Clause 856: Foreign payers of manufactured overseas dividends: the reverse charge

2593.     This clause imposes an obligation on certain recipients to account for and pay income tax on MODs received. It is based on paragraphs 4 and 3A of Schedule 23A to ICTA. By analogy with section 8 of the Value Added Tax Act 1994, specialists refer to this as "the reverse charge". This expression does not appear in the legislation itself but is commonly used. So it has been included in the sidenote to this clause 856.

2594.     Although this clause is not about "deduction of income tax at source". it is included in this Chapter because it applies in circumstances in which there would be a requirement to deduct income tax at source if the payer was UK resident.

2595.     Subsection (1) sets out three conditions for the clause to apply. First, the person must pay a MOD as mentioned in clause 581. Second, the MOD must be paid in the circumstances set out in clause 581(1). These conditions are identical to those in clause 855(1). The third condition contrasts with the third condition in clause 855(1): the payer must be non-UK resident and not paying the MOD in the course of a trade carried on in the United Kingdom through a branch or agency.

2596.     If these conditions are satisfied, subsection (2) sets out the circumstances in which the recipient must account for and pay income tax in respect of the MOD.

2597.     Subsection (3) provides that the amount of income tax to be accounted for and paid is equal to the amount which the payer would have been required to deduct if the case had been within clause 855.

Clause 857: Power to reduce section 856 liability

2598.     This clause supplements clause 856. It is based on paragraph 4(3B) of Schedule 23A to ICTA.

Clause 858: Power to provide set-off entitlement

2599.     This clause is a power to make regulations dealing with the interaction between Chapter 9 and double taxation relief. It is based on paragraph 4(3), 4(7) and 4(7AA) of Schedule 23A to ICTA.

2600.     This clause also brings into line with practice the law on the periods by reference to which overseas dividend manufacturers may set amounts of overseas tax off against their UK tax liabilities. See Change 134 in Annex 1.

2601.     This clause uses the labels "relevant amounts of tax suffered" and "relevant tax liabilities". These labels are defined in subsections (3) and (4) respectively.

2602.     Subsection (5) makes it clear that the "credit" mentioned in subsection (1) which a person can claim includes credit against corporation tax. So paragraph 4(7) and (7AA) of Schedule 23A to ICTA are repealed.

Clause 859: Interpretation of Chapter

2603.     This clause provides that expressions used in both in this Chapter and in Chapter 2 of Part 11 (manufactured payments and repos: manufactured payments) have the same meaning in this Chapter as they do in the earlier Chapter, so avoiding the need to duplicate definitions. It is based on paragraphs 1(1), 2(1), 3(1) and (10), 4(1) and (2A) and 7(1) of Schedule 23A to ICTA and section 153(2) of FA 2003.

2604.     Subsection (2) provides that references in this Chapter to a trade carried on through a branch or agency are to be read, in relation to a company, as references to a trade carried on through a permanent establishment. This may make a difference in some cases as it is possible for a non-UK resident company to be trading in the UK through a branch or agency but not through a permanent establishment.

Clause 860: Regulation-making powers: general

2605.     This clause provides that regulations under this Chapter may make different provision for different cases. It is based on paragraph 8(4) of Schedule 23A to ICTA.

Chapter 10: Deduction from non-commercial payments by companies

Clause 861: Chargeable payments connected with exempt distributions

2606.     This clause requires the deduction of sums representing income tax from chargeable payments connected with exempt distributions. It is based on sections 4, 214(1) and 349(1) of ICTA.

2607.     Section 214(1) of ICTA makes provision concerning payments made by a company after an exempt distribution (such as a demerger that meets the conditions in section 213 of ICTA). The other provisions of sections 213 and 214 of ICTA are basically concerned with corporation tax.

2608.     The clause makes it explicit that the rate at which deduction must be made is the basic rate.

Chapter 11: Payments between companies etc: exception from duties to deduct

Overview

2609.     This Chapter allows "excepted payments" made by companies, local authorities and "qualifying partnerships" to be made without deducting a sum representing income tax. It is based on sections 349A to 349D of ICTA.

2610.     Power is given to officers of Revenue and Customs to reimpose a duty to deduct if they have reasonable grounds for believing that the conditions for payment to be made without deduction are not met. The Chapter also provides that, if a paying company reasonably believes that a payment is excepted but that proves not to be true, the duty to deduct is treated as always having existed.

Clause 862: Overview of Chapter

2611.     This clause provides an overview of the Chapter. It is new.

Clause 863: Exception from duties to deduct sums representing income tax

2612.     This clause disapplies various duties on companies, local authorities and qualifying partnerships to deduct sums representing income tax if they reasonably believe that the payments concerned are "excepted payments". It is based on section 349A of ICTA.

Clause 864: Power to make directions disapplying section 863

2613.     This clause gives power to an officer of Revenue and Customs to direct that clause 863 is not to apply if the officer has reasonable grounds for believing that the payment will be an excepted payment. It is based on section 349C of ICTA.

2614.     The reference in the source legislation to "the Board" is replaced by a reference to "an officer of Revenue and Customs". See Change 5 in Annex 1.

Clause 865: Meaning of "qualifying partnership"

2615.     This clause defines "qualifying partnership" for the purposes of the Chapter. It is based on sections 349A(6), 349C(4) and 349D(2) of ICTA.

Clause 866: UK-resident companies

2616.     This clause is the first of a number of clauses setting out those payments which are excepted payments and provides that a payment is an excepted payment if the beneficiary is a UK resident company. It is based on section 349B(1) of ICTA.

Clause 867: Non-UK resident companies

2617.     This clause states the conditions under which a payment to a non-UK resident company is an excepted payment. It is based on section 349B(2) of ICTA.

Clause 868: PEP and ISA managers

2618.     This clause provides that a payment to a plan manager of a personal equity plan or an individual savings account, or to the manager's nominee, is an excepted payment if it is received in respect of investments under the plan. It is based on section 349B(4) of ICTA.

Clause 869: Recipients who are to be paid gross

2619.     This clause provides that payments to various specific types of recipient are excepted payments. It is based on section 349B(3) and (8) of ICTA.

2620.     The Treasury may by order amend the list of such recipients.

Clause 870: Partnerships

2621.     This clause sets out the conditions under which payments made to certain partnerships are excepted payments. It is based on section 349B(6), (7) and (8) of ICTA.

2622.     The Treasury may by order vary the types of recipient covered by this clause, other than those mentioned in clause 869 (which is covered by the power provided in that clause).

Clause 871: Consequences of reasonable but incorrect belief

2623.     This clause provides that if, despite the reasonableness of the payer's belief, the payment is not an excepted payment at the time it is made, the right to pay without deduction is treated as never having existed. It is based on section 349D of ICTA.

Chapter 12: Funding bonds

Overview

2624.     This Chapter adapts the requirement to deduct sums representing income tax from certain payments of interest to deal with cases where the debtor has issued securities ("funding bonds") instead of paying the interest. It is based on section 582 of ICTA.

2625.     Sections 582(1) of ICTA and 380 of ITTOIA provide that the recipient of such bonds is treated as receiving an amount of interest equal to the market value of the bonds. This Chapter deals with the effect of that provision on the duty to deduct at source. This is usually to require the debtor to retain bonds to cover the amount of the deduction. But if that is impracticable, there is alternative provision.

Clause 872: Duty to retain bonds where issue treated as payment of interest

2626.     This clause requires a debtor who issues funding bonds to retain bonds instead of deducting sums representing income tax. It is based on section 582(2), (2A) and (4) of ICTA.

2627.     Subsection (2) makes it explicit that the rate by reference to which bonds are to be retained is the savings rate. The debtor is then treated as having complied with the duty to deduct at source (subsection (3)).

2628.     The bonds themselves may be tendered in satisfaction of any income tax due from the debtor under Chapter 15 or 16. Because the source legislation links into the deduction and collection requirements of sections 349 and 350 of ICTA, this provision is affected by the removal of the charge to income tax in section 350(1) of ICTA. See Change 140 in Annex 1 and the commentary on clause 896.

Clause 873: Exception from duty to retain bonds

2629.     This clause makes provision for cases where it is impracticable for the debtor to retain bonds. It is based on section 582(2) of ICTA.

2630.     The duty to deduct (which under clause 872 becomes a duty to retain bonds) does not apply if the debtor notifies the Commissioners for Her Majesty's Revenue and Customs of the details required by subsection (2).

Chapter 13: Unauthorised unit trusts

Overview

2631.     This Chapter provides the rules about deduction of tax at source in relation to distributions treated as made from unauthorised unit trusts (UUTs) to their unit holders. It is based on sections 348, 349(1) and (1A) and 469 of ICTA.

2632.     A unit trust is "unauthorised" if it does not have authorisation under FISMA to seek investment directly from members of the public. Nor is such a trust regulated under FISMA. "Unauthorised unit trust" is defined in clause 923.

2633.     The rules for UUTs differ from the rules relating to annual payments (with which they are related in the source legislation) in that the amount shown by the trust's accounts as income for a distribution period is treated as having been paid to unit holders on the date prescribed by Chapter 10 of Part 4 of ITTOIA, regardless of whether it has been so paid in whole or in part. Any actual payments to unit holders are ignored.

2634.     Chapter 10 of Part 4 of ITTOIA does not deal with these amounts treated as paid to unit holders by charging them as a type of annual payment. Instead, that Act imposes a separate charge to income tax on the unit holder. In accordance with that approach, Chapter 9 of Part 9 of this Bill gives relief to the trustees of the UUT for such amounts.

2635.     This Chapter deals with the payments treated as having been made as regards the deduction at source rules. In particular, such amounts are treated as having been paid under deduction of a sum representing income tax at the basic rate for the applicable tax year; there is no actual duty to deduct as in other Chapters of this Part.

2636.     This Chapter also requires the tax to be collected under Self Assessment. Since the trustees of the UUT will have obtained relief by deduction from their taxable income for the amount of any grossed-up amounts treated as paid to unit holders, this tax will normally be most of the tax that they have to pay.

2637.     Additionally, if the deemed payments in a tax year cannot be fully relieved because their taxable income is insufficient, there is provision for the trustees to take account of any excess of modified net income (defined in clause 958) in earlier tax years over the payments they are treated as having made in those years.

Clause 874: Deemed payments to unit holders and deemed deductions of income tax

2638.     This clause sets out the framework of the deduction at source regime for UUTs. It is based on sections 348(1A), 349(1A) and 469 of ICTA.

2639.     If the unit holder is subject to income tax, the clause:

• treats as a payment by the UUT trustees to the unit holder any grossed-up amount (for which see section 548 of ITTOIA) which is charged to tax on the unit holder under Chapter 10 of Part 4 of ITTOIA (subsection (2)); and

• treats the trustees as having deducted, at the basic rate for the tax year, a sum representing income tax (subsection (3)).

2640.     If the unit holder is subject to corporation tax, the clause treats the trustees as having deducted, at the basic rate for the year, a sum representing income tax from the deemed annual payment to the unit holder (see section 469(4A) to (4D) of ICTA, inserted by Schedule 1 to this Bill) (subsections (4) and (5)).

Clause 875: Income tax to be collected from trustees

2641.     This clause sets out the method of collection, and the amount of income tax to be collected. It is based on sections 348(1), 349(1), and 469(5A) and (5B) of ICTA.

2642.     Subsection (2) requires the tax to be collected through the self-assessment tax return of the trustees of the UUT. The source legislation refers (section 469(5A)(a) of ICTA) to a charge under section 350 of ICTA. But in practice the tax is collected through the trustees' self-assessment return, and the law is now brought into line with that practice, in keeping with the approach in relation to charges on income generally. See Change 81 in Annex 1.

2643.     So, where the source legislation provides for the amount to be charged under section 350 of ICTA, this and the following clauses are drafted in terms of an amount of income tax to be collected.

2644.     The default rule is that the amount to be collected under Self Assessment is the amount treated as deducted under clause 874, which refers to the formula given in section 548(2) of ITTOIA.

2645.     Subsections (4) and (5) deal with the adjustment for the "income pool". This applies when, in a tax year, the gross amounts of the payments treated as made exceed the trustees' modified net income (so that, under the source legislation, not all the tax treated as deducted could be retained by way of relief under section 348 of ICTA).

2646.     In that case, the income pool as at the start of the tax year (for the computation of which see clause 876) is deducted from the total of the amounts treated for the tax year as having been paid to unit holders, but not so as to reduce it below the amount of the trustees' modified net income. The resulting amount is then multiplied by the basic rate of income tax for the year, and that constitutes the amount of income tax payable by the trustees.

Clause 876: Calculation of trustees' income pool

2647.     This clause prescribes the method of calculating the "income pool", which is to be applied in any tax year in which the grossed-up amounts treated as paid to unit holders by the trustees exceed their modified net income. It is based on section 469(5C) of ICTA.

2648.     An income pool consists of a "running total" of the amount by which, taking one tax year with another, the trustees' modified net income has exceeded the grossed-up amounts treated as paid by them. In each tax year when this has occurred, the amount of any such excess is to be calculated. And if in any tax year the amounts treated as paid exceed the modified net income, any such excess must be deducted from the income pool.

2649.     So the income pool as at the start of any tax year ("the current tax year") is calculated according to whether in the previous tax year the trustees' modified net income exceeded the amounts treated as paid (Case 1), was less than them (Case 2) or equalled them (Case 3).

2650.     The amount so calculated is available to set against any excess of payments treated as made over modified net income in the current tax year.

2651.     Subsections (2) and (3) deal with cases where the UUT trustees have been non-UK resident. For any year of non-residence there may be modified net income, but there is no adjustment to the income pool.

2652.     Subsection (3) also provides that the income pool is nil as at the start of the tax year in which a UUT is established.

Chapter 14: Tax avoidance: directions for duty to deduct to apply

Clause 877: Directions for deduction from payments to non-UK residents

2653.     This clause enables HMRC to require certain payments to non-UK residents to be paid under deduction of basic rate income tax. It is based on section 777(9) of ICTA.

2654.     In Pardoe v Entergy Power Development Corporation (2000), 72 TC 617 ChD, ¹³ the High Court held that a direction under section 777(9) of ICTA could be given if, and only if, at the time of the direction, HMRC were satisfied that there was a present entitlement to a relevant payment; a direction could not be given where there was only a prospect (however imminent) of future entitlement.

¹³ [2000] STC 286.

2655.     But, following Pardoe, it is still open to HMRC to give a direction under section 777(9) of ICTA in a case in which a non-UK resident is entitled to payment of consideration by instalments. It is therefore rewritten in this Part.

2656.     Section 777(9) of ICTA deems the payment in question to be an annual payment within section 349(1) of ICTA. This clause spells out the implications of this.

2657.     This clause replaces the references to "the Board" with a reference to "an officer of Revenue and Customs" (namely, the officer dealing with the case). See Change 5 in Annex 1.

2658.     The HMRC Business Income Manual tells officers (BIM 60390):

No attempt to invoke [section 777(9) of ICTA] in a working case should be made without prior specific reference to Business Tax (Technical), who will consider such cases on an individual basis and decide whether to seek a direction from the Board.

2659.     Change 5 will have no effect on this practice.

2660.     The collection mechanisms of section 350(1) of, and Schedule 16 to, ICTA apply to tax deducted at source under section 349(1) of that Act from payments subject to section 777(9) directions. Schedule 16 and section 350(1) are rewritten in Chapters 15 and 16 respectively of this Part, and subsection (5) gives signposts to those Chapters.

2661.     In rewriting Schedule 16, Chapter 15 makes some minor changes to the law. Three of them are potentially relevant to the collection of tax deducted at source under section 777(9) directions:

• -Change 136 makes it clear that a return need be submitted only where a relevant payment was made in that particular return period. It also clarifies related points.

• -Change 137 brings into line the information required to be included on a return where a payment is made otherwise than in an accounting period with the information which is required where the payment is made in an accounting period.

• -Change 140 removes the charging provision in section 350(1) of ICTA, to bring this legislation into line with the approach taken in other legislation about collection of income tax deducted at source. So a person will not be "chargeable" in cases falling within Chapters 3 to 7, 10, 12, 13 and 18 of this Part.

Chapter 15: Collection: deposit-takers, building societies and certain companies

Overview

2662.     This Chapter provides for the collection of income tax deducted at source from the payments listed in clause 879. It is based on sections 350, 477A and 480A of, and Schedules 16 and 23A to, ICTA, Schedule 11 to FA 1991 and regulation 10 of the Income Tax (Building Societies) (Dividend and Interest) Regulations 1990 (SI 1990/2231) (the building society regulations).

2663.     See Schedule 1 for commentary explaining why paragraph 8 and part of paragraph 10(2) of Schedule 16 to ICTA are otiose and have accordingly not been rewritten.

Clause 878: Overview of Chapter

2664.     This clause provides an overview of the Chapter and also defines "section 879 payments". It is new.

Clause 879: Payments within this section

2665.     This clause sets out which payments are subject to the collection mechanism described in this Chapter. It is based on sections 350, 477A(1) and 480A of, and Schedules 16 and 23A to, ICTA and regulation 10 of the building society regulations.

2666.     As part of the alignment of the building society and deposit-taker regimes for deduction of tax at source, various regulations in the building society regulations are enacted. See Change 119 in Annex 1 and the overview commentary on Chapter 2 of this Part.

2667.     Under the provisions of this Bill, tax deducted from certain annual payments and other patent royalty payments made by individuals will be collected through the individual's self-assessment return (see Chapter 17), rather than by direct assessment (see Chapter 16, based on section 350(1) of ICTA). See in particular the commentary on clause 833. As a result, where such payments are made by companies on behalf of individuals they will not be subject to collection under the provisions of this Chapter. See Change 81 in Annex 1 and the overview commentary on Chapter 4 of Part 8 of this Bill.

2668.     Because the source legislation links into the collection requirements of section 350 of ICTA, this provision is affected by the removal of the charge to income tax in section 350(1) of ICTA. See Change 140 in Annex 1 and the commentary on clause 896.

Clause 880: Return periods

2669.     This clause sets out the return periods which fall into an accounting period by reference to "quarter dates". It is based on paragraph 2(2) of Schedule 16 to ICTA, paragraph 3(1) of Schedule 11 to FA 1991 and regulation 10(3) of the building society regulations. See Change 119 in Annex 1 and the overview commentary on Chapter 2 of this Part.

2670.     The quarter dates are the last days of March, June, September and December except where the payer is a building society, in which case they are the last days of February, May, August and November.

2671.     Under the source legislation, all section 879 payments made by building societies are accounted for by reference to the February, May, August or November quarter dates by virtue of paragraph 3(1) of Schedule 11 to FA 1991 (in respect of payments caught by section 350(4) of ICTA) and regulation 10 of the building society regulations (in respect of payments caught by section 477A of ICTA).

2672.     In keeping with the alignment of the rules on deduction of tax at source for deposit-takers and building societies, subsections (2) to (4) embrace building societies. See Change 135 in Annex 1 and the overview commentary on Chapter 2 of this Part.

Clause 881: Meaning of "accounting period"

2673.     This clause defines "accounting period" for deposit-takers who are not companies. It is based on section 480A(4) of ICTA.

Clause 882: Payments in an accounting period

2674.     This clause contains the main provisions regarding the delivery of returns for section 879 payments made in an accounting period. It is based on paragraphs 2 and 3 of Schedule 16 to ICTA.

2675.     This clause sets out when a return needs to be delivered and the information which must be included (the amount of any section 879 payment and the amount of income tax payable).

2676.     This clause clarifies that a return needs to be delivered for a return period only when a section 879 payment is made in the return period. See Change 136 in Annex 1.

2677.     As part of this change, other clauses clarify when and how a set-off claim can be made (see clauses 885 and 886), when an assessment may be made (see clause 890(1)) and when the payer is under a duty to correct a return (see clause 891(1)).