House of Commons - Explanatory Note
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This change is adverse to some taxpayers in principle. But it is expected to have no practical effect as it is in line with current practice.

Change 64: VCT: excluded activities: the meaning of trade in relation to the provision of services or facilities for another business: clause 310 and Schedule 2 Part 8 (excluded activities: provision of services or facilities for another business)

This change adapts the definition of "trade" in paragraph 5(4) of Schedule 28B to ICTA.

Schedule 28B to ICTA explains the meaning of a qualifying holding. In paragraph 1(1):

This Schedule applies, where any shares in or securities of any company ("the relevant company") are at any time held by another company ("the trust company"), for determining whether and to what extent those shares or securities ("the relevant holding") are, for the purposes of section 842AA to be regarded as at that time comprised in the trust company's qualifying holdings.

In the rewrite the trust company is called "the investing company".

Paragraph 4 of Schedule 28B to ICTA is concerned with the meaning of a qualifying trade. Paragraph 5 contains provisions that interpret paragraph 4. Paragraph 5(4) contains a definition of trade:

References in paragraph 4 above or this paragraph to a trade, except the references in paragraph 4(2)(f) to the trade for which services or facilities are provided, shall be construed without regard to so much of the definition of "trade" in section 832(1) as relates to adventures or concerns in the nature of trade; and those references in paragraph 4(2)(f) above to a trade shall have effect, in relation to cases in which it is carried on by a person other than a company, as including references to any business, profession or vocation.

Paragraph 4 of Schedule 28B to ICTA defines a "qualifying trade" and lists a number of activities (called "excluded activities" in the draft rewritten clauses) that may prevent a trade being a qualifying trade. Paragraph 4(2)(f) concerns the activity of:

providing services or facilities for any such trade carried on by another person .. [which] consists, to a substantial extent, in activities within any of paragraphs (a) to (ee) above and is a trade in which a controlling interest is held by a person who also has a controlling interest in the trade carried on by the company providing the services or facilities.

Paragraph 5(2) and (3) interpret a "controlling interest".

As noted, under paragraph 5(4) of Schedule 28B to ICTA the reference to the trade in paragraph 4(2)(f) is governed by the definition in section 832(1) of ICTA, in relation to the trade for which services or facilities are provided.

Clause 923 rewrites section 832(1) for income tax. There are two references to this clause in Chapter 4 of Part 6 of this Bill.

First in clause 300(4) (meaning of "qualifying trade"):

References in this section to a trade are to be read without regard to the definition of "trade" in section 923.

Secondly in clause 313(3) (interpretation of Chapter):

References in sections 303 to 309 to a trade are to be read without regard to the definition of "trade" in section 923 (see also section 300(4)).

These clauses do not apply to clause 310 (provision of services or facilities for another business) which rewrites paragraph 4(2)(f) and paragraph 5(2) to (4). So clause 923 applies to define "trade" in clause 310. The interpretation applies to all the references to "business" in clause 310 and not only to the business for which services or facilities are provided.

The other part of paragraph 5(4) of Schedule 28B to ICTA states that references in paragraph 4(2)(f) of that Schedule to a trade include references to any business, profession or vocation in relation to some cases. These are the cases in which a person other than a company carries on the trade.

In clause 310 there are consistent references to "business" rather than "trade". This includes references to the business carried on by a company. Paragraph 33 of Schedule 15 to FA 2000 (corporate venturing scheme) has been used as a model for this.

Instead of interpreting a trade as including a reference to "any business, profession or vocation", the approach in clause 310(5)(b) is the other way round. It provides:

"business" includes any trade, profession or vocation.

In effect therefore, in this clause, a trade includes a business, profession or vocation, whether it is carried on by "a company" or "a person other than a company".

The first part of the change (in relation to the definition in clause 923) simplifies things. In whatever way "trade" is interpreted in relation to the provider of the services or facilities in clause 310, the activity of the relevant company or a qualifying subsidiary is required to be a qualifying trade for the other purposes of Chapter 4 of Part 6 of this Bill.

In theory the second part of the change extends the scope of this excluded activity to a business, profession or vocation carried out by a company for which the services are provided. In practice it is unlikely that the activity of this company, which constitutes an excluded activity within paragraph 4(2)(a) to (ee) of Schedule 28B to ICTA, would be other than a trade.

The change is similar but not identical to Change 46 in clause 199 (the enterprise investment scheme). The changes get rid of an extra layer of complexity and have little or no practical effect.

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

Change 65: VCT: meaning of "company" and "shares" in Part 6: clause 332 and Schedule 2 Part 8 (meaning of "company", "shares" and "research and development" in Part 6)

This change provides that "company" and "shares" have the same meaning in Part 6 of this Bill (Venture capital trusts) as, by section 842(4) of ICTA, they have in section 842 of ICTA (Investment trusts).

Background

Section 842AA(11)(c) of ICTA provides that:

without prejudice to their application in relation to provisions applied by paragraph (a) or (b) above, subsections (3) and (4) of [section 842] shall apply in relation to any reference in [section 842AA] to a holding or an addition to a holding as they apply in relation to any such reference in [section 842].

That provision is very compressed and therefore difficult to follow.

The definition of "company" in section 288(1) of TCGA (the TCGA definition), as provided for by section 842(4) of ICTA, differs from that in section 832(1) and (2) of ICTA (the ICTA definition). In broad terms the TCGA definition's treatment of most unit trusts as companies (see section 99(1) of that Act) means that it is wider in one sense than the ICTA definition. The ICTA definition does not automatically apply for the whole of ICTA since section 832(2) provides that it does not apply where:

    the context otherwise requires because some other definition of "company" applies

The definition of "shares" in section 288(1) of TCGA and the treatment of rights of unit holders as shares in section 99(1) of TCGA has no counterpart in section 832 of ICTA. Individual provisions of ICTA give whatever meaning of "shares" is appropriate to the provision in question (section 842(4) is an example of that in relation to investment trusts).

Companies invested in

It seems clear from section 842AA(11)(a) of ICTA (read with section 842(4) of ICTA) that references in section 842AA to a holding in a company contemplate that "company" and "shares" use the TCGA definition. And similarly from section 842AA(11)(c) it seems clear that references in section 842AA to investments of any description, in a company, contemplate that "company" and "shares" use the TCGA definition.

The two concepts in section 842AA of holding in a company and investments of any description relate to things in which the investing company that is, or may be, a venture capital trust has an interest. It would be reasonable from that context to suppose that "company" and "shares" in Schedule 28B to ICTA (venture capital trusts: meaning of "qualifying holding" in section 842AA) also use the TCGA definition.

The general use of the TCGA definition is probably one of the intended effects of section 842AA(11)(c) but, as noted earlier, that provision is difficult to follow. The definition of "company" and "shares" in paragraph 17 of Schedule 33 to FA 2002 (Venture capital trusts winding up and mergers etc) appears to have proceeded on the basis that Schedule 28B of ICTA uses the TCGA definition.

Investing company

In the case of the investing company that is, or may be, a venture capital trust it seems to make no difference whether "company" uses the TCGA definition or the ICTA definition. The investing company must be an entity capable of having an accounting period (see section 842AA(2) of ICTA) and that requires the investing company to be a company within the meaning of ICTA (see section 12 of ICTA).

That is a characteristic shared with an investing company which is, or may be, an investment trust. Section 842(4) uses the TCGA definition of "company" and "shares" for the investing company (or any other company).

Conclusion

There appears to be no reason for section 842AA of ICTA to have two different definitions of "company" and "shares".

Clause 332 provides that the TCGA definition of "company" and "shares" applies in Part 6 (Venture capital trusts). That is a change because there is no such explicit provision in the source legislation.

Schedule 2 Part 8 (meaning of "company", "shares" and "research and development" in Part 6) ensures that the change will not apply to any holding of investments of a particular description held by a company at the end of 5 April 2007. But the change will apply from any later time at which the holding of investments of that particular description ceases to be held by that company.

This change is adverse to some taxpayers and favourable to others in principle. But it is expected to have no practical effect as it is in line with current practice.

Change 66: Interest relief: loans partly meeting requirements: clause 386

This change introduces a rule to apportion the amount of interest paid where a mixed loan is partly repaid.

Section 367(4) of ICTA deals with a loan in respect of which only a part is used for qualifying purposes (a mixed loan). The rule is that the interest eligible for relief is the percentage of the total equal to the percentage of the mixed loan that was originally applied to qualifying purposes.

It is not made explicit in section 367(4) of ICTA how the interest should be apportioned when a mixed loan is partly repaid. Where the repayment is less than the non-qualifying part of the mixed loan, so that the reduced loan is still mixed, the original percentage is applied. The result is that the repayment is apportioned rateably between the qualifying and non-qualifying parts. But the position is uncertain where the reduced loan is less than the original qualifying part as it could be argued that the reduced loan is no longer mixed and that section 367(4) has no application.

The fairest solution appears to be that all repayments should be applied rateably between the qualifying and non-qualifying parts, so that the percentage of interest eligible for relief is fixed for that loan at the outset. Accordingly, clause 386(3) and (4) provide such a rule. The rule confirms the treatment that has been applied in practice.

A different rule applies where capital has been recovered from the investment funded by the qualifying part of a loan. In such a case, by virtue of section 363(1) of ICTA, the qualifying part of the loan is treated as repaid to the extent of the recovery. A signpost to that rule, which is in clause 406(5), is provided in clause 386(3).

This change is adverse to some taxpayers and favourable to others in principle. But it is expected to have no practical effect as it is in line with current practice.

Change 67: Interest relief: exclusion of double relief: finality: clause 387

This change makes clear when the amount of interest allowed as a business expense is finally determined for the purposes of rewriting section 368(3) of ICTA. It corresponds to Change 12 in Annex 1 to the Explanatory Notes accompanying ITTOIA in relation to the rewrite of section 368(4) of ICTA.

Section 353 of ICTA provides for interest to be claimed as a relief. In limited circumstances that relief may also qualify as a deduction in calculating the profits of a trade or property business. Section 368(3) of ICTA provides that relief is not given under section 353 of ICTA if a deduction for the interest has been taken into account as a business expense.

Section 368(3) of ICTA is subject to section 368(6) of ICTA. Section 368(6) provides that references to an amount taken into account are references to an amount taken into account in an assessment that has been finally determined.

The term "finally determined" does not fit well with Self Assessment. Clause 387(7) makes clear that it means when the interest allowed as a deduction in an assessment can no longer be varied.

This change has no implications for the amount of tax paid, who pays it or when. It affects (in principle but not in practice) only administrative matters.

Change 68: Interest relief: loan to buy plant or machinery for partnership use: clauses 388 and 389

This change clarifies the scope of section 359(1) of ICTA as including relief for interest on a loan to a partner for capital expenditure on assets used in a property business carried on by the partnership.

Section 359(1) of ICTA provides relief for interest on a loan to a partner who invests the proceeds in assets used by a partnership which is entitled to capital allowances under section 264 of CAA in respect of them. Section 264 gives entitlement to allowances for assets used in a qualifying activity carried on by a partnership. "Qualifying activity" is defined in section 15 of CAA and extends not only to trades and professions (which are clearly within the scope of section 359(1)) but also to other activities, one of which is an ordinary property business.

On the face of it, therefore, partnerships which carry on ordinary property businesses or those other activities come within the scope of this provision. But that view does not sit comfortably with section 359(2) of ICTA, which provides for relief to be apportioned but only where the business use is for the purposes of a trade or profession, not any other activity.

In fact, the reference to section 264 of CAA was substituted by paragraph 27(1)(a) of Schedule 2 to CAA for the previous reference to section 44 of CAA 1968. That section had itself been repealed by CAA 1990, a consolidation Act, but the need to amend section 359(1) of ICTA so as to substitute a reference to CAA 1990 for the reference to CAA 1968 was overlooked. So the text remained unaltered, although the references to the provisions in CAA 1968 were to be read as references to the re-enacted provisions by virtue of section 17(2)(a) of the Interpretation Act 1978.

In this case, the re-enacted provision was section 65 of CAA 1990, which related only to partnerships carrying on a trade (although, by virtue of section 27 of CAA 1990, section 65 of CAA 1990 applied to professions too, and it is clear from the mention of professions in section 359(2) of ICTA that they are within that section). But section 28A of CAA 1990, inserted by FA 1997, treated Schedule A businesses as trades for the purposes of Part 2 of CAA 1990 (including section 65). So it is arguable that section 359(1) of ICTA then applied to assets used in Schedule A businesses.

There is, however, a contrary argument, that the reference in section 359(1) of ICTA to section 44 of CAA 1968 (and hence to section 65 of CAA 1990) should have been read without the gloss on the reference to "trade" given by section 28A of CAA 1990. In general a reference in one enactment to another is to be read as a reference to that other Act as amended or applied by a later enactment, unless there is a clear intention that it should not be so read. (See section 20(2) of the Interpretation Act 1978.)

In this case, it is possible to discern such a contrary intention; FA 1997 did not, for example, amend section 359(2) of ICTA to make it clear that Schedule A businesses were covered by it. And the fact that section 359(1) of ICTA still actually referred to section 44 of CAA 1968, rather than a provision falling into Part 2 of the CAA 1990, is another indication that no intention to gloss this reference should be inferred.

CAA amended section 359(1) of ICTA by substituting a reference to section 264 of CAA for the reference to section 44 of CAA 1968. As mentioned above, this apparently extended section 359(1) of ICTA to all qualifying activities. On either of the views about section 28A of CAA 1990 mentioned above, that would have been a change in the law. But CAA was a Tax Law Rewrite project Act and as such the starting point must be to assume that it did not change the law, except where such changes were acknowledged. It is considered therefore that a court would lean in favour of an interpretation that did not result in any such change, and accordingly might read section 359(2) of ICTA as imposing a restriction cutting back section 359(1) to its original scope.

In practice, it appears that loans for assets used for ordinary property businesses may have been given relief in some cases, but relief has not been given where the assets are used for the other qualifying activities ostensibly included by the amendment made by CAA.

In view of the uncertainty about the current law, section 359 of ICTA has been rewritten so as to include loans for assets used for trades, professions and ordinary property businesses carried on by partnerships, but not the other qualifying activities in section 15 of CAA. See clauses 388(2)(a) and (4) and 389(4).

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

Change 69: Interest relief: loan to buy machinery or plant: clauses 388 and 390

This change ensures that interest paid on a loan to a partner or employee to buy machinery or plant for use in a partnership or an employment is eligible for relief for so long as the machinery or plant is within the capital allowances regime.

Section 359(1) of ICTA provides relief for interest on a loan to a partner to buy machinery or plant for use in a trade or profession carried on by a partnership. Section 359(3) provides relief to an employee or office-holder to buy machinery or plant for use in an employment or office. In both cases eligibility for relief depends on the individual being "entitled to a capital allowance or liable to a balancing charge" in respect of the plant or machinery for the period of account or tax year concerned.

In any particular period while the asset continues to be used, it may be that the individual is not entitled to a capital allowance. The obvious such case is where the individual claimed a 100% first year allowance in an earlier period. In practice, loan interest relief is treated as continuing to be available in these circumstances. Clauses 388(3) and 390(3) give effect to this practice by treating the individual as entitled to a capital allowance until a disposal value in respect of the asset is brought into account.

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 70: Interest relief: loan to invest in partnership: meaning of "member of partnership": clauses 399 and 409

This change gives statutory effect to Statement of Practice A33.

Section 362 of ICTA provides that an individual who is a member of a partnership may obtain relief for interest paid on money borrowed to invest in the partnership. In the predecessor to section 362 (section 21 of FA 1969) there was no requirement to be a partner, but only personally to act in the trade etc carried on by the partnership. The new wording, introduced by section 25 of FA 1981, was intended to relax the work condition, for example by including "sleeping partners", but also raised doubts as to whether certain individuals who are not true equity partners no longer qualified.

Statement of Practice A33 addresses the eligibility of individuals who are commonly termed "salaried partners". It provides:

The Board are advised that [sections 362 and 363 of ICTA] extend to salaried partners in a professional firm who are allowed independence of action in handling the affairs of clients and generally so to act that they will be indistinguishable from general partners in their relationships with clients.

Clause 399(5) gives effect to this Statement of Practice. That clause is also applied by subsection (3) of clause 409, which gives effect to ESC A43.

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 71: Interest relief: loan to invest in co-operative: clause 401 and Schedule 2 Part 9 (interest: loans for investing in co-operatives)

This change omits the condition that the loan must have been made after 10 March 1981.

Section 361(2)(a) of ICTA specifies that interest on a loan which is invested in a co-operative is only eligible for relief if the loan is made after 10 March 1981. As it is considered unlikely that loans made for this purpose prior to that date still exist, this condition has not been included in the rewritten legislation. But if, exceptionally, there were such loans then this change means that relief would be due provided the other conditions for relief are met.

In addition, where an original loan invested in a co-operative has been replaced by a new loan the condition that the original loan must have been made after 10 March 1981 no longer applies. That is reflected in the provision relating to clause 401 in Schedule 2.

This change is in taxpayers' favour in principle and may benefit some in practice. But the numbers affected and the amounts involved are likely to be small.

Change 72: Interest relief: loan to pay inheritance tax: clause 403

This change amends and simplifies the condition in section 364(1)(a) of ICTA for interest on money borrowed to pay inheritance tax to be eligible for relief.

Interest on loans to personal representatives to pay inheritance tax is eligible for tax relief subject to certain conditions. The condition in section 364(1)(a) of ICTA is that the loan to the personal representatives is to meet:

before the grant of representation or confirmation, .. inheritance tax payable on the delivery of the personal representatives' account and attributable to the value of personal property to which the deceased was beneficially entitled immediately before his death and which vests in the personal representatives or would vest in them if the property were situated in the United Kingdom.

The wording of this provision derives from the rules regarding estate duty payable in respect of personal property in the estate which the personal representatives were required to pay before they could obtain a grant of representation or confirmation. Duty on personal property was payable on death, whereas duty on real property was due on the first anniversary of the death. So relief was available on a loan to meet the tax payable before grant of representation or confirmation, but not tax payable later.

Under the inheritance tax rules, tax attributable to liquid or easily realisable assets is due six months after the end of the month in which death occurred, whereas payment of the tax attributable to other assets may be spread over ten years. Section 226(2) of IHTA requires personal representatives applying for a grant of representation or confirmation to pay all the tax for which they are liable on delivery of their account. In practice, this means all non-instalment tax and any instalments already due. So to give relief for interest on a loan to meet tax payable before grant of representation or confirmation it is only necessary to refer to tax payable under section 226(2). The reference to "personal property" is no longer apt.

Therefore clause 403(2), which rewrites the condition in section 364(1)(a) of ICTA, simply refers to tax that the personal representatives are obliged to pay under section 226(2) of IHTA.

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 73: Interest relief: omission of section 368(2) of ICTA: clause 404

This change omits the requirement under section 368(2) of ICTA that relief for interest under section 353 of ICTA is not to be given against income of a company except where the company is not UK resident and it cannot be taken into account in computing corporation tax.

Section 368(2) of ICTA contains two rules. First, it provides that no relief under section 353 of ICTA is to be given against income chargeable to corporation tax, except where the company is not UK resident and the interest cannot be taken into account in computing corporation tax.

But the only persons now entitled to claim interest relief under section 353 are individuals, except that personal representatives (PRs) may claim for relief under section 364 of ICTA (loan to pay inheritance tax). Companies acting as PRs do so in a fiduciary capacity and profits arising to companies in that capacity are liable to income tax rather than corporation tax by virtue of section 8(2) of ICTA. So if company PRs take out a loan to pay inheritance tax, the interest is a deduction in the income tax computation of the estate, not a deduction for corporation tax purposes.

The second rule in section 368(2) provides that relief under section 353 shall not be given against any other income of a company, (ie income not liable to corporation tax) except where the company is not UK resident and the interest cannot be taken into account in computing corporation tax.

Originally, this enabled a non-resident company receiving rents from property in the United Kingdom to obtain relief for interest on loans to acquire property in the United Kingdom, despite the fact that it could not obtain a deduction from income within Schedule A. It could also have referred to income arising to companies in their capacity as PRs or trustees (and so subject to income tax) or to income beneficially owned by the company but not chargeable to corporation tax for some reason, like distributions from UK resident companies.

As noted above, however, the rule in section 368(2) could now only be relevant in the case of company PRs borrowing to pay inheritance tax. So, the only sort of "other income of a company" that could be in point now is income arising to companies in their capacity as PRs. But there is no reason to prevent relief on such loans being given to UK resident companies, while allowing it to non-UK resident companies. And it is not thought that in practice this relief has been denied to UK resident companies acting as PRs.

Accordingly section 368(2) has not been rewritten.

 
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Prepared: 8 December 2006