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

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In principle, this change is in taxpayers' favour so far as it relates to sections 231(3) and 233(1) of ICTA and is adverse to some taxpayers so far as it relates to section 233(1A) of ICTA. But it is expected to have no practical effect as it is in line with current practice.

Change 85: Stock dividends from UK resident companies: the net amount of stock dividends: clause 412

This change relates to the simplification of the rules concerning the net amount of stock dividends.

Under section 249(4) of ICTA an individual is taxed on "income of an amount which, if reduced by an amount equal to income tax on that income at the Schedule F ordinary rate .., would be equal to the appropriate amount in cash". The expression "appropriate amount in cash" is defined in section 251(2) to (4) of ICTA. This covers a variety of possible situations.

Where the stock dividend is simply chosen in lieu of an ordinary cash dividend (that is, the stock dividend falls within section 249(1)(a) of ICTA), "the appropriate amount in cash" is the amount of the alternative cash dividend, unless that is substantially different from the share capital's market value. If it is substantially different (whether more or less), "the appropriate amount in cash" is that market value (see section 251(2)(a)(i) and (b) of ICTA). Statement of Practice A8 explains that the Inland Revenue generally regard a difference of 15% of the market value as substantial, but are normally prepared to allow a difference of 17%.

Where the stock dividend is bonus share capital (that is, the stock dividend falls within section 249(1)(b) of ICTA), the situation is more complicated.

If there is a related cash dividend (a separate cash dividend, payable in respect of a different class of shares in the company, the amount of which determines, or is determined by, the quantity of share capital issued as stock dividend), "the appropriate amount in cash" is the amount of that related cash dividend, unless that is substantially different from the share capital's market value. If it is substantially different (whether more or less), "the appropriate amount in cash" is that market value (see section 251(2)(a)(ii) and (b) of ICTA).

For these purposes, however, if there is also an accompanying cash dividend (a cash dividend in respect of the same shares as the stock dividend) the amount of the related cash dividend is treated as reduced by the amount of the accompanying cash dividend (see section 251(4) of ICTA).

If there is no related cash dividend, "the appropriate amount in cash" is the share capital's market value (see section 251(2)(b) of ICTA).

The provisions in ICTA are pretty complex, particularly where the stock dividend is bonus share capital. But, leaving aside the reduction under section 251(4) of ICTA, the general effect is to tax the cash dividend alternative or something not substantially different from the market value of the share capital.

Therefore in rewriting these provisions the rules which apply where the amount of the alternative cash dividend is not used have been modified so that, for a stock dividend taken in lieu of an ordinary cash dividend, it is clearly stated in clause 412(2) that in the case of an issue of share capital in lieu of cash dividend where the difference between the cash dividend alternative and the market value of the share capital exceeds 15% of that market value, the market value is taken instead. In addition, the rule in section 251(2)(a)(ii) and (4) of ICTA is omitted so that under clause 412(3) for a stock dividend which is bonus share capital, the net amount will always be the share capital's market value.

This change is adverse to some taxpayers and favourable to others in principle and in practice. But the numbers affected and the amounts involved are likely to be small.

Change 86: Deeply discounted securities: deemed acquisitions at market value where deemed disposals on conversion of securities or transfer by personal representatives to legatees: clause 441

This change provides that in the case of two sorts of disposals that are treated as made for amounts equal to market value, conversions of relevant discounted securities into other such securities and transfers by personal representatives to legatees, the corresponding acquisitions are treated as acquisitions for the same amounts.

Paragraph 1 of Schedule 13 to FA 1996 charges profits realised from the discount on a relevant discounted security and provides that the profit is realised when a person transfers such securities or becomes entitled to a payment on their redemption.

In four cases Schedule 13 to FA 1996 provides for a transfer of a relevant discounted security to be treated as made at market value and for the corresponding acquisition of the security to be treated as made at that value. They are transfers made on the death of a holder, transfers made otherwise than by a bargain at arm's length, transfers between connected persons and transfers for a consideration which is not wholly in money or money's worth. (See paragraphs 4(2), 8(2) and 9(2) of that Schedule.)

Paragraph 6(7) of Schedule 13 also provides that where personal representatives transfer relevant discounted securities to legatees the personal representatives are treated as obtaining an amount equal to the securities' market value, and under paragraph 5 of Schedule 13 where such securities are converted into shares or other securities the conversion is to constitute the redemption of the securities and "to involve a payment" on the redemption of an amount equal to the market value of the shares or securities. But no specific provision is made about the price that the legatees are treated as paying for the securities, nor the acquisition cost of any relevant discounted securities obtained as the result of a conversion of such securities. In practice, however, in both these cases the market value of the securities is taken as being an amount paid in respect of the acquisition of the security, and so is taken into account in calculating the profit or loss on a subsequent disposal of the securities.

Clause 441 fills these gaps by providing that a person acquiring these securities on any of the transfers that are treated as occurring at market value or on the conversion of such securities into other such securities is treated as doing so by the payment of their market value.

In the case of the acquisition by legatees the only alternative for acquisition cost if the gap is not filled appears to be that the legatees acquire the securities for no cost. In that case the change would always be favourable to the taxpayer. In the case of the acquisition on conversion there are perhaps two possible alternatives if the gap is not filled. These are that the securities are acquired for no cost or acquired for the acquisition cost of the securities which are converted. If the securities are treated as acquired for no cost the effect is favourable to the taxpayer. If the original acquisition cost of the converted securities is used the effect would usually be favourable, but may not be in rare cases.

This change is favourable to most taxpayers in principle but may be adverse in rare cases. But it is expected to have no practical effect as it is in line with current practice.

Change 87: Strips of government securities: acquisitions and disposals: clause 445

This change alters the time at which strips of government securities held at 5 April that are deemed to be transferred at market value on that day are re-acquired. The reacquisition is deemed to be immediate, rather than to occur on 6 April.

Paragraph 14(4) of Schedule 13 to FA 1996 provides that a person holding a strip of a government security on 5 April in any tax year is deemed to have transferred it on that day. (Strips are defined in paragraph 15(1) of Schedule 13 to FA 1996, and the definition is rewritten in clause 444.) The rule in paragraph 14(4) of Schedule 13 to FA 1996 only applies if no other disposal occurs on 5 April and ensures that anyone holding a strip is taxed, year by year, on the increasing value of the strip. The purpose of paragraph 14(4) of Schedule 13 to FA 1996 was to prevent strips becoming a tax avoidance vehicle, since otherwise investors might choose to invest in strips of securities, rather than in the securities themselves, so as to defer their tax liabilities instead of being taxed on interest from the securities year by year.

Under paragraph 14(4)(c) of Schedule 13 to FA 1996, the strip which is deemed to be transferred on 5 April is deemed to be reacquired on the next day (6 April), for its value on the day of the transfer (5 April).

There does not appear to be any reason for this delay of one day. It is simpler to provide that the strip is treated as disposed of and immediately reacquired and doing so removes the scope for confusion in the current legislation caused by the reacquisition on 6 April being deemed to be at the value of the strip on 5 April. It also removes the scope for confusion where there is an actual disposal on 6 April. Therefore, in rewriting paragraph 14(4)(c) of Schedule 13 to FA 1996, clause 445(3) provides for strips that are treated as disposed of on 5 April at market value to be treated as having been immediately reacquired for the same amount, rather than being reacquired on the following day for that amount. Schedule 2 to this Bill preserves the current position for strips held on 5 April 2005, so that they are deemed to have been reacquired on 6 April 2005 at market value on that day.

The change has no implications for the amount of tax paid, who pays it or when.

Change 88: Gains from contracts for life insurance etc: individuals who are not resident in the United Kingdom in the tax year not liable for tax: clauses 465 and 539

This change gives statutory effect to part of Part 1 of ESC B53.

Section 547(1)(a) of ICTA provides that gains under Chapter 2 of Part 13 of ICTA are deemed to form part of an individual's total income for the tax year in which the chargeable event giving rise to the gain occurred if any of the following conditions are met. They are:

  • that the rights under the policy or contract in question are vested in the individual as beneficial owner;

  • that the rights under the policy or contract are held on trusts created by the individual; or

  • that the rights are held as security for a debt owed by the individual.

Section 547(1)(a) of ICTA applies wherever the individual is resident. (Section 549 of ICTA (corresponding deficiency relief) applies similarly.) But Part 1 of ESC B53 provides that the Inland Revenue will not pursue liability to tax on a gain that is treated as income of an individual who is not resident in the UK at any time during the tax year in which the gain is chargeable.

Clause 465 of the Bill gives statutory effect to this part of the concession by providing that an individual is only liable for tax under Chapter 9 of Part 4 of the Bill, which rewrites Chapter 2 of Part 13 of ICTA, if the individual is UK resident in the tax year in which the chargeable gain arises.

Under section 549 of ICTA certain deficiencies are allowable as deductions if, had such an excess as is mentioned in section 541(1)(a) or 543(1)(a) of ICTA arisen, it would have been treated as a gain and would form part of the individual's total income for the final year of the policy in question. In rewriting this relief for deficiencies, clause 539 provides for the relief to apply also where the gain would form part of the individual's total income apart from the condition in clause 465 requiring UK residence, so that a non-UK resident individual continues to be eligible for the relief despite the new condition. But in some circumstances the effect of the condition in clause 465 may be to reduce the amount of relief to which an individual is entitled. This will happen if an individual was not liable at all for earlier gains because of the operation of the condition, and so they did not form part of the individual's total income as required by clause 541(4)(b) (calculation of deficiencies).

This change is broadly in taxpayers' favour in principle. But it is expected to have little practical effect as it is in line with current practice. It may reduce the amount of relief for deficiencies. But the numbers affected and the amounts involved are likely to be small.

Change 89: Gains from contracts for life insurance etc: disregard of alteration of terms of old life insurance policies where insurer stops collecting premiums: clauses 488 and 489

This change gives statutory effect to part of ESC A96.

Alterations in the terms of a life insurance policy may simply have the effect of varying the terms of the policy or they may result in the replacement of the policy. The result of varying the terms or replacing the policy may be that a charge to tax will arise on later events, such as the surrender or maturity of the policy, which would not otherwise have arisen. For example, this could occur because after the alteration the policy is no longer a qualifying policy, as defined in Schedule 15 to ICTA. (Qualifying policies are normally outside the chargeable event gains regime in Chapter 2 of Part 13 of ICTA.) It could also occur because the alteration causes a policy which was entirely outside the chargeable event regime or particular provisions of it to be brought within it. For instance, this could happen where the policy commenced before 20 March 1968 (the date of introduction of the chargeable event gains regime).

ESC A96 is concerned with a particular sort of alteration in terms of policies. It is sometimes uneconomical for insurers to collect premiums on old policies because of the small sums involved. If they agree to stop collecting such premiums, that may be an alteration in the terms of the policies. But ESC A96 provides that, for the purposes of the chargeable event gains regime in Chapter 2 of Part 13 of ICTA, an alteration in the terms of a life insurance policy should be ignored if it results from a decision by an insurer to stop collecting premiums on a number of policies of the same description because it is no longer economically viable to do so. ESC A96 only applies where the policy was issued at least twenty years before the alteration and the alteration is not itself a chargeable event. (ESC A96 also provides for such alterations to be ignored for the purposes of Schedule 15 to ICTA (qualifying policies).)

Clauses 488 and 489 give statutory effect to the concession so far as they provide that such alterations are ignored for the purposes of determining whether a chargeable event has occurred in relation to a policy or contract.

This change is in taxpayers' favour in principle. But it is expected to have no practical effect as it is in line with current practice.

Change 90: Gains from contracts for life insurance etc: allowing the deduction of gains previously charged on related policies to be made in calculating later gains: clause 491(5)

This change enables gains charged on an earlier chargeable event in respect of a policy of life insurance to be deducted in calculating the gains from a later chargeable event in respect of a related policy.

Section 541 of ICTA provides the rules for computing chargeable event gains on policies of life insurance and is expressed in section 541(1) of ICTA to apply to "any policy of life insurance", which is referred to later as "the policy".

Section 541(1) of ICTA provides that premiums previously paid under the policy are deductible in calculating chargeable event gains. Section 541(5)(b) of ICTA provides that in relation to premiums references to "the policy" include references to "any related policy, that is to say, to any policy in relation to which the policy is a new policy within the meaning of paragraph 17 of Schedule 15 to ICTA, and any policy in relation to which that policy is such a policy, and so on". (Under Schedule 15 to ICTA a "new policy" is created when one policy is issued in substitution for or on the maturity of another policy by way of an option conferred by the other policy.) So section 541(5)(b) of ICTA ensures that premiums paid in respect of one policy are allowed as a deduction in computing the gain on the second or later policy to which the first policy is related.

Section 541(1) of ICTA also allows the amount treated as a gain on the happening of previous chargeable events in relation to a policy to be deducted in calculating the chargeable event gains in respect of the policy. But section 541(5)(b) of ICTA only deals with the deduction of premiums in respect of related policies and does not make any corresponding provision about such gains on the happening of previous chargeable events in respect of related policies. This appears to have been an oversight and, in practice, gains in respect of related policies are deducted from a final gain on a second or later policy.

Clause 491 gives effect to this practice by providing in subsection (2) that PG (defined as any gains on a previous calculation event in relation to the policy or contract) are to be deducted in calculating the gains, and then providing in subsection (5) that the reference to the policy in the definition of "PG" includes related policies, as defined in subsection (6).

This change is in taxpayers' favour in principle. But it is expected to have no practical effect as it is in line with current practice.

Change 91: Gains from contracts for life insurance etc: disregard of trivial inducement benefits: clause 497

This change gives statutory effect to part of ESC B42 under which small non-monetary inducements to enter into insurance contracts are disregarded for the purposes of Chapter 2 of Part 13 of ICTA.

Gifts may be offered by insurers to attract insurance business. These may take a variety of forms, including small consumer goods, store vouchers and discounts offered by travel agents etc.

Under section 541(1) of ICTA on the happening of a chargeable event the amount or value of any relevant capital payments in respect of a life policy may be brought into the computation of the chargeable gain. Such payments are defined in section 541(5)(a) of ICTA so as to include, broadly, any sum or other benefit of a capital nature. This could include the value of gifts. Similar provisions apply in the case of life annuity contracts and capital redemption policies (see sections 543(1) and (3) and 545(3) of ICTA).

ESC B42 prevents non-monetary gifts, not exceeding £30 in value in aggregate, that are made as an incentive in connection with an insurance from being brought into the calculation of the chargeable gains. (It also prevents such gifts from being taken into account in determining if a policy is a qualifying policy within Schedule 15 to ICTA.)

Clause 497 of the Bill gives statutory effect to the concession so far as it prevents such gifts being brought into the computation of a gain. Clause 497(3) also provides that the £30 limit may be increased by an order made by the Treasury.

This change is in taxpayers' favour in principle. But it is expected to have no practical effect as it is in line with current practice.

Change 92: Gains from contracts for life insurance etc: removal of requirement for calculation under section 546(1) of ICTA to be made annually: clause 498

This change replaces the requirement that the calculation under section 546(1) of ICTA should be made annually with a requirement that it should be made only where relevant partial surrenders and assignments of rights under insurance policies and contracts have occurred.

Under sections 540(1)(a)(v), 542(1)(c), 545(1)(d) and 546C(7)(a) of ICTA, a chargeable event is treated as occurring at the end of a policy year where the calculation mentioned in section 546(1) of ICTA produces an "excess". In broad terms, the calculation compares the proceeds of a part surrender or part assignment of rights in the policy or contract that has occurred in the policy year with a portion of the premiums or other consideration paid under it to date.

Section 546(1) of ICTA requires that calculation to be performed "as at the end of each year" (that is, successive 12 month periods beginning with the making of the insurance or contract: see section 546(4) of ICTA). But unless an assignment for money or money's worth or a surrender has occurred during the policy year, the calculation cannot show a gain, and so will be otiose for the purposes of Chapter 2 of Part 13 of ICTA.

The requirement to carry out that calculation is rewritten primarily in clause 498, which is expressed only to apply if there has been an assignment for money or money's worth or a surrender of a part of or share in the rights under a policy or contract in an insurance year. ("Insurance year" is defined in clause 499 which mirrors section 546(4) of ICTA.)

This change has no implications for the amount of tax due, who pays it or when. It affects (in principle and in practice) only administrative matters.

Change 93: Gains from contracts for life insurance etc: treating taking a capital sum under a contract for a life annuity as a surrender of a part of the rights under the contract for all purposes: clause 500

This change involves treating the taking of a capital sum under a contract for a life annuity as a surrender of part of the rights under the contract for all purposes of Chapter 2 of Part 13 of ICTA, and not just for sections 542 and 543 of ICTA.

Sections 542 and 543 of ICTA deal respectively with chargeable events in respect of life annuity contracts and the computation of gains in respect of such contracts. Under section 542(2) of ICTA, where a contract provides for the payment of a capital sum as an alternative to annuity payments, the taking of the capital sum is treated as a surrender in whole or part of the rights under the contract. Section 542(2) of ICTA is expressed as applying for the purposes of sections 542 and 543 of ICTA. But, in fact, it is section 546 of ICTA which deals with the calculations which have to be made to see if a gain has arisen on part surrenders or assignments, although section 542(1)(c) of ICTA refers to such calculations under section 546 of ICTA and lists an excess in such a calculation as a chargeable event for such contracts. Section 546(1) of ICTA is expressed to apply for the purposes of section 542 of ICTA. But the result is that it is not entirely clear whether the taking of a capital sum in these circumstances is a surrender for the purposes of section 546 of ICTA or the alternative regime for taxing excesses under section 546 of ICTA that now applies under sections 546B to 546D of ICTA.

In practice, the taking of a capital sum is treated as a surrender in whole or part of the rights under the contract for the purposes of the calculations under sections 546 and 546B to 546D of ICTA. Clause 500(b) clarifies the position by providing that the taking of a capital sum is treated as a partial surrender for the purposes of the whole of Chapter 9 of Part 4 of the Bill (which corresponds to Chapter 2 of Part 13 of ICTA). So it reflects current practice.

This change provides a clarification of the law. But it is expected to have no practical effect as it is in line with current practice.

Change 94: Gains from contracts for life insurance etc: enactment of regulations about personal portfolio bonds in primary legislation: clauses 515 to 526

This change replaces regulations about personal portfolio bonds made by the Treasury under section 553C of ICTA with provisions in primary legislation, and cuts down the power in section 553C of ICTA as a result.

Section 553C of ICTA confers a wide power on the Treasury to use regulations to impose a yearly charge to tax in relation to personal portfolio bonds. It permits the regulations to make provision about matters such as the method by which the charge to tax is imposed and its administration. The section defines "personal portfolio bond", but the regulations can in effect make certain modifications to that definition. In particular they can prescribe property and indexes which may be selected without a policy or contract being a personal portfolio bond.

The regulations under section 553C of ICTA are rewritten in Chapter 9 of Part 4 of the Bill, so far as they apply in relation to income tax. Clause 516 defines "personal portfolio bond", for example, and clauses 518 to 521 make provision about the kinds of index or property which may be selected without a policy or contract being a personal portfolio bond. Clauses 522 to 524 set out the method for calculating the charge to tax on personal portfolio bonds. The regulations continue to apply in relation to corporation tax.

Clause 526 contains a power to make regulations about certain matters in relation to the personal portfolio bond provisions in Chapter 9 of Part 4 of the Bill. The power is more limited than the power in section 553C of ICTA. This reflects the fact that provision about personal portfolio bonds has now been made in the regulations and in the Bill.

The only matter that can be dealt with in regulations under clause 526 is the administration of the charge to tax on personal portfolio bonds. Any other changes to the personal portfolio provisions in the Bill need to be made in primary legislation.

This matter can be dealt with in the regulations themselves or by modifications to Chapter 9 of Part 4 of the Bill or Chapter 2 of Part 13 of ICTA. Chapter 2 of Part 13 of ICTA includes certain administrative provisions which apply in relation to income tax. So clause 526 includes a power to amend those provisions as they apply to personal portfolio bonds.

The power in clause 526 for regulations to be made which amend primary legislation reflects the power under section 553C of ICTA to amend the regulations about personal portfolio bonds, and to exclude or apply (with or without modifications) other provisions of Chapter 2 of Part 13 of ICTA in relation to personal portfolio bonds.

This change has no implications for the amount of income liable to tax, who pays it, or when. It affects only the method by which the provisions on personal portfolio bonds may be amended in the future.

Change 95: Gains from contracts for life insurance etc: reductions for sums chargeable to tax apart from section 547(1) of ICTA: clause 527

This clarifies the meaning of the exception from the charge to tax under section 547(1) of ICTA given by section 547(2) of ICTA for any amount chargeable to tax apart from section 547(1) of ICTA.

Section 547 of ICTA deals with the method of charging chargeable event gains to tax. This differs according to the person who is interested in the policy. For example, under section 547(1) of ICTA where the rights in a policy or contract are held by an individual as beneficial owner the gain forms part of the individual's total income. However, section 547(2) of ICTA states "Nothing in subsection (1) shall apply to any amount which is chargeable to tax apart from that subsection.".

In practice, the words "amount which is chargeable to tax" in section 547(2) of ICTA are taken to mean the amount of the receipts and credits taken into account for the purposes of ascertaining the overall taxable profit under another provision, rather than the actual amount that is charged to tax under another provision, which in the case of a trader, for instance, will be the net profits of the trade.

Clause 527 which rewrites section 547(2) of ICTA makes it clear that the amount chargeable to tax under Chapter 9 of Part 4 of the Bill is reduced by the amount of the receipt or other credit item that is taken into account in calculating the amount on which income tax is charged otherwise than under Chapter 9 of Part 4 or the amount on which corporation tax is charged.

 
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Prepared: 3 December 2004