Session 2010-11
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Finance (No. 2) Bill

Finance (No. 2) Bill

The Committee consisted of the following Members:

Chair: Martin Caton 

Brown, Lyn (West Ham) (Lab) 

Burt, Lorely (Solihull) (LD) 

Elphicke, Charlie (Dover) (Con) 

Evans, Chris (Islwyn) (Lab/Co-op) 

Gauke, Mr David (Exchequer Secretary to the Treasury)  

Gilmore, Sheila (Edinburgh East) (Lab) 

Goodwill, Mr Robert (Scarborough and Whitby) (Con) 

Greening, Justine (Economic Secretary to the Treasury)  

Hanson, Mr David (Delyn) (Lab) 

Harrington, Richard (Watford) (Con) 

Leslie, Chris (Nottingham East) (Lab/Co-op) 

McCarthy, Kerry (Bristol East) (Lab) 

McGovern, Alison (Wirral South) (Lab) 

Mordaunt, Penny (Portsmouth North) (Con) 

Shannon, Jim (Strangford) (DUP) 

Sharma, Alok (Reading West) (Con) 

Shelbrooke, Alec (Elmet and Rothwell) (Con) 

Williams, Stephen (Bristol West) (LD) 

Simon Patrick, Committee Clerk

† attended the Committee

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Public Bill Committee 

Tuesday 19 October 2010  


[Martin Caton in the Chair] 

Finance (No. 2) Bill

Clause 5 

Venture capital schemes 

4.30 pm 

Question proposed, That the clause stand part of the Bill. 

Chris Leslie (Nottingham East) (Lab/Co-op):  Many members of the Committee will no doubt wish to comment on what are quite technical matters, and your forbearance in the Chair would be most appreciated, Mr Caton. I know that you will be fair and reasonable at all times and in all your rulings. 

Clause 5 facilitates the introduction of schedule 2 on venture capital schemes. As hon. Members know, venture capital trusts give tax breaks to individuals investing in small unlisted trading companies. They offer a set of tax advantages, including, for instance, 30% income tax relief on the costs of investment up to about £200,000, a capital gains tax exemption on disposals and tax-free dividend payments. The typical venture capital trust involves a group of between 20 and 40 companies. 

Currently, all venture capital trusts are companies listed on the main market of the London stock exchange. Government Members will be particularly pleased to hear that the provisions in the Bill appear to be largely driven by the need to align UK legislation with wider European Union regulations on venture capital trusts. No doubt Government Members are all good pro-Europeans, and it is healthy to see that they are taking a harmonising approach in their legislation. In particular, the regulations concern shares in venture capital trusts and the markets in which they are listed. 

At present, regulations under the Income Tax Act 2007 require that the ordinary share capital be included in the official UK list. Clearly, and quite rightly, that can, to a degree, be construed as a barrier to the free movement of capital. Accordingly, the clause changes arrangements so that shares can instead be admitted for trading on any European Union regulated market. As I said, that is commendably pro-European. By allowing listing on any European Union market, and indeed any European economic area market, as set out in the Official Journal of the European Union notices annually, the new rules will, I hope, ensure the greater transparency and interoperability of schemes across national boundaries. 

The schedule makes a number of other technical changes to venture capital schemes. It includes changes that regulate the composition of venture capital trusts’ eligible shareholdings and it redefines the minimum criteria required. In particular, the clause introduces a

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financial health check to ensure that tax reliefs would be granted only if there was a good prospect of the business remaining a going concern. That applies to shares in companies that it would be reasonable to classify as being in difficulty, which would exclude them from qualifying. That is quite an interesting innovation in policy and tax law. Obviously, it will probably be the focus of much comment and debate today. 

The Opposition agree that it is necessary to align and harmonise the regulatory arrangements for venture capital trusts and enterprise incentive schemes in the wider European Union context. We also concede that it is a sensible and rational change to have a financial health check; that is certainly worth while. However, I want to probe the Minister on several aspects of the operation of the clause. 

First, the Bill states: 

“The issuing company is ‘in difficulty’ if it is reasonable to assume that it would be regarded as a firm in difficulty for the purposes of the Community Guidelines on State Aid”, 

which were listed under the reference 2004/C 244/02. However, I am told that the Institute of Chartered Accountants pointed out that those guidelines appear no longer to have effect—a point that I think came up on Second Reading. Therefore, there could be an anomaly in the Bill, in that the particular reference to the community guidelines on state aids may be otiose and create a situation in which the guidelines have lapsed. I would be grateful if the Minister clarified whether those guidelines are still effective. 

Will the Minister also precisely define the financial health check? Will it be applied, for instance, to a group of companies, and perhaps a newly created subsidiary of firms? Many hon. Members will know that corporate law is complicated. Many companies and firms are quite creative in how they can spur a series of enterprises and roll operations within various groupings of undertakings. I am concerned; if one part of a firm or group does not pass the financial “firm in difficulty” test but the larger part does, or vice versa, how will the operation of the test work? It is not clearly defined in the legislation. 

In particular, I am intrigued by the steps in the Bill that allow Her Majesty’s Revenue and Customs to apply the financial health check rule retrospectively, or at least in hindsight to withdraw the relief, possibly after a difficulty has occurred, potentially compounding the problems of small and medium-sized enterprises that otherwise might well have been able to make ends meet and continue as a going concern. I am anxious that the rules should not magnify the financial difficulties of a company if it is just getting by on or above the border line, especially if there is retrospective operation of the rules. I would be grateful if the Minister walked the Committee through the process of the judgment taken by regulators, companies and investors in applying that financial health check. 

A recent guide by Chancery chartered accountants stated that, as is self-evident, within the cluster of 20, 30 or 40 companies often grouped in venture capital trusts, one or two selected by that venture capital trust manager will typically fold, while others will prosper. If it is part and parcel of the normal chain of events in venture capital trusts for firms to be in difficulty, I would like to learn a little more from the Minister about how the whole tax relief arrangements for that venture capital trust might be treated. 

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As a subsidiary to a set of technical questions, I am also interested to know whether the Minister can say how the rules will apply to overseas holding companies—for instance, companies resident in tax havens. In those circumstances, how will information about the financial health and viability of those firms be discerned, gathered and communicated? Clearly, there is often less transparency in those overseas holding arrangements than in the UK. 

I refer the Minister to paragraph 2 of schedule 2, where a set of threshold changes is suggested, with a 70% threshold for eligible shareholders. As the current arrangement provides a regulated level at 30%, I want to understand from where that ratio derived. That is, obviously, a significant change to make in one go. 

I am sorry to fire so many questions at the Minister in quick succession. There are several other points that I would like to address, but if he thinks about the questions that I have asked, I will be grateful. 

The Exchequer Secretary to the Treasury (Mr David Gauke):  It is a great pleasure to serve under your chairmanship once again, Mr Caton. I am grateful to the hon. Member for Nottingham East for setting out some of the background to the clause, and I hope to respond to his questions. 

As we heard, clause 5 introduces schedule 2, which makes changes to the enterprise investment scheme and venture capital trusts, the two taxpayers’ venture capital schemes. The previous Administration agreed the changes with the European Commission in order to obtain state aid approval for the schemes. 

It might be helpful to provide some background to the schemes. They were introduced in 1994 and 1995 respectively to give investors a range of tax reliefs in return for investing in small, higher-risk companies, and they have been successful, supporting investment of £10 billion or so to date. The schemes help such companies, which face particular difficulties in raising finance, to start up and grow by encouraging investment in them. Such companies have never been more essential to the UK’s growth and jobs than they are now. 

To make the schemes comply with new state aid rules, various changes have already been made. The previous Government engaged in a two-year process to ensure compatibility with the new rules. Clause 2 introduces four final changes to the conditions that companies must meet. Those changes are set out in the schedule in detail, but briefly, they are as follows: companies benefiting from the reliefs will no longer have to carry on their trade wholly or mainly in the UK, they will have to meet an “in difficulty” test, venture capital trusts may be listed elsewhere in Europe and, although VCTs will have to hold higher amounts of equity, the definition of what constitutes equity will be slightly wider. 

The hon. Gentleman asked several questions, including whether the “in difficulty” test for enterprises had expired, rendering the provisions otiose. I can inform the Committee that the guidelines were extended for a further three years by a Commission communication of 9 July 2009. Therefore, the “in difficulty” test for companies continues to apply. 

In the context of enterprises in difficulty, he also asked what happens in relation to the other group companies if a company in a group is in difficulties. Essentially, the company to which the rule applies is the

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company issuing the shares. The position of other group companies will not generally be relevant. I hope that that provides clarification. 

The hon. Gentleman also asked whether a retrospective change could be made, as it might exacerbate the position of a company moving into difficulty if the test were applied. The test applies when the shares are issued. HMRC will not seek to withdraw relief where formal approval has been given and a company subsequently moves into difficulty. 

The hon. Gentleman asked about companies resident abroad, in particular those in tax havens. The schemes have always allowed money to be used overseas to some degree. The UK should still get a return on its investment when a UK company reaps the benefit of its overseas investment and, within EU rules restricting foreign investment, is liable to run into problems with the fundamental freedoms. That is why some of the provisions had to be relaxed. HMRC will still look at cases where companies are in difficulty, and at the rules that apply to companies resident abroad and how we get the information. I believe that guidance has been published on how that will be done. 

The hon. Gentleman also asked about the threshold change from 30% to 70%, and where the ratio came from. That is required under EU state aid rules, and it was discussed with the European Commission as part of the approval process. The figure of 70% is an EU requirement in such circumstances. I hope that that is helpful and provides the hon. Gentleman with some clarification on the fair questions that he raised. 

The clause was put out for consultation and a number of comments were received. As a result, changes have been made to some points of detail. Clause 5 provides certainty for business by ensuring compliance with venture capitalist schemes while allowing flexibility within the rules. 

4.45 pm 

Alison McGovern (Wirral South) (Lab):  It is a pleasure to serve for the first time on this Committee under your chairmanship, Mr Caton. I wanted to ask the Minister a couple of additional questions about the clause. The enterprise investment scheme was designed to help smaller, high-risk trading companies to offer relief to investors and it is a measure that could be particularly crucial at this time. 

Creative and high-tech companies, especially smaller creative or high-tech science-led companies, could be crucial to our future. That is especially true in my part of the world in Merseyside and the north-west, where we have particular expertise and a creative, science-led economy. I wanted to ask more about proposed new section 180A, which introduces the requirement that was referred to and concerns companies based 

“wholly or mainly in the United Kingdom,” 

rather than those that have “permanent establishment” in the UK. 

Does the Minister have an estimate for the volume of companies that will be affected? Is there any sense of what the trend might be? Will he say more about the representations that he mentioned and whether any of them covered that point? It would be helpful for the Committee to be made aware of the scale of the companies that we are dealing with, and to know how far that has been tracked by the Department. 

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The Minister also mentioned negotiations with the European Commission. Have any discussions involved the expertise of colleagues in the Department for Business, Innovation and Skills? They have particular responsibility for the kind of companies that I am concerned about. Will the Minister clarify for the Committee what discussions have taken place? 

On firms in difficulty, we are obviously at a time when that definition will be apposite to the position that companies find themselves in. Will the Minister indicate the number of companies in the UK that could be affected by the measure? It would be helpful to have a sense of size and scale, and to know what discussions have taken place so far on how the provisions might impact on those specific companies. 

Chris Leslie:  I want to follow up on a point made by the Minister, and I echo many of the reasonable questions asked by my hon. Friend the Member for Wirral South. The Minister answered my point about whether the reference to the community guidelines on state aid had expired, and he said that there was an extension for a further three years. I am always concerned that legislation should be as permanent and everlasting as we can frame it to be, but if there is a continual need for the updating of references, I presume that the Minister will have the power to bring forward reference changes in the consequential supplemental clause at the end of the Bill, if necessary. Alternatively, is there a risk that the clause will be in force for only three years, and that we shall then have to return to the matter in a future Finance Bill? That is, again, a minor drafting issue. 

The Minister mentioned that the financial health check applies only to the parent company, which issues the shares. I am still not quite clear in my mind about how often a parent company can be essentially a shell vehicle for a number of other activities within it. Clearly, the test is—or I presume it is—more of a voluntary requirement on all the participants, either in the company or in the purchase of the shares, and not just a requirement on the investigators and regulators in Her Majesty’s Revenue and Customs to impose the test. Therefore the disclosure burden must surely rest on those involved in the company; that might be the way of getting round the problem of disclosure, where there is a difficulty. If I am wrong, perhaps the Minister will tell me. 

It is good to hear that guidance is to be issued about the overseas holding company arrangements and, I think the Minister was implying, on the operation of the scheme and the financial assets generally. If he gave the Committee a sense of when the guidance is likely to be forthcoming from HMRC, that would be useful. If it is to be in the near future, it would be a useful insight if he could circulate it, or a draft of it, to the Committee. 

I wonder whether the Minister’s officials know—again, this is more for context—the cost to the Exchequer of providing the tax relief arrangements for venture capital trusts more generally. We would like to get a sense of what amounts of money—what flows—we are talking about, even if it is a broad estimate figure. A sense of the revenue implications would give us a flavour of whether the change is massively significant or quite technical. It would be useful to know the scale. 

I gather that in tomorrow’s spending review, issues about the green investment bank may crop up. I know

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that the Minister has various individuals scaling the walls of the Treasury as we speak; I do not know whether they have been peeled off. There are questions about the trend of availability of venture capital generally to small and medium-sized enterprises, and particularly those firms that are forging away on innovations in low-carbon technologies and so forth. If the Minister shares any insight he has into whether the green investment bank will provide some of the capital that perhaps would otherwise have come from venture capital schemes, that may give us a sense of what we are talking about. 

Finally, perhaps the Minister can also provide some illumination for the Committee as to a commitment that I understand the Lord Chancellor and Secretary of State for Justice gave when he was shadow Business Secretary, before the general election. He indicated that the Conservatives wanted to reform venture capital trusts to encourage investment in technology-based manufacturing, specifically. Yet I have not seen any of those commitments in the schedule or the Bill. If not now, when will the Government bring forward the changes that would fulfil the commitment made by the right hon. and learned Gentleman? 

Mr Gauke:  I am grateful to hon. Members for those further questions and shall try to deal with them all. The point was raised about how many companies will be affected, in particular by the relaxation of the definition in relation to a permanent establishment test. It is not possible to give an exact number, but we believe that a relatively small number of companies will benefit from that, largely because, under the enterprise investment scheme, investors often want to invest in businesses close to them. It is not therefore likely to have a big impact. 

It might help the Committee, and partly respond to some of the other questions, if I highlight the impact of the clause as a whole. The cost is £20 million in 2011-12, rising to £30 million in 2012-13, and £40 million in 2013-14 and 2014-15. That gives an idea of the scale involved. That relates to all aspects of the clause, and I hope that it provides a useful idea of the overall cost of the measures. We should consider it in the context of the cost of the EIS to the Exchequer of £180 million, and the cost of the VCT scheme of £80 million in 2009-10. [ Interruption. ]  

Chris Leslie:  How much did the Minister say? Will he repeat that figure? 

Mr Gauke:  The overall cost of the EIS is £180 million for 2007-08, and the Exchequer cost of the VCT regime in 2009-10 is £80 million. I hope that that is useful. On the overall position on venture capital funding and the relationship with the Department for Business, Innovation and Skills, BIS produced a Green Paper, “Financing a private sector recovery”, which raised questions about how we can be most effective in supporting venture capital investments, including EIS and VCT. I therefore reassure the Committee that BIS is heavily involved in the discussions, and that the Treasury and HMRC work closely with it. 

On the green investment bank, the hon. Member for Nottingham East will not be surprised to hear that the Government will make an announcement in due course, so I do not intend to say anything further on that subject this afternoon. He also asked about the guidance

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and I am grateful for the opportunity to clarify my earlier remarks. The guidance was made available to the Committee last night, so he should receive it shortly. If he does not, I would be grateful if he would let me know and I will ensure that that is addressed. 

The issue of how tax relief for a group will operate in practice when one company is in difficulty was also raised. As I said earlier, the rules apply only to the company issuing shares, not to other group companies. If the company issuing shares can raise equity capital from existing shareholders or the market—that is to say, new shareholders—the company will qualify for the regime. 

The hon. Gentleman asked about the drafting of the European Union guidelines on state aid. All EU guidelines on state aid are time limited. The Government will feed into any review or renewal of those guidelines and we will take into account any changes when and if necessary. If it is necessary to update legislation, we will have to look at that. We do not, however, envisage that it is necessary given the current extension which occurred last year. 

I hope that those answers are helpful. We have had a good discussion and useful information has been given to the Committee. I think that the clause will be welcomed by various groups. It is an important area and we want to do what we can to encourage equity investment, particularly at times when credit has not always been easy. I hope that the clause is useful and constructive and will assist our position in that area. 

Question put and agreed to.  

Clause 5 accordingly ordered to stand part of the Bill.  

Schedule 2 

Venture Capital Schemes 

5 pm 

Chris Leslie :   I beg to move amendment 4, in schedule 2, page 30, line 15, leave out ‘enter into contracts’ and insert ‘do business’. 

Amendment 4 relates to paragraph 1(5) of schedule 2 and appears to the untrained eye to be a pedantic technical amendment to change the terminology of a small element of the Bill—in many ways, that might be a reasonable interpretation. It is a probing amendment that follows on from points raised by the Institute of Chartered Accountants in England and Wales, which, in its submission, pointed out that there could be an anomaly in the use of the term that defines the commercial activities related to that sub-paragraph, particularly the use of the phrase “enter into contracts” rather than “do business”. 

I am told that drafts of this sub-paragraph have raised a few eyebrows among those legal eagles who understand such questions. In particular, difficulties could arise when there are groups with a holding company because the draft legislation required that the issuing company—the holding company—would require a permanent establishment, and not the subsidiary company that had the trading operation in which the venture capital trust or the enterprise investment scheme funds would be employed. In many groups, the holding company is just that and does not carry on any activity other than the holding of shares in its subsidiaries—this is similar

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to the point that we were trying to make earlier. That is unlikely, therefore, to constitute, in a common law sense, conducting a business. 

Stephen Williams (Bristol West) (LD):  It is a pleasure to serve under your chairmanship, Mr Caton. 

Given that the permanent establishment has to comply with the OECD model treaty, will the hon. Gentleman tell us whether the wording departs from that of the model treaty? 

Chris Leslie:  I am not familiar with that treaty and I do not have it to hand, but I am told by the Institute of Chartered Accountants that there is a risk if we look simply at the arrangements of parent companies, which can often be relatively dormant operations that contain other firms that are active. I am making a specific point about whether we should use the phrase “enter into contracts” or “do business” in the Bill, because if the matter is challenged in court and the interpretation goes the wrong way, that could unpick many aspects of legislation. 

Charlie Elphicke (Dover) (Con):  I, too, am privileged to serve under your illustrious chairmanship, Mr Caton. 

Surely this point is well understood and settled in law with regard to OECD guidance on the model tax treaty. The concept of a holding company that holds shares but does not operate is also well understood, and has been by tax planners for decades. 

Chris Leslie:  I understand that point and the hon. Gentleman might understand it as well. We are, I hope, both individuals who take a common-sense view of such things. Unfortunately, that is often not what the courts do when looking at the technical definitions that we enshrine within our statute. The Institute of Chartered Accountants has highlighted a perceived risk, which is not necessarily born from my own line-by-line scrutiny of the Bill. It suggests that if we append the notion of entering into contracts to the activity of a group company that is essentially a shell parent arrangement, that might well be an imprecise definition of what that parent company actually undertakes. Such an approach might not capture the true spirit of the Bill, which is something on which he and I agree. Consequently, requiring the company to have a permanent establishment through which the business is carried out—indeed, maintaining the existing definition of to “enter into contracts”—could be seen to run counter to commercial realities. If existing practice in law is based on the term “do business”, and if that has worked successfully since the Finance Act 2003, it might be more prudent to retain that wording. 

As I said, the point is specific, but I wanted to draw out the Minister’s definition, not least because courts will look at what Ministers say for guidance should any cases crop up in the future. 

Mr Gauke:  The hon. Gentleman, I think with a degree of hesitation and embarrassment, said that he was asking about a small, pedantic point, but if he cannot do so in a Public Bill Committee considering a Finance Bill, when can he? There is no reason why he should be in any way apologetic for raising such a useful point. 

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The amendment tabled by the hon. Gentleman and his colleagues would replace the phrase “enter into contracts” with the words “do business” in reference to the agent acting for the permanent establishment. While the amendment would follow the normal UK definition of “permanent establishment” more closely, the definition is not meant to be the same as the normal UK one. 

To put it bluntly, the normal UK definition is about allocating taxing rights, so a wide definition makes some sense. However, the version being used for the VC schemes is about determining what companies may benefit from financing that is subsidised by the UK taxpayer. Consequently, because the existing rule, which requires most of the trade to take place in the UK, is being removed, it is right that we put in its place something whereby the company raising the funds must have a substantial UK presence to ensure value for money for the UK taxpayer. Of course, in doing so, we must ensure that we comply with EU state aid rules, but that is the balance that we are trying to strike. 

This is not a fundamental matter of principle. The draft legislation, which is substantially as proposed by the previous Government, aims to secure the future of the schemes by making them compliant with state aid rules, while retaining some benefit for the UK. We think that the balance as set out in the schedule is correct. Consequently, I urge the hon. Member for Nottingham East to withdraw his amendment. He makes a fair point, but I hope that my explanation helps him. If we were to move in the direction set out in his amendment, we could make it rather too easy for businesses with only a slight UK connection to benefit from the reliefs, which I do not think is the intention of any member of the Committee. 

As I said, the draft was put out for consultation and changes have been made in response. We have got the right wording here, so I urge the hon. Gentleman to withdraw his probing amendment. I hope that I have provided sufficient clarification of the thinking behind the wording used in this context. 

Chris Leslie:  Who am I to question the wisdom—sometimes—of the massed ranks of officials who support and maintain the beautifully crafted words of the Minister? Occasionally I will take up the right to question, but on this occasion I am more than happy to accept that their legal advice is superior to my judgment on this particular matter. Nevertheless, if there are, on reflection, any issues and the Treasury wishes to table any amendments on Report, we will certainly be happy to support them, as long as we maintain the spirit of the legislation by creating as watertight a series of reforms as possible. That, ultimately, is our joint goal and, consequently, I am more than happy to beg to ask leave to withdraw the amendment. 

Amendment, by leave, withdrawn.  

Schedule 2 agreed to.  

Clause 6 

Enterprise management incentives 

Question proposed, That the clause stand part of the Bill. 

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Chris Leslie:  This clause, as a relative of other clauses in the Bill, is rooted in the European Union’s drive to ensure that any tax concessions or reliefs given to firms that might be construed as a state aid are compliant and consistent throughout the European Union and therefore are drawn up fairly. The technical shift in the definition of a firm qualifying for enterprise management incentive options moves from the notion of a “wholly or mainly” UK basis to a “permanent establishment” in the UK basis. In some respects, this mirrors the points that my hon. Friend the Member for Wirral South has raised. 

Again, I want to pick up on a point highlighted in the submission from the Institute of Chartered Accountants, which raises a set of questions on the meaning of “permanent establishment”. In particular, it implies that there is a query concerning the criteria by which a company obtains the definition of permanent establishment. It suggests that the Bill could be interpreted to mean that a company employee who makes a sale in the UK on behalf of the company would thus define the whole company as having permanent establishment status in the UK. There appears to be no requirement for that employee to be resident in the UK, yet a visitor carrying on business on behalf of the company would seem to achieve that qualification. 

Is there therefore a risk—perhaps because of injudicious drafting—that foreign employees might benefit from generous tax reliefs on their share options in that way? That might well be the intention of the Treasury and the Minister, but I would welcome clarification. 

Mr Gauke:  As the hon. Gentleman points out, this is another clause that we have brought in to prevent EU infraction proceedings. It is perhaps worth informing the Committee that one reason why we needed to bring in this second Finance Bill was to deal with a number of detailed technical points that we could not leave for next year’s Finance Bill. That is why we have brought forward this clause and, indeed, it is the justification for a number of clauses in the Bill. 

Enterprise management incentives is a share option scheme that allows certain types of company to grant tax advantaged options over their shares to key employees. The scheme was introduced 10 years ago with the aim of helping smaller, higher-risk companies to recruit and retain high-calibre staff. The rewards that the scheme offers provide key employees with a powerful incentive to promote the success of their company. EMI is part of the Government’s strategy to help and encourage such smaller companies, which are so important to the UK’s economy. 

As the hon. Gentleman pointed out, the clause removes the present requirement for EMI qualifying options that companies must broadly be carrying on a trade “wholly or mainly” in the UK. In the future, a single company wishing to grant EMI options must have a “permanent establishment” in the UK. Alternatively, in the case of a parent company, at least one company in the group that is carrying on a “qualifying trade” within the meaning of the legislation must have a “permanent establishment” in the UK. 

Alison McGovern:  In response to some of my earlier comments, the Minister was very kind and helpful by giving a good steer on the scale of what we are dealing

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with in relation to another scheme. It is important for us to have a sense of that with this scheme as well. I wonder whether he or his officials have figures to hand to show the cost to the Treasury arising from this scheme. If he does, I would be grateful if he could make some remarks about them. 

5.15 pm 

Mr Gauke:  I hope that I can help the hon. Lady. In 2008-09, 2,550 companies granted EMI options to their employees. That was a 10% decrease on the previous years. The number of employees granted these options in 2008-09 decreased by 17% to 22,000, and the number of employees exercising their options fell by 45% to 4,900. I suspect that there is a cyclical element, as one would expect in these matters. The annual estimated cost of income tax and national insurance contributions released have both declined by 23% to £100 million and £40 million respectively. As I say, those downward trends reflect the difficult economic climate during the relevant year. 

If I may provide a bit of detail on the clause, as I said a moment ago, a single company wishing to grant EMI options must have a permanent establishment in the UK. In the case of a parent company, at least one company in the group must be carrying on a qualifying trade within the meaning of the legislation, with a permanent establishment in the UK. This worthwhile change will increase the number of companies that can qualify for EMI. 

The hon. Member for Nottingham East raised an interesting concern about employees and the sale of shares in these circumstances. As far as I am aware, that matter has not previously come up in consultation. Obviously, we published the clause in July but, before that, the matter dates back to the previous Government. If I may, I will look into the particular concerns he raised and write to him accordingly. However, he makes an interesting point. We will look into the issue and I hope to be able to inform him on it in due course. 

Chris Evans (Islwyn) (Lab/Co-op):  As one south Wales MP to another, I would like to say that it is a pleasure to serve under your chairmanship, Mr Caton. On the 2,550 companies that the Minister has mentioned, I would like to ask what type of companies are benefiting from the scheme and which sector is benefiting the most. Also, what assessment, if any, is being made of the impact of the scheme on the high-risk companies and what benefits has it given them over the past 10 years? 

Chris Leslie:  While inspiration strikes the Minister on those important matters, I would like to say that I am more than happy for him to come back to the Committee on the point about the lack of a requirement for an employee to be resident in the UK and the fact that a visitor coming from abroad to carry on business here on behalf of that company appears to trigger the qualification for some of the tax relief. My point is simply that there could be a risk of tax relief tourism, and that people will put a foot in the country and therefore potentially open up the door to significant sums of UK taxpayers’ money. That is why we should reconsider that important issue at some point. 

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I accept that the European Union arrangements often come down from on high and that Departments tend to cut and paste them and insert them into legislation. However, we should have our own particular British approach to these things and employ a bit of flexibility and latitude to suit our country’s interests. As long as we are within the spirit of the treaty obligations, I think we would all want to adopt such an approach. I am certainly concerned about the risk of tax relief tourism, and am happy for the Minister to respond to that at another date. 

Mr Gauke:  I am grateful for the spirit in which those comments were made. Let me summarise how the hon. Gentleman’s position could be described: British tax relief for British jobs. He makes an entirely reasonable point. On the sectoral availability of EMI, it is not specifically designed to help one sector over another; it applies to overall sectors. I do not have to hand a breakdown of where EMI has applied, but if we have that information, I will certainly write to the hon. Member for Islwyn. 

Question put and agreed to.  

Clause 6 accordingly ordered to stand part of the Bill.  

Clause 7 

Settlor to return excess repayment to trustees etc 

Question proposed, That the clause stand part of the Bill. 

Chris Leslie:  We now come to clause 7, which covers settlors returning excess payments to trustees. It takes us to a different and equally exciting part of tax law that many Committee members have been waiting for—I hope for not too long. For those who are unfamiliar with such arrangements, the settlor is the donor or trustor who gives money or assets to trustees. They are the person who originally created the trust. Some trusts are established to benefit others, such as children or other individuals or organisations, but some are set up for the benefit of the settlor—a settlor-interested trust. 

The clause seems to iron out an anomaly in the circular nature of the taxation of settlors who may have interests in trusts to ensure that double taxation does not occur. That is entirely fair. However, there are various categories of trust for a panoply of family and life circumstances, many of which are wholly understandable and laudable—for example, when the beneficiaries are vulnerable or incapable of governing their own financial best interests at a given point. However, sometimes the dusty and arcane rules surrounding trust tax law may be used as a mechanism for the avoidance of significant sums of tax on income that might ordinarily be paid to the Exchequer, but for the clever legal and accountancy planning that more affluent people are able to obtain. I accept that it is for the Treasury continuously to define the rules to ensure that abuses are clamped down, but some doubts remain about the regime of trust rules in general. 

Does the Minister share my belief and that voiced by the hon. Member for Dundee East (Stewart Hosie), who is not a member of the Committee, but raised the matter on Second Reading, that those who have very

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small and modest trust sums, perhaps in safeguard for vulnerable individuals, may be unwittingly drawn into complex self-assessment tax arrangements that could incur significant costs? What is the Minister’s opinion of the proportionality in terms of the administrative burden falling on those small trusts for such individuals, and what can he do to relieve the burden on those trusts? 

In contrast, does the Minister believe that wealthy individuals whom ordinary members of the public would not consider to be deserving of special trust protection may benefit unfairly? Is his Department looking at trust tax law arrangements to tighten up a perceived unfairness, and how will he ensure that HMRC continuously reviews the laws to ensure that abuses are clamped down upon? 

Finally, I am told that the Law Society has looked at the framing of the legislation, and it believes that concerns remain about the clause’s workability. It understands that other representative bodies, particularly the Association of Corporate Trustees, have called for the clause to be withdrawn. Given those opinions expressed by bodies outside his Department and Parliament, what is his response to the Law Society, and how might its concerns be addressed? 

Mr Gauke:  This clause provides for a minor technical adjustment to the administration of settlor-interested trusts. It will oblige settlors to pay to trustees any repayments of tax they receive in connection with the trust income, tax that originally had been paid in effect by those trustees. A settlor-interested trust is a trust set up by a person—the settlor—who puts property into it for the benefit of people, which may include themselves. For income tax purposes, the trust income is treated as that of the settlor, but tax is paid initially by the trustees at a special trust rate. If the settlor pays income tax at a lower rate than that of the trustees, he may be entitled to a repayment of tax on the trust income treated as his. 

The trust rate increased to 50% from April 2010 and, with many settlors having a tax rate of 40%, that type of repayment will become more common. Settlors currently have to refund to the trustees any tax repayments they get as a result of offsetting an allowance or relief against their trust income, but they do not have to refund repayments obtained in respect of their personal tax rate being lower than the trust rate. 

Clause 7 will introduce a consistent treatment for all repayments making sure that, no matter what the reason for the repayment, settlors will have to refund the money to the trustees. 

5.25 pm 

Sitting suspended for a Division in the House.  

5.40 pm 

On resuming—  

Mr Gauke:  As I was saying, clause 7 will introduce consistent treatment for all repayments, making sure that no matter what the reason for the repayment is, settlors will have to refund the money to the trustees. It will also ensure that, where settlors make the repayments

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to the trustees, there are no unwelcome inheritance tax charges. Essentially, since the settlor will be legally obliged to refund the tax to the trustees, he cannot be regarded as reducing the value of his estate when he makes the payment, so no inheritance tax is due. 

Consultation on a draft of the clause produced some useful feedback from professional bodies on how settlors and trustees share information. That is necessary to enable trustees to perform their fiduciary duty of collecting payments properly due to them. In most cases, normal communication between the settlor and trustee will mean that there will be no problems, but we accept that there will be some cases where trustees will want greater certainty. 

The hon. Member for Nottingham East raised concerns about the administrative burden, which was raised in the consultation. It is worth saying that settlors who do not make self-assessment tax returns can choose whether to make a repayment claim. We think that most will make one, especially where the sums are significant. The amount of the repayment is fairly straightforward to calculate, and HMRC will be issuing guidance to help people. Settlors and trustees often have a close relationship, as I said, so there should not be any difficulty in agreeing the amount to be paid, in the same way that trustees have little difficulty in agreeing, under the current rules, the amount a settlor is repaid as a result of applying their reliefs and allowances. Where greater certainty is needed, HMRC will be able to provide settlors with a certificate, confirming the amount of tax repayment they obtain in relation to the trust income. 

It is worth pointing out that if the measure were not introduced, trustees would find themselves with unintended inheritance tax liabilities. Professional bodies told us that the main area of concern was certainty as to whether a repayment had been obtained and of what amount. That was, as I said, a point that came up in the consultation. We have addressed it by introducing the certification procedure, which followed the consultation. Other issues have been raised, such as regarding the treatment of losses, but they are not new, and HMRC will be working with professional bodies to ensure a common understanding of the existing rules. We are of course always willing to hear representations on how the system may be further improved, but we have responded to the concerns about the administrative burden during the consultation. 

The hon. Gentleman also raised concerns about avoidance in the area, and whether there is more that we need to do to overhaul the trust regime. Some members of the Committee may recall that significant changes were made to the regime for the taxation of trusts in 2006. I remember it well, having served on the Committee that considered that year’s Finance Bill, and it was not entirely a happy process. The Government want to avoid constant tinkering with the tax system, which leads to complexity and uncertainty. We do not have any plans to make significant changes in the area, but we are always willing to listen to representations as part of the usual Budget process, and the Government are keen to reduce tax avoidance at every opportunity. 

The clause has been adjusted to include a procedure for the settlor to require HMRC to provide him with a certificate confirming the amount of repayment of tax he obtains with trust income. In doing so, we have met many of the concerns that have been raised in this area. 

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Sheila Gilmore (Edinburgh East) (Lab):  Clearly there have been representations and further changes made since the Bill was published in its original form. Nevertheless, the Law Society still seems to be of the view—and has given its view—that the measure should be withdrawn for some kind of redrafting. Does the Minister feel that that is not appropriate? 

Mr Gauke:  That is not appropriate, for the reasons that I have set out. Without the clause we would have unnecessary and unfortunate inheritance tax payments. The clause meets the essential concerns about administration. 

Question put and agreed to.  

Clause 7 accordingly ordered to stand part of the Bill.  

Clause 8 

Collection of income tax where sum deducted by payer 

5.45 pm 

Chris Leslie:  I beg to move amendment 5, in clause 8, page 9, line 31, at end add— 

‘(2A) Any regulations under this section must have regard to accessibility and convenience for the taxpayer.’.

The amendment moves us on to a slightly different, and perhaps more accessible, part of the regime operated by Her Majesty’s Revenue and Customs. In clause 8, Members will see a series of simple powers to allow HMRC to create an online version of a form that taxpayers fill in to report tax deducted on interest, perhaps from deposits or from savings accounts. That is an entirely reasonable and worthwhile change, and I am surprised that primary legislation is required simply to allow the production of an online version of a form that, I gather, currently requires a convoluted paper-based application and then 14 days for a form to be returned for completion. 

In the general sense, therefore, we believe that the new online return of income tax deducted form—CT61—is a good improvement, and will certainly ensure better compliance with tax law. We very much welcome the provision, particularly given that it will be made through the affirmative procedure in the regulation that is introduced. That is always something that I would welcome on this side of the Committee—[ Interruption. ] I am sure that the sedentary intervention by my right hon. Friend the Member for Delyn could not be recorded, and I did not hear what he said. 

The amendment simply seeks to add, at the end of the proposed new subsection, the requirement that the regulation under the proposed new section also improve 

“accessibility and convenience for the taxpayer.” 

The amendment is necessary because the simple act of placing a tax form online often does not necessarily do much for its intelligibility or accessibility. I am sure that if members of the Committee have ever endeavoured to fill in their own self-assessment tax forms, or had dealings with HMRC in a personal capacity or on behalf of their constituents, they will have metaphorically torn their hair out at the complexity. Filling in the forms can sometimes feel like wading through treacle. 

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On this side of the Committee, we believe that far greater efforts need to be made to improve convenience and accessibility for taxpayers, not only because that is the right thing to do, given that taxpayers are residents in our constituencies, but because it is in the self-interest of the Treasury. The more compliance and the greater the understanding of the rules, the more likely it is that people will pay accurate taxes. 

Richard Harrington (Watford) (Con):  Although what the hon. Gentleman says is logical—we should all want to make things easy for the taxpayer—surely it is only rational that the CT61 be the same in written form and on the internet; otherwise, it would not be fair to people who complete the form by hand. 

Chris Leslie:  I completely agree with the hon. Gentleman’s entirely sensible point. Given, however, that the Bill is the only opportunity for us to amend the existing provision, we felt it important that Parliament make a clear and formal statement that we believe the balance needs to be shifted more in favour of the taxpayer, rather than simply having systems designed around the convenience of HMRC officials. 

Charlie Elphicke:  The hon. Gentleman might recall that the previous Government’s history on tax forms, particularly those for tax credits, was amazingly complex. Does this represent a change of position by the Opposition? Does he agree that the previous Government did not get it right when it came to simplicity, accessibility and convenience of tax forms? 

Chris Leslie:  I certainly think that we could always do better in terms of accessibility, language use and the ability to assimilate what tax rules apply to us as individuals, but that is a separate issue from whether we should have tax credits. The hon. Gentleman’s party looks set, possibly tomorrow, to hack away at the entitlement to tax credits that many of our constituents may have, which would be a great shame. Whether those tax credits are accessible depends on whether the Government fund them and allow them in the first place. We cannot put the cart before the horse. In all types of management we could do better. For that reason I felt that it was important to table this amendment. 

Alison McGovern:  During the Second Reading debate, I made some remarks on the Floor of the House about how important it is that we as parliamentarians respect what those who work for Her Majesty’s Revenue and Customs do and that we value their service. I repeat that today. Does my hon. Friend agree that a further reason for the amendment is that it could reduce some of the difficult cases that we all see in surgery, where there is confusion or difficulty of communication between HMRC and the tax paying public? It might assist not only our constituents and members of the public, but those working for HMRC in getting the right information at the right time. 

Chris Leslie:  I imagine that it can be frustrating for HMRC staff to find themselves having to answer simple questions borne out of the complexity of the forms and the time lags it takes to send out paper-based arrangements, and so forth, when they are also receiving phone calls from companies, entrepreneurs or ordinary members of

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the public who have perfectly reasonable inquiries to make. The amendment is, as I have said, a welcome step in its own regard. 

I want to ask the Exchequer Secretary whether he would take this opportunity to discuss the accessibility and intelligibility of tax forms more generally. Certainly many of my elderly, retired constituents, who may well be in receipt of much of their income through savings that they have accrued over the years and find themselves returning declarations about interest deducted at source, will be even less able to access readily the meaning behind some of the complex terminology in the current CT61 form, as well as in other forms. 

Has the Exchequer Secretary thought about consulting the Plain English Campaign on the design of those forms? Can he say that if unnecessary acronyms, gobbledegook and jargon can be avoided, he will make sure that they are avoided, while at every opportunity trying to explain arrangements in layman’s terms? 

Will the Exchequer Secretary answer a question specifically on the whole set of downloadable forms in terms of the wider self-assessment arrangements? I have had constituents who have noticed that when they want to fill in their self-assessment forms, they are sent a batch through the post and then have to go online to find the relevant forms to download. That can be a “hunt the thimble” exercise. Can he assure me that the web version of the arrangement will have a facility for the taxpayer to find the tax office address to which they must submit the CT61 form? It may be that the online version allows a one-click return of the form so that people do not have to print it out and go through that rigmarole. I hope that that will be possible. 

Richard Harrington:  I apologise, Mr Caton, because I forgot to say how honoured I am to be serving on this Committee, particularly under your chairmanship. However, that was not the point that I asked the hon. Gentleman to give way for. 

Irrespective of the merits of making things simpler online, which few people would disagree with, the CT61 is not a good example. From memory, I think that it is quite a simple form, so it is not the right time to have an amendment on this particular clause. Perhaps a general measure could be included somewhere else. I am not sure of the Minister’s view on that, but I think that to include such a provision here would be most inappropriate. 

Chris Leslie:  The hon. Gentleman was doing so well in a cross-party, bipartisan—tripartisan—way; I do not know what the phrase might be. The deduction of tax from interest has complexities, not necessarily about tax from individuals’ savings. Such complexities might involve whether the amounts are in yearly or monthly terms, or whether they concern special recipients, gilt interest, or foreign debts. Some companies have deductions at an interest level that is paid gross, and there are differences in how eurobonds are treated. It would be far better to spend a bit of time designing the online form, hopefully with a one-click solution. 

Far be it from me to raise the acronym of IPSA in this Committee, but hon. Members will be more familiar than many of our constituents with the ridiculous

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arrangement of going to the lengths of filling in an online form, pressing the button to submit it, and then—perplexingly—having to print out paper copies and submit duplicates. Such an arrangement requires an entirely unproductive effort on the part of the customer, the client and the consumer. In this case, I would not want an atrocious arrangement such as that to be suffered by our constituents when they deal with HMRC. 

Lorely Burt (Solihull) (LD):  Hear, hear! 

Chris Leslie:  I am glad that the proposal has some support and I should be grateful if the Minister kindly reflected on the amendment. 

Mr Gauke:  As we have heard, amendment 5 would add a requirement that any regulations made under the power provided in clause 8 must have regard to accessibility and convenience to the taxpayer. I am sure that the Committee is united in wanting to ensure that tax forms are as accessible and convenient as possible. It is important that HMRC faces a great deal of focus on that. 

HMRC has carried out a lot of work on customer segmentation and it is important that the customer segmentation that it has identified as being willing and able is as big a part of the population as possible. There are many who are willing, but not necessarily able to comply as they would like to. HMRC must engage with such people and ensure that the payment of taxes when they are due is as accurate, accessible and convenient as possible. Both sides will agree with that and we can work as a bipartisan-tripartisan Committee of national unity on that matter. 

That said, we believe that the amendment is unnecessary and perhaps it is worth mentioning how clause 8 will apply. It is concerned with procedures under which an individual or another non-corporate person, such as a trustee, deducts tax from interest and similar payments by them. Typically, that will occur when such a person pays yearly interest to a lender resident outside the UK. 

6 pm 

The clause is not concerned with procedures such as those under which taxpayers report interest received by them; for example, from bank and building society savings accounts. Such payments are regulated by the tax deduction scheme for interest—TDSI, if I may use an acronym. I can confirm that the power has nothing at all to do with such interest, for which there are entirely separate statutory provisions. Nor does it have anything to do with the PAYE system. 

The aim of the clause is to provide a regulation-making power for payment of interest, rather than receipt of interest. The current procedures can be difficult for taxpayers to use. For example, at present, the procedures state that the taxpayer must send an account of payment to HMRC without delay, without specifying what “without delay” means, or in what form the account must be sent. 

With the new regulation-making power in place, it will be possible to modernise the old procedures. For example, it will be possible to provide a bespoke form, and consideration can be given to aligning the procedures with the equivalent rules that apply to companies, for which there are long-established regulation-making powers. 

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Any regulations made under the power will be subject to consultation and an impact assessment. They will also be subject to further parliamentary scrutiny. As the hon. Member for Nottingham East pointed out, they are to be made by affirmative procedure. He welcomed that, as is traditional from those sitting on the Opposition side of the Committee. 

It is precisely because we are mindful of the need to have regard to the convenience of the taxpayer that the regulation-making power is needed. Without it, it would not be possible to improve the current procedures in this area, provide certainty for taxpayers or reduce compliance burdens. 

The requirement on HMRC to have regard to accessibility and the convenience of taxpayers is something with which we can all concur. The hon. Gentleman suggests a wider look at online forms. The power in the clause is limited to forms that apply where income tax is deducted at source. Review of new or amended forms will, of course, be undertaken at the relevant time, when we deal with those points. 

The hon. Gentleman raises a fair point about the importance of convenience and accessibility, but adding such words to the Bill, particularly given that they are not defined, would not add anything useful to the clause, so I hope that he will agree to withdraw the amendment. However, he is right to highlight the need for forms produced by HMRC to be as accessible and convenient as possible, and I think he particularly united the Committee when he highlighted an instance where that does not always happen. 

Chris Leslie:  The Minister’s iron grip on public policy is such that his utterances about seeking greater accessibility and convenience for the taxpayer will immediately be picked up on by his myriad officials in the room, and I am confident that they will act on them without undue delay—I forget the phrase he used, but without hesitation or any unnecessary time elapsing. 

The point that the Minister makes about the taxpayers to whom the clause relates suggests that this is a much narrower set of provisions than I had perhaps realised. In that respect, I am more than happy to withdraw the amendment, but my point is an important one. We should always be vigilant about the fact that it is our constituents who have to navigate these systems, and that we have a duty to make it as simple and burden-free as possible for them to do so. I beg to ask leave to withdraw the amendment. 

Amendment, by leave, withdrawn.  

Clause 8 ordered to stand part of the Bill.  

Clause 9 

Company distributions 

Question proposed, That the clause stand part of the Bill. 

Chris Leslie:  The clause is designed to tidy up the legislative rules surrounding the corporate tax treatment of dividends and other distributions following major reforms in the Finance Act 2009. Careful work by the solicitors Freshfields Bruckhaus Deringer and others has pointed out a set of anomalies that appear to have

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provoked officials at the Treasury to generate a new framework in which to tie up some of the loose ends that were left behind, and to reiterate the original intentions of HMRC in making that 2009 amendment to the law. 

Generally speaking, in this country we permit a company to make dividend distributions only up to the balance of earnings that are available for distribution according to its most recent audited accounts. Some exceptions exist, usually in respect of distributions of shares of the company for winding up and in other limited situations. 

In 2009, new rules replaced the system for taxing dividends from UK and overseas companies following a legal ruling the year before in which, after the FII Group litigation in the High Court in 2008, the European Court decided to exempt EU and European economic area residents’ subsidiary distributions from tax in the UK rather than taking an approach to taxing dividends depending on the residency of the dividend payer. That decision raised the need for HMRC to become compliant with European Union law—here we are again, all good Europeans. 

At that point, HMRC could have opted either to introduce an international or an EU exemption, or to remove the domestic exemption from UK to UK dividend distributions. In the Finance Act 2009 HMRC seemed to opt for the second option, placing both UK and non-UK companies within the charge to corporate tax on income, although there were extensive exemptions to those charges. A series of technical and unintended problems arose, however. The rules were made more complex because of the differing treatment of distributions, whether they were of an “income nature” or of a “capital nature”. Unfortunately the term “of a capital nature” was insufficiently defined in the legislation, and here we are, therefore, with clause 9. 

I have a series of technical questions to ask the Minister. First, will he set out clearly the alterations in yield for the Exchequer compared with the original arrangements, for instance because of the change in treatment of foreign dividends? Is it really the case that about £200 million would otherwise have been collected had EU dividends not been exempted, or do I have an incorrect figure? 

Secondly, why is it reasonable in paragraph 5 of schedule 3 to make those changes retrospective in respect of distributions made on or after 1 July 2009? Is there not a danger, as ever, in retrospective taxation arrangements, and how will the election to opt out of that retrospective arrangement operate in practice? Is that done for a particular reason, and if so can the Minister expand upon the reason? 

The explanatory notes state that the current rules have created circumstances in which some 

“UK companies in receipt of UK distributions faced an unexpected tax charge.” 

What is the scale of those unexpected charges, and is the retrospective nature of the changes designed to compensate companies for those arrangements? In my reading, that seems to be the logic behind the schedule. Those are all technical points, and I would be grateful if the Minister addressed them. 

Mr Gauke:  The hon. Gentleman is right to say that the measure is highly technical, and it may help if I try to take the Committee through it. Clause 9 and schedule 3 address an anomaly that has arisen concerning the

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scope of distribution exemption. As the law stands, there is a risk of some very large, unexpected and unintended tax liabilities arising within groups of companies. This legislation will ensure that those potentially damaging tax liabilities do not arise either in future or in past periods. 

To provide some background information, UK distributions have always been exempt from corporation tax. In 2009, a new regime was introduced that extended the exemption to foreign distributions. In common with its predecessor, the new distribution exemption regime applies only to distributions of an income nature and not to those of a capital nature. Instead, those of a capital nature fall within the legislation that taxes the capital gains of companies. 

Following the introduction of the 2009 rules, HMRC and tax specialists in the legal and accountancy professions looked closely at the question of which distributions qualify for exemption and which do not. HMRC took legal advice and concluded that, in certain circumstances that are relatively common within groups of companies, amounts that had historically been considered as income distributions that qualified for exemption may, in fact, constitute repayments of capital. Those amounts cannot qualify for the distribution exemption. 

Although those points came to light only after the introduction of the 2009 distribution exemption legislation, they were equally relevant to the UK distribution exemption before 2009. Therefore, HMRC concluded that unexpected tax liabilities have potentially arisen in respect of transactions undertaken both before and after the introduction of the new exemption rules in 2009. That view gave rise to considerable concern, because it affected the tax treatment of certain types of transaction that are quite commonly carried out in corporate reorganisations. 

Clause 9 and schedule 3 simplify and expand the distribution exemption regime in two ways. First, the exemption regime for UK and foreign distributions is extended by removing the exclusion for distributions that are of a capital nature. Secondly, the legislation ensures that certain amounts that may be repayments of capital are instead brought into the scope of the term “distribution” for corporation tax purposes. That is in line with long-standing expectations about the status of those transactions and it enables the amounts to qualify for the exemption. 

It has always been the case that in certain situations distributions from the company can be taken into account in calculating corporation tax liability on chargeable gains, and that will remain the case. However, the changes being made now will clarify which distributions are charged corporation tax on chargeable gains and which distributions are exempt from corporation tax, subject only to certain narrowly defined anti-avoidance rules. 

Following the announcement of this measure at the June Budget, a significant number of detailed and very helpful comments have been made about the draft legislation. I want to thank all those who took the time to make those comments, as they have led to a number of significant improvements. One addition to the draft legislation is a small but significant extension to the scope of one part of the distribution exemption rules to accommodate distributions that are now brought within its scope. The exemption that is currently given for all

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dividends that are not associated with tax avoidance is now extended to any distribution, subject to the same tax avoidance condition. 

Another change that was made following consultation was to restrict the scope of those changes to corporation tax only. The problems that I have described arose only in respect of corporation tax. There were some concerns that the changes might adversely affect some income tax payers, which had not been intended. Income tax payers will continue to pay income tax on all distributions received with very few exceptions, such as distributions received during the winding-up of a company and repayments of share capital. 

Although the provision fully addresses the anomaly concerning the scope of the distribution exemption, some of the detailed comments received after its publication have raised other important questions about wider distributions legislation. I can inform the Committee that HMRC officials have proposed a joint working group with representatives of the tax profession. The group will aim to improve common understanding of the legislation with a view to improving guidance. That will build upon the constructive dialogue that has helped so much with the development of the Bill. 

6.15 pm 

The hon. Gentleman raised a number of questions about how the clause will work. First, there is the question of yield and whether the changes will reduce the corporation tax take. The changes will not reduce the take because they merely restore expectations for UK companies. It has not been HMRC’s practice to charge tax on the distributions to which the changes apply. The clause will, if one likes, restore the status quo. 

The hon. Gentleman also asked why the measure was retrospective. Its retrospective nature allows companies to take advantage of the benefits of the new rules at any time. The legislation is almost always beneficial, but the opt-out entitlement allows a company to elect for any distribution made before 22 June 2010 to be unaffected by the changes. The retrospective effect will not apply unless a company so chooses—the election is made through the tax return—and that merely preserves existing expectations. Large and unexpected liabilities would arise without those reforms, and that would create uncertainty within the tax system, which we do not want. If I may anticipate the hon. Gentleman’s next question, we do not have an estimate of the potential liabilities in aggregate but, none the less, there is a concern that there might be an unexpected tax liability. The clause seeks to prevent that from happening. 

The provision will end the potentially damaging uncertainty that would have arisen due to the risk of very large and wholly unexpected tax liabilities. The changes make it clear that the potential liabilities will not arise in future, and they also remove them retrospectively. 

Chris Leslie:  I am grateful, Mr Caton, for your indulgence in letting me respond to the Minister. 

It is helpful that the Minister has been able to address some of the specific questions that I have asked. It is also useful that he has announced the proposed working group of individuals from across the tax profession,

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which will burrow into the legislation and ensure common understanding. With those assurances, I am more than happy to support clause 9. 

Chris Evans:  I do not profess to be a taxation expert, but, like many members of the Committee, I received a brief this morning from the Chartered Institute of Taxation highlighting its concern about the application of the new rules for distribution in specie, not in cash. The brief provides a number of examples that demonstrate how the Bill is insufficiently clear. Unless the Minister wants me to bore him to death by reading out the examples—[ Interruption. ] I shall read them out if he wants me to—[Hon. Members: “One or two.”] I shall read out all three. The first example states: 

“A ‘dividend’ is declared in a specified amount, which is then satisfied by the issue of a loan note or similar instrument. In such a case it seems that there is a ‘distribution out of assets’ for the purposes of paragraph B of section 1000 but there is no ‘transfer’ within the meaning of section 1002(2), in which case section 1002(3) does not apply to disapply paragraph B. Clearly at a later time the loan note will be settled but this will be a separate transaction and should not affect this analysis.” 

The second example states: 

“A ‘dividend’ is declared in a specified amount, which is then satisfied by an entry in an inter-company account. Again, as for 1, it seems that there is a ‘distribution out of assets’ but there is no ‘transfer’ of an asset.” 

The third example—I promise that this is the final one—states: 

“A ‘dividend’ is declared in the specified amount, which is satisfied by the transfer of an asset already held by the company. This may be a financial asset such as a receivable issued to it at an earlier time by a group company, shares or land and buildings. Again there will be a 'distribution out of assets' but in this case there will also be a 'transfer'. In this case we assume that the legislation can be applied on that basis that because the amount was declared as a cash amount then it is regarded as a transfer of cash for the purpose of (amended) section 1002(2)(a) and so again section 1002(3) does not apply to disapply paragraph B.” 

The institute goes on to say: 

“We would welcome confirmation that our interpretation is correct.” 

It also says: 

“These three situations contrast with the probably much less common situation where a ‘dividend’ is declared of an asset”. 

If the Minister can give a response to that, he definitely has my admiration. 

Mr Gauke:  I am very grateful to the hon. Gentleman for his comments. He is right to say that the Chartered Institute of Taxation has asked about the scope of existing legislation dealing with company distributions and whether the new legislation will apply for certain distributions made in specie. As we have heard, the points are very detailed and, to be honest, beyond the scope of the debate on this clause. However, I can confirm to the hon. Gentleman, in response to the CIOT’s questions, that HMRC is already discussing those matters with CIOT and others. It will continue to do so as it develops guidance to cover distribution legislation, which includes, but is not limited to, changes made in the Bill. 

I hope that the hon. Gentleman will forgive me for not responding in detail to his particular examples, but I assure him that the matter is very much in hand and that we have our finest minds working on it. 

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Question put and agreed to.  

Clause 9 accordingly ordered to stand part of the Bill.  

Schedule 3 agreed to.  

Clause 10 

REITs: stock dividends 

Question proposed, That the clause stand part of the Bill. 

Chris Leslie:  We have tabled an amendment to schedule 4, which relates to real estate investment trust arrangements, particularly regarding the proposals to facilitate the payment of dividends through stock issue. For the aid of the Committee, I should set out that real estate investment trusts are tax-efficient mechanisms through which investors in commercial or residential property can conduct efficient business. They ensure that the property rental income has tax paid on dividends but that the business does not need to pay corporation tax or capital gains in certain circumstances, thus making it easier for investments to be made in shares in firms holding property assets. By and large, the retail estate investment trust regime, which the Labour Administration were party to developing, has been very beneficial. 

There might well be a variety of REITs that focus on specific areas such as office space or retail outlets. Legislation stipulates that a real estate investment trust must have three or more properties in its portfolio, with each accounting for no more that 40% of the ring-fenced assets. Obviously, that is to ensure that there is a basket of properties in a genuine portfolio to ensure that there is a spread available for people to invest in. Properties in REITs must not be owner-occupied. 

A shareholder in a listed British property company faces double tax. The company pays corporation tax on its property-related business activities, while the investor pays tax on dividends and capital gains. Real estate investment trusts do not pay corporation tax on their ring-fenced assets—profits arising from property-related activity, such as earning rent—as long as at least 90% of their profits are distributed to shareholders as dividends, which brings us to the point of the clause. Taxpayers will pay more tax on dividends paid by a REIT than they do on a dividend from a non-REIT share. Each such dividend distribution is known as a property income distribution—PID. A PID will be taxed as property letting income and paid after deduction of tax. A basic rate taxpayer will pay 20%, so for every property income distribution of 100p, they will receive 80p but, on the other hand, a higher rate taxpayer will be taxed at 40% or, I presume, even at 50%. The reliefs are therefore commensurate. Shareholders who do not pay tax at all can reclaim the difference. 

It is expected, however, that due to the tax benefit to the company itself, dividend payments are typically higher, offsetting the higher level of tax paid by the investor, so in the long and short circle of life of a REIT, it is still comes out as a more efficient tax arrangement. Will the Minister explain why the property income distribution is set at 90% of profits and not lower than 90%, or at 95% or 100%? I would like to know the logic behind that figure. Would a lower distribution requirement incentivise reinvestment in the quality, fabric and maintenance of the property stock?

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In other words, would not a facility to encourage reinvestment be in the long-term best interests of land and property values across the UK? 

Charlie Elphicke:  Should not the hon. Gentleman consult his own colleagues on those questions, given that the previous Government brought in the legislation as a grand reform? 

Chris Leslie:  It was a reform. There were other grand reforms that the previous Administration put in place. I might well consult my colleagues, but given that the clause is before us today, I felt that it was reasonable to ask the Minister to help the Committee on the 90% figure. 

I have another question that might be even more academic in some respects: to what extent does the Minister assess that the REIT arrangements have affected property price inflation more generally in our economy, given that commentators have voiced concern more generally about the role that property plays in our economy? Obviously, a lot of inflation took place before the REIT regime was in place. However, what part has the regime played, particularly given that commercial property and its direct purchase is hugely expensive and complicated? Has opening an opportunity for investors to take a stake in areas of property that were hitherto inaccessible fuelled some of the price inflation? 

Property is not a liquid investment on many occasions, but buying REIT shares rather than actual properties can give the investor greater flexibility to move in and out of the asset class—that is generally to be welcomed—just like trading a share online or via a broker. Does that extra liquidity create a multiplying or magnifying effect on prices? What analysis has the Treasury made of that when considering the thorny issue of particular asset class inflations and, as some have said, a possible historical property bubble? I do not wish to comment one way or the other on whether that is the case, but I hope that the Treasury can analyse the effect of the tax rules on the market in general. I will be grateful if the Minister can answer my points. 

The Economic Secretary to the Treasury (Justine Greening):  It is a pleasure to serve on the second Finance Bill of the year under your chairmanship, Mr Caton. 

I shall remind the Committee, as the hon. Member for Nottingham East started to, what clause 10 and schedule 4 will achieve. I will then do my best to answer his questions—perhaps that will give more background. 

6.30 pm 

Clause 10 loosens the requirements for real estate investment trusts by allowing amended distribution rules. At the moment, REITs are required to distribute 90% of their profits from their tax-exempt property business each year in cash. REITs were set up in about 2004 under the last Government when this issue was first identified in order to offer different treatments for people who wanted to put investment into property between those who did so via a company and those doing so directly. At the time of their establishment, there were several facets to desired outcome. First, it was about

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creating liquidity. Secondly, it was about improving investor access. There was a sense that we needed to bring money into the housing industry to create more housing, improve economic stability and so help to stabilise the property investment market by rebalancing some debt with equity among property companies. There was also the desire to create more efficiency in terms of the tax issues that have been discussed. It was also hoped that REITs would improve the housing market by creating a better chance of fostering enhanced professional management of the private rented sector. In fact, those tax rules were largely successful because by the time of their introduction in around 2007, an awful lot of rental property management companies went under the REIT tax status. 

The question then was to what extent we could improve the REIT status to make it more flexible for companies. At present, unlike other companies, as the hon. Gentleman said, REITs can only distribute dividends in the form of cash dividends. So clause 10 effectively gives them the flexibility in making distributions from their tax-exempt property rental business and, in particular, in meeting their profit distribution requirement. So it will help them to preserve capital, which is important for all companies, including REITs, in the current economic climate, given that we regularly discuss in the House how difficult it is for businesses to access new capital. The Government are also satisfied that this will not affect investors because they can still choose to receive their dividend in cash if that is what they want. 

As the hon. Gentleman will be aware, we put a draft Finance Bill out for consultation and following representations from organisations such as the British Property Federation, which overwhelmingly welcomed these changes to give REITs more flexibility—in itself welcome—we decided to loosen the use of stock dividends by REITs. So, rather than allowing them to issue a proportion of stock dividends instead of cash dividends, it seemed far simpler for REITs in terms of both flexibility and bureaucracy to allow them to distribute all their dividends as stock rather than cash dividends. As I said, ultimately that will be an option for shareholders. If they wish to continue getting cash dividends, they can do so. 

To answer the hon. Gentleman’s question about the distribution rate, it was set at 90% to ensure that there was no revenue cost to the Exchequer: although we were facilitating more investment into the property sector, which is needed if the numbers of houses that we all want are to be built, it would not be at a cost to the Exchequer. If we lowered that rate, it would potentially have an impact on the Exchequer, but as I am sure the hon. Gentleman remembers from his time in government, the property industry will clearly continue to make its representations about how it sees REITs being further developed in future. 

The hon. Gentleman’s final question about the impact of the tax status of REITs and how that has affected the property market is interesting. REITs were established as a means of facilitating more investment with the aim of incentivising more house building of properties for the rental sector. I do not have the analysis in front of me today, but I should have thought that, if anything, the tax change would have had more of a downward than an upward pressure on property. Ultimately it is difficult to assess a particular change to tax in a particular part of the property market that clearly includes other

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stakeholders such as the construction industry. Then there are demographic changes, regional pressures and the broader economic climate to take into account. It is quite difficult to give an answer one way or the other. 

Certainly, the extent to which this legislation facilitates more investment in property opens up the investment that we need to get more homes built for people. One of the main reasons that property prices have an innate upward push is this gap between demand and supply. Hopefully, this measure will ensure that we get investment coming into the sector so that we can minimise the risk of the gap growing, which is something that Members on both sides of the House are concerned about. I hope that I have answered the hon. Gentleman’s questions. 

Chris Leslie:  I am grateful to the hon. Lady for her answer. Broadly, I agree with many of her points, and it is helpful to have that clarification. Other changes affecting the property market include slashing the social housing budget in half, which I gather she and her colleagues will probably do tomorrow. Such a move will not do anything to help with the supply of housing stock across the country, but I suspect that that is a debate for another day. 

Question put and agreed to.  

Clause 10 accordingly ordered to stand part of the Bill.  

Schedule 4 

REITs: stock dividends 

Chris Leslie:  I beg to move amendment 6, in schedule 4, page 41, line 25, at end add— 

‘13. The Treasury shall publish a report in the 2011 Budget detailing the projected revenue implications of the provisions of this Schedule for the five financial years after commencement.’. 

The meat of the matter within schedule 4 is specifically related to the whole point of the changes. Currently, the REIT arrangements take the yield of tax on the cash dividend of payment, and yet the change in the clause seeks to allow companies to make that dividend payment in stock. My questions for the Minister are pretty obvious. Will she tell the Committee what the current tax yield is from the cash dividend taxation regime on REITs? Perhaps she could give us the figures for the last available financial year. Will she give us a sense of what we are talking about here? As I understand it, allowing stock dividend arrangements means that the tax on those changes will only be crystallised at the point at which the stock is then sold or disposed of. Under the current arrangements, there is a revenue yield to the Exchequer at the point at which the dividend is distributed, which is not the case under the stock dividend route. 

Amendment 6 calls on the Treasury to produce a report in the 2011 Budget, detailing the projected revenue implications of the provision for the next five financial years after the commencement of the Act. We feel that that would be helpful in ensuring that we keep track of the implications of this particular change for the Exchequer. Moreover, an estimate of the volume that is likely to be created by the stock dividend route would be useful. I hope that officials will not be recommending the introduction of such a change without having some idea of where the industry might go. I would be grateful if the Minister could clarify those points. 

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Justine Greening:  Let me specifically address amendment 6. The presumption behind it is that the tax treatment of stock dividends will be different from that of cash dividends. That is not correct. Stock dividends will be treated in exactly the same way as the cash distributions, so there will be no loss to the Exchequer. In other words, the amendment proposing a report that charts the plus or minus for revenue is unnecessary because the change will have no revenue impact; it simply gives REITs more flexibility on how they make their distribution within their existing distribution requirement. 

With regard to the baseline and the report that the hon. Gentleman wants to see showing the amount either way, that information is not available because there is such a wide range of investors involved that they would not specifically identify their PID income in a way that would allow us to collect the information centrally. We know that REITs have become the main tax vehicle for many of the companies involved in that area, so we can see the overall activity within the sector through REITs, but specific investor-level tax revenue implications are less clear. The answer to his underlying question about the difference to the Exchequer is that there is no difference. 

Chris Leslie:  My understanding was that although the yield for the Exchequer would be the same in the long run, in the short run it depends very much on the point at which the stocks are disposed of. Only at that point will the tax be paid and the yield gained for the Exchequer. Given that we are in a spending review period in which every single year of revenue yield matters for the profiling of public expenditure, it seems important to ascertain whether there will be a deferral of revenue, with money not coming into the Treasury as quickly as it would do in a cash dividend circumstance. I would be surprised if, as the Minister says, no stock dividend is paid at the point of issuing. That was not my understanding at all. 

Justine Greening:  I reiterate that there will be no Exchequer loss or gain as a result of clause 10 or schedule 4. There will not be that temporal issue with revenues that the hon. Gentleman suggests there might be. There will be no deferral of tax, which is why there is no difference. I hope that that has answered his question—[ Interruption. ] There is no doubt that it has absolutely answered his question, although he might not understand why. 

Chris Leslie:  I am interested to hear the Minister’s points, because although I of course accept that there will be no loss of yield in the long run, I am not sure that her response is sufficient to answer the point I was trying to make about the annual, year-by-year profiling of the revenues and why, if tax will be deferred until the point at which the stock is disposed, that will not affect yield. It might be because of the gaping hole in HMRC’s knowledge about the total yield, which hopefully she will join me in saying is unacceptable. To have no idea about what the cash dividend yield is for the Treasury really is not up to snuff, and I hope that her Department will tighten its awareness of what the yield is from that area. That might be why there is a lack of information. 

Justine Greening:  The hon. Gentleman is following a red herring—[Hon. Members: “That was this morning.”] I have obviously missed a more fun part of the Committee’s

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proceedings. He is heading down a route that I do not think is productive. I can be very clear with him; he is labouring under the misunderstanding that we will treat stock dividends differently from cash dividends, but we will not. The tax on them will not be deferred, as he has in his mind, so I can correct him on that. Hopefully he can understand, as a result, that because tax will be paid on the issue of the stock dividends, just as it is treated as a cash dividend, there will be no revenue difference. I hope that that provides him with the final reassurance that he needs. 

6.45 pm 

Chris Leslie:  I have no choice but to take the Minister’s crystal clear assertions on that point. I had a different understanding of the arrangement but she has disabused me of that. 

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Perhaps we should return to the issue after I have had chance to consult some serious brains on the matter. I still think it is not acceptable that the Treasury does not know the revenue yield. It is important that, for each of these particular large tax relief arrangements, we have some estimate of what is happening in terms of revenue yields. However, the Minister has persuaded me for the time being so, at this stage, I beg to ask leave to withdraw the amendment. 

Amendment, by leave, withdrawn.  

Schedule 4 agreed to.  

Ordered, That further consideration be now adjourned. —(Mr Goodwill.)  

6.46 pm 

Adjourned till Tuesday 26 October at half-past Ten o’clock.