets out the type of individual and firm with which the clause is concerned. It goes on to identify the sort of exemption from tax that was considered in the Padmore case.

1779.     For United Kingdom tax purposes, if it is necessary to consider where a firm is resident, the question is likely to be decided by the place where the firm's business is controlled and managed. But it is possible that, under foreign law, a firm may be considered to be resident elsewhere, for example, by reference to where the firm was established. So the clause uses both the "control and management" test and the "resides" test.

1780.     Subsection (2) makes it clear that the clause does no more than remove any exemption under a double taxation arrangement. It does not deny other reliefs, such as tax credit relief. See Change 145 in Annex 1.

1781.     Subsection (3) deals with United Kingdom tax credits. A double taxation arrangement may give a non-resident person an entitlement to payment of a tax credit on a distribution by a United Kingdom company. The entitlement is restricted to the share of the distribution that arises to a United Kingdom resident partner.

Clause 859: Special provisions about farming and property income

1782.     This clause clarifies the position of firms that carry on a farming trade or property business. It is based on sections 15 (paragraph 1(3) of Schedule A), 53(2) and 65A(4) of ICTA.

1783.     In section 53(2) of ICTA there is a rule that all farming carried on in the United Kingdom by a person is a single trade. The section refers to a "particular person or partnership or body of persons".

1784.     In section 15 of ICTA there is a similar rule that all property income activity carried on by a person forms a single property business. Paragraph 1(3) of Schedule A refers to a "particular person or partnership". Section 65A(4) of ICTA, which deals with overseas property businesses, also refers to a "particular person or partnership".

1785.     Subsection (1) is the rule that all farming carried on by a firm is a single trade. The subsection also makes it clear that the firm's single farming trade is separate from any farming trade carried on personally by a partner in the firm.

1786.     Subsections (2) and (3) are the corresponding rules for UK property businesses and overseas property businesses.

Clause 860: Adjustment income

1787.     This clause sets out the rules for taxing adjustment income when a trade is carried on in partnership. It is based on paragraph 13 of Schedule 22 to FA 2002.

1788.     Subsection (1) provides that there can be a change of basis at the same time as a partial change in the membership of the firm.

1789.     Subsection (3) ensures that the adjustment income rules are applied to the firm, rather than to the individual partners.

1790.     Subsection (7) ensures that the special rules in this clause apply instead of the main partnership rules. In particular, the income is allocated between the partners in accordance with subsection (2) instead of clause 850. And the charge is on income treated as arising on the last day of the new period of account in accordance with clause 232 instead of by reference to the basis period rules in clauses 852 and 853.

Clause 861: Sale of patent rights: effect of partnership changes

1791.     This clause sets out what happens when there is a sale of patent rights by a trader and there is change in the membership of any firm that carries on the trade. It is based on section 558 of CAA.

1792.     The rules for intellectual property are split:

  • the rules that give capital allowances are in CAA;

  • the rules that charge non-trading profits from the sale of patent rights are in Chapter 2 of Part 5 of this Bill; and

  • the special rules that apply to firms are set out in this clause and clause 862.

1793.     If a trader receives a sum from the sale of patent rights in the ordinary course of the trade the sum is a trade receipt. In that case, it is not a "capital sum" and section 524(1) of ICTA ensures that the special rules do not apply. In this Bill the treatment is the same because clause 575(1) ensures that a charge under Part 2 of this Bill takes precedence over a charge under Part 5 of this Bill (which includes income from intellectual property in Chapter 2 of that Part).

1794.     If a trader receives a capital sum from the sale of patent rights, the sum is excluded from the calculation of the trade profits by the general rule that excludes capital receipts. Instead, the sum is separately charged to income tax under clause 587. The profit on the sale is charged to tax over six years. But the seller may elect to have the sum charged in the year in which the proceeds of sale are received. Or the charge may be spread in accordance with clause 591 or 592.

1795.     Subsection (2) sets out the "tax condition" for the clause to apply. The condition is that the charge on the proceeds from the sale of patent rights is spread over several tax years.

1796.     Subsection (3) sets out the "partnership condition" for the clause to apply. The condition is that the trade that gives rise to the sale of patent rights is carried on in partnership, either at the time of the sale or at any time during the tax spreading period. In this case the charge under section 524 of ICTA "falls to be made on two or more persons jointly" (section 525(3) of ICTA).

1797.     Subsection (4) sets out the "non-cessation condition" for the clause to apply. The condition is that the there is not a complete change in the persons carrying on the trade. If there is such a change, clause 862 applies instead.

1798.     Subsection (5) sets out the what happens if all the conditions in the previous three subsections are met: the charge on the proceeds of sale of the patent rights is made on the current partners in the firm. This subsection is based on section 558(3) of CAA.

1799.     Subsection (6) makes clear the assumptions on which the charge on the current partners is to be calculated. All the current partners step into the shoes of the persons who were partners at the time of the original sale.

Clause 862: Sale of patent rights: effect of later cessation of trade

1800.     This clause sets out what happens when there has been a sale of patent rights to which the previous clause applied and there is a complete change in the persons carrying on the trade. It is based on section 525 of ICTA.

1801.     Subsection (1) sets out the conditions for the clause to apply.

1802.     Subsection (1)(b) is the condition that the current charge on the proceeds from a sale of patent rights is made on a firm. It is possible for an individual to "inherit" such a charge from a firm as a result of clause 861. In that case when the individual ceases to carry on the trade the assessment of the remaining instalments of the charge is not disturbed.

1803.     Subsection (1)(d) is the condition that there is a complete change in the persons carrying on the trade. If there is a partial change, clause 861 applies.

1804.     Subsection (2) is the main rule that when the firm ceases to carry on the trade the remaining tax charges are "rolled up" in the last year of the trade.

1805.     Subsection (3) sets out how the "rolled-up" charge is split between the current partners on cessation of the trade.

1806.     Subsections (4) to (6) allow an election to have the remaining tax charge spread evenly over the years since the original sale of patent rights.

1807.     The time limit for the election is the same as that in clause 593 and is brought into line with the time limit for other elections in this Bill. See Change 104 in Annex 1.

1808.     This clause does not specify that the election is to be made to "the inspector". Clause 878(4) draws attention to the rules in TMA, which apply for the purposes of this Bill. Those rules require elections to be made to "an officer of the Board".

Clause 863: Limited liability partnerships

1809.     This clause contains the rules that treat limited liability partnerships ("LLPs") in the same way for tax purposes as ordinary partnerships ("firms" in this Bill). It is based on section 118ZA of ICTA.

1810.     The Limited Partnerships Act 1907 established "limited partnership". It built on the Partnership Act 1890 and established a class of partner whose liability for the debts of the firm did not extend beyond the partner's contribution to the firm. But there had also to be at least one general partner whose liability was not so limited and the firm was not a separate legal person.

1811.     The Limited Liability Partnerships Act 2000 created a new form of legal entity, a limited liability partnership. It is a body corporate with legal personality separate from its members. In many ways, LLPs are treated for non-tax purposes in the same way as companies. In particular, there are requirements as to accounts and audit. Members of an LLP may be subject to disqualification in the same way as directors. And various provisions relating to insolvency and winding up apply to LLPs as they do to companies.

1812.     A first version of section 118ZA of ICTA was inserted by the Limited Liability Partnerships Act 2000. FA 2001 replaced it with a new section. Those Acts also introduced special rules (which are not in this Bill) for:

  • losses;

  • capital gains;

  • relief for interest; and

  • some types of investment vehicle.

1813.     Subsection (3) ensures that the basic rule in subsection (1) continues to apply to an LLP if the LLP would otherwise temporarily fail to qualify for treatment as an ordinary firm on account of the LLP:

  • ceasing to carry on a trade with a view to profit; or

  • being wound up.

Part 10: General provisions

Chapter 1: Introduction

Clause 864: Overview of Part 10

1814.     This clause introduces Part 10. It is new.

Chapter 2: General calculation rules etc.

Overview

1815.     Chapter 2 contains a number of generally applicable rules modelled on similar rules in Parts 2 and 3 of this Bill. They apply to income charged to income tax other than income within those Parts.

1816.     These rules are included here to save repetition at numerous points in the Bill. Some of the rules apply provisions from the Parts 2 and 3 equivalent rules, rather than repeat them here. Clause 1 signposts at the beginning of the Bill that there are general calculation rules in this Part.

Clause 865: Unpaid remuneration: non-trades and non-property businesses

1817.     This clause is based on section 43 of FA 1989. That section applies where profits or gains are to be "charged under Schedule D for a period of account..". Profits or gains may be calculated for a period of account in respect of a business which is neither a trade, profession or vocation nor a property business (for example, a business whose income is charged under Chapter 3 of Part 5 of this Bill (films and sound recordings: non-trade businesses)).

1818.     The clause uses "profits or other income", as do other clauses in this Chapter, rather than "profits or gains", to define the scope of the rule. See the commentary on the omission of "gains" in the overview to Chapter 2 of Part 2 of this Bill.

1819.     The clause alters the claim procedure. See Change 8 in Annex 1.

1820.     See the related commentary on clauses 36 and 37 in Part 2 of this Bill.

Clause 866: Employee benefit contributions: non-trades and non-property businesses

1821.     This clause is based on Schedule 24 to FA 2003. The provisions in that Schedule apply where "a calculation is required to be made for tax purposes of a person's profits for any period..". Profits may be calculated for a period in respect of a business which is neither a trade nor a property business.

1822.     This clause applies clauses 39 to 44 in Part 2 of this Bill in calculating the profits of a business for the purpose of any charge which is not in Parts 2 or 3 of this Bill. For further detail, see the commentary for those clauses.

Clause 867: Business entertainment and gifts: non-trades and non-property businesses

1823.     This clause is based on section 577 of ICTA. That section denies a deduction for certain expenses "in computing profits chargeable to tax under Schedule D". Profits chargeable to tax under Schedule D include profits of a business which is neither a trade, profession or vocation nor a property business. And section 577(7)(b) of ICTA indicates that references to a trade, for the purposes of the section, include references to a business.

1824.     Although in theory the clause is applicable to all profits or other income, other than profits charged in Parts 2 and 3 of this Bill, some of which are not charged under Schedule D in the source legislation, the application of the clause is qualified. Subsection (1) restricts its scope to profits or other income "which arise from the carrying on of a business". In effect, this puts the scope of the rule in line with that of the source legislation.

1825.     This clause applies the same rules regarding business entertainment and gifts as are in clauses 45 to 47 in Part 2 of this Bill. For further detail, see the commentary for those clauses.

1826.     Subsection (5) contains a number of exceptions, using clauses 46 to 47 for this purpose. Clause 47(5) makes an exception for gifts to charities and named bodies. The source legislation, section 577(9) of ICTA, limits this exception to the computation of profits under Schedule D Cases I and II, that is, to income calculated under rules rewritten in Part 2 of this Bill. It was not intended that the exception be applied narrowly to the disadvantage of a business other than a trade or property business. This subsection extends the exception to such businesses. See Change 146 in Annex 1.

Clause 868: Social security contributions: non-trades etc.

1827.     This clause prevents a deduction for most social security contributions in calculating profits or income. It is based on section 617 of ICTA.

1828.     The rule is that there can be no deduction for a taxpayer's own social security contributions. The clause achieves this by prohibiting a deduction for any contributions and making an exception for contributions that an employer makes for employees.

1829.     The rule in section 617 of ICTA applies generally for tax purposes. The Bill splits the rule.

  • This clause sets out the income tax rule for non-trading income charged to tax by this Bill.

  • Clause 53 sets out the income tax trading income rule (applied also to property income by clause 272).

  • A new section 360A of ITEPA is introduced by this Bill (see Part 2 of Schedule 1) to set out the rule for employment income.

  • Section 617 of ICTA as consequentially amended (see Part 1 of Schedule 1) continues to apply for corporation tax.

Clause 869: Penalties, interest and VAT surcharges: non-trades etc.

1830.     This clause contains the general rule that tax penalties and interest are not to be deducted for tax purposes. It is based on section 90 of TMA and section 827 of ICTA.

1831.     The clause brings together all the rules prohibiting a deduction for penalties, interest and surcharges imposed by statute. So it deals with interest on unpaid income tax (imposed by TMA) in the same clause as the penalties, interest and surcharges relating to the indirect taxes that are dealt with in section 827 of ICTA.

1832.     The table in subsection (4) sets out the specific statutory references because a general description of the penalties etc would not be precise enough. But the second column of the table is a description of the tax to indicate what is involved.

Clause 870: Crime-related payments: non-trades and non-property businesses

1833.     This clause is based on section 577A of ICTA. That section denies a deduction for certain crime-related expenses "in computing profits chargeable to tax under Schedule D.." Profits chargeable to tax under Schedule D include profits of a business which is neither a trade, profession or vocation nor a property business.

1834.     The clause applies to profits or other income charged other than in Parts 2 and 3 of this Bill. Some of those profits or other income are not charged under Schedule D in the source legislation. But the prohibition is not thought to have any practical effect on profits or other income which are not charged under Schedule D in the source legislation. The scope of the prohibition is therefore unchanged.

1835.     See the related commentary for clause 55 in Part 2.

Clause 871: Apportionment etc. of miscellaneous profits to tax year

1836.     This clause is based on section 72 of ICTA. That section applies where it is necessary to apportion profits or losses for a period of account between tax years "in the case of any profits or gains chargeable under Case I, II or VI of Schedule D.." The application of section 72 of ICTA is therefore not limited to profits or losses of a trade, profession or vocation.

1837.     The clause applies where income is chargeable under a provision to which section 836B of ICTA applies (that section is inserted by Schedule 1 to this Bill). Although section 836B of ICTA does not apply to relevant foreign income, subsection (2) of this clause qualifies the reference to that section so that the benefit of the apportionment rules extends to such income (that is, to income formerly charged under Schedule D Case IV or V in the source legislation). See Change 147 in Annex 1.

1838.     The clause uses "profits" rather than "profits or gains" to define the scope of the rule. See the commentary on the omission of "gains" in the overview to Chapter 2 of Part 2 of this Bill.

1839.     Subsection (5) reflects the practice of making the apportionment by reference to a factor other than a strict count of days, if it is reasonable to do so and the alternative basis of apportionment is applied consistently. The subsection makes clear that the option to choose an alternative basis of apportionment is exercisable only by the taxpayer (not the Inland Revenue). See Change 52 in Annex 1.

1840.     See the related commentary for clause 203 in Part 2.

 
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