Finance Bill


[back to previous text]

Jane Kennedy: I have said before in Committee, in that well-known Liverpool phrase, “God loves a tryer”, and I did seek to try it on. Amendments Nos. 127 and 128 address two interchangeable avoidance schemes. It is estimated that unless both schemes are closed, the loss of tax will be £200 million per annum. The two schemes have been disclosed to HMRC under disclosure rules. The rules for taxing companies on their loans and derivatives are accounts based, with the result that profits are generally chargeable to tax only if the profits are recognised in the accounts in accordance with generally accepted accounting practice.
One scheme that has been disclosed allows companies to sell their loans and derivatives without triggering recognition of any accounting profit. Amendment No. 127 prevents a scheme from working where a loan or derivative is sold in return for shares. Then for tax purposes the full market value of the shares will have to be brought into account as the sale proceeds. But to ensure that this does not apply in inappropriate circumstances, the amendment can operate only where the disposal is made with the object of reducing the profits to be brought into account.
The hon. Member for Runnymede and Weybridge asked about transfer. I am grateful to him for drawing my attention to paragraph 3B. There is an explanation but, frankly, it is quite complicated and it is probably better if I write to the Committee about that. I shall deal with the second scheme which has been disclosed to HMRC. It also aims to allow companies to realise profits without attracting a tax charge. As the hon. Gentleman will know, the rules for taxing companies’ loans and derivatives have group continuity divisions.
In the newly notified scheme, companies with derivative contracts or loans with a market value in excess of their historic cost and their accounts carrying value sell the contracts or loans at full value to a partnership of which the other members are fellow group companies. That gives rise to an accounting profit to the transferor, but it is claimed that that profit is not taxable because the group neutrality rules apply. Subsequently, another company joins the partnership in return for making a contribution to the capital of the partnership equal in value to the asset transferred to that partnership. The new partner then becomes entitled to virtually all of the partnership’s profits, including any rights in respect of the asset. That means that, in substance, the asset has been sold to the new partner, but it is claimed that no tax charge arises.
Government amendment No. 128 prevents that scheme from working. The group neutrality rules will not apply where the transfer of an asset to which those rules would otherwise apply is made as part of an arrangement that aims ultimately to transfer the asset outside the group. Again, to ensure that that does not happen in inappropriate circumstances, the amendment can operate only where the disposal is designed to avoid tax.
Mr. Hammond: I am sorry to break the Minister’s flow, but I would like to take her back to the first part of what she said. The Minister sought to reassure the Committee that the provisions would apply only where the activity is designed to reduce or eliminate taxable interest. I am seeking confirmation that that could not be deemed to have arisen because of a debt/equity swap and that a debt/equity swap per se would not be treated as a transaction designed to eliminate what would otherwise be taxable interest payments.
Jane Kennedy: This is a very complex area, and I want to ensure that I get this right. I will study Hansard and read both what he and I have said to ensure that I have been clear. In a standard debt/equity swap there is no intention of reducing taxable profits—although that might be an effect, it is not the intention. Therefore, the legislation would not apply.
Mr. Hammond: So, if I hold a loan note from company X that entitles me to receive £10,000 a year interest, which will be taxable in my hands, and I agree to swap it for equity in company X, which may or may not give rise to dividends, but certainly will not give rise to taxable interest payments, then that will not be regarded as an act taken to avoid tax on that interest stream. If that is what the Minister is saying, I think that that satisfies the concerns raised.
Jane Kennedy: It is. As I have said, this is a very complex area, but that is my understanding of the arrangements. I have already explained Government amendment No. 127. Government amendment No. 128 will prevent the second scheme from working. I hear the hon. Gentleman’s point about the unintended consequences of some of this work. I am following this carefully and I hear the theme that he is developing as we go through the Bill. I am satisfied that the anti-avoidance action is necessary. As I have said, the schemes that Government amendments Nos. 127 and 128 deal with are interchangeable. Unless both schemes are closed, the loss of tax is estimated at £200 million per annum. Therefore, I hope that both amendments will be accepted.
Amendment agreed to.
Amendment made: No. 128, in schedule 22, page 279, line 34, at end insert—
‘Avoidance relying on continuity of treatment provisions
3B (1) In paragraph 12 of Schedule 9 to FA 1996 (loan relationships: continuity of treatment), after sub-paragraph (2C) insert—
“(2D) This paragraph does not apply where—
(a) the transferor company is party to arrangements in accordance with which there is likely to be a transfer of rights or liabilities under the loan relationship by the transferee company to another person in circumstances in which this paragraph would not apply, and
(b) the purpose, or one of the main purposes, of the arrangements is to secure a tax advantage for the transferor company or a person connected with it.
(2E) In sub-paragraph (2D) above—
(a) “arrangements” includes any agreement, understanding, scheme, transaction or series of transactions,
(b) “tax advantage” has the meaning given by section 840ZA of the Taxes Act 1988, and
(c) “transfer” includes any arrangement which equates in substance to a transfer (including an acquisition or disposal, or increase or decrease, in a share of the profits or assets of a partnership);
and section 839 of the Taxes Act 1988 (connected persons) applies for the purposes of that sub-paragraph.
(2F) This paragraph does not apply in relation to a disposal if paragraph 11B above applies in relation to it.”
(2) In paragraph 28 of Schedule 26 to FA 2002 (derivative contracts: continuity of treatment), after sub-paragraph (3ZA) insert—
“(3ZB) This paragraph does not apply where—
(a) the transferor company is party to arrangements in accordance with which there is likely to be a transfer of rights or liabilities under the derivative contract by the transferee company to another person in circumstances in which this paragraph would not apply, and
(b) the purpose, or one of the main purposes, of the arrangements is to secure a tax advantage for the transferor company or a person connected with it.
(3ZC) In sub-paragraph (3ZB) above—
(a) “arrangements” includes any agreement, understanding, scheme, transaction or series of transactions,
(b) “tax advantage” has the meaning given by section 840ZA of the Taxes Act 1988, and
(c) “transfer” includes any arrangement which equates in substance to a transfer (including an acquisition or disposal, or increase or decrease, in a share of the profits or assets of a partnership);
and section 839 of the Taxes Act 1988 (connected persons) applies for the purposes of that sub-paragraph.
(3ZD) This paragraph does not apply in relation to a disposal if paragraph 27A applies in relation to it.”
(3) The amendments made by this paragraph have effect in relation to transactions taking place, or a series of transactions of which the first takes place, on or after 16 May 2008.’.—[Jane Kennedy.]
3.15 pm
Mr. Hammond: I beg to move amendment No. 139, in schedule 22, page 280, line 7, at end insert
‘to the extent that such debits exceed the aggregate amount of credits brought into account under this Chapter in that or any previous accounting period in respect of that share’.
The Chairman: With this it will be convenient to discuss the following amendments: No. 140, in schedule 22, page 280, leave out line 8.
No. 141, in schedule 22, page 280, line 13, at end insert
‘to the extent that such debits exceed the aggregate amount of credits brought into account under this Chapter in that or any previous accounting period in respect of that share.’.
No. 142, in schedule 22, page 280, leave out line 14.
Mr. Hammond: The main object of the provisions is to prevent the rules in the Finance Act 1996 under which certain shares are treated as debt from being manipulated deliberately to create artificial debits by reference to a fall in the fair value of the relevant shares. The Bill deals with the issue by denying the holder of such shares any debits under the loan relationship rules. That is fair enough. We have no dispute with the purpose of the provision, only with the fact that it is too broad.
If all debits are denied, a holder may, for example, be taxed on a fair value increase representing an interest accrual, but will be unable subsequently to claim relief if the return becomes unrealisable because the underlying debt is impaired. He will, in effect, have been taxed on the accrual of the interest when it was expected that it would be paid, but be unable to obtain an unwinding of the tax effect if that debt becomes impaired and it is apparent that he will not receive the payment.
Amendments Nos. 139, 140 and 141 would address the issue by allowing debits when credits have previously been brought into account. It is a restrictive set of circumstances, but something that seems entirely equitable. It would provide appropriate protection for the Exchequer by limiting the debits that are available in respect of such shares to amounts that are equal in aggregate to the amount of credit previously brought into account under the loan relationship rules. Our amendments would limit the scope of the changes so that they are more appropriately targeted. They would reflect circumstances when in a loan relationship debits would be allowed. When that would be the case in a loan relationship and the matter at issue was the fair value of shares, such measures would ensure that the debit was allowed to reflect the unwinding of a position that had previously given rise to an increase in value that causes a credit.
I hope that the Minister accepts that the amendments are intended to deal with circumstances in which the schedule would be unfair to the taxpayer. I am interested to hear her comments.
Jane Kennedy: We announced on Budget day that we intended to introduce a package of measures to amend existing legislation known as the shares as debt rules. One of the changes was that, when the shares as debt rules apply, no losses may be brought into account in respect of any share to which the rules apply. That was in response to a number of schemes notified to HMRC that were designed to create artificial losses through the use of intra-group, depreciatory transactions.
I appreciate that the amendments might be of a probing nature, but they would qualify the rule preventing relief for losses by providing that debits should still be allowed to the extent that they do not exceed profits that have previously been taxed in respect of the share in question. If a profit of, say, 10 is taxed in year 1, the amendment would mean that the company could claim relief for a debit of up to 10 in year 2. Shares as debt rules would apply only if the shares increased in value in the same way as interest, so debits will not arise in normal cases.
Mr. Hammond: I think that I understand what the Financial Secretary is saying. I do not suggest that the debit be allowed where the underlying value of shares has fallen. In the example that I quoted, the fall in value was due to the impairment of the receivability of the accrued interest: an accrual of interest gives rise to a tax charge, but it then becomes apparent that the debt represented by that accrued interest has been impaired and will not be paid, and the value of the shares falls accordingly. That should be allowed as a debit on the other side of the calculation.
Jane Kennedy: I hope that what the hon. Gentleman says is right.
Mr. Hammond: Does the Financial Secretary mean that she hopes that I am wrong?
Jane Kennedy: Yes; the hour is growing late.
We fear that the amendments would allow avoidance to continue. It is important to bear it in mind that the action that we are taking arises from a number of schemes that have been notified to us. I do not believe that what the hon. Gentleman fears will happen. The shares as debt rules apply only to contrived arrangements. It is the purpose of the arrangements that will be tested. Companies that had been taxed under the shares as debt rules in previous years could enter into a depreciatory transaction in a later year that generated artificial losses equal to past profits. Those losses could be set against other profits, with the result that any tax paid in respect of earlier years could effectively be paid back in a later year. If the amendments were accepted, there would continue to be loss of tax estimated at up to £100 million per year. I therefore hope that the hon. Gentleman will not press his amendments.
Mr. Hammond: I hear what the Financial Secretary is saying. It was not the intention to create a further avoidance opportunity, and in the example that she just read out, the assumption was that the tax paid in an earlier period would be offset against a loss arising from another cause in a later period. Perhaps my amendment was not drafted narrowly enough. I sought to deal with the case where there had been an impairment of the value of the accrued income in the share transaction. Would the Financial Secretary be prepared to pursue that by correspondence? If what she says is right, our amendment is too widely drafted. In that case I would like to consider whether there was a narrower drafting that would address the concern that has been raised with me. That concern is the possible unfairness where something that effectively has not been received is taxed on an accrual basis and it then becomes apparent that it will not be received, not because of an artificial transaction but because of a genuine impairment. We must ensure that there is no asymmetry in the tax treatment of a genuine transaction. Even if it were right to tax the original accrued increase in value as part of the anti-avoidance regime, we must ensure that we do not maintain that tax treatment where it turns out that there was no increase in value because the accrual was impaired.
 
Previous Contents Continue
House of Commons 
home page Parliament home page House of 
Lords home page search page enquiries ordering index

©Parliamentary copyright 2008
Prepared 23 May 2008