Tackling corporate tax avoidance in a global economy: is a new approach needed? - Economic Affairs Committee Contents


CHAPTER 3: What changes should be made in the UK?

56.  We set out here unilateral measures the Government could introduce to address the problems identified in the previous chapter. We begin with reform to the UK tax system itself, and then address issues of compliance by companies and their advisers.

Tax reforms

REFORM TREATMENT OF DEBT & EQUITY

57.  As noted in the previous chapter, OECD countries' tax systems generally recognise the distinction between debt and equity and give deductions for interest as a business expense. This raises two questions. First, and more immediately, what anti-avoidance measures are required to combat excessive use of debt as a means of shifting profit out of the UK? Second, and in the longer run, there is an issue of principle: should debt be given preferential treatment over equity, and if not, how should the treatment of financial costs be reformed? Appendix 5 of this report discusses these issues in more detail.

58.  There is a general view, shared by the Government, that anti-avoidance provisions with respect to interest relief are weaker in the UK than in comparable countries. In 2010, the Treasury stated: "The UK's current interest rules, which do not significantly restrict relief for interest, are considered by businesses as a competitive advantage and it is the Government's view that this advantage outweighs potential benefits from moving towards a more territorial system for interest."[63]

59.  In principle, a more territorial system would give relief only for borrowing that financed activity in the UK, reflecting the regime introduced in 2009 which aims primarily to tax only income generated in the UK. The Government sees the UK's relatively generous tax deductibility of interest payments as an important plank of British competitiveness in corporation tax. Many other features may also be important, including the patent box, generous treatment of expenditure on research and development, CFC rules, and above all the planned reduction of the corporation tax rate to 20%.

60.  The Treasury review should consider whether the international competitive position of the UK's corporation tax regime needs to be bolstered by generous tax relief on interest payments, which can lead to British businesses taking on excessive debt. It should also examine whether, and if so, how the Government should limit excessive use of debt, especially where it is used to finance foreign activities or to shift profits away from the UK.

61.  Beyond the immediate issue of profit shifting out of the UK there is a question of whether debt finance should be more favourably treated than equity finance. Tax practitioners favour retention of relief for interest payments.[64] But critics believe it encourages excessive reliance on debt over equity financing, and makes corporation tax avoidance easier. They advocate reform of the tax treatment of debt and equity.

62.  The IFS Mirrlees review advocated introducing an "allowance for corporate equity" ("ACE") for equity finance. Broadly, this would equalise the treatment of debt and equity by giving a similar relief for equity finance, based on a notional return on equity invested. Professor Bond said: "The ACE allowance would provide tax relief for costs associated with using equity to finance investment: that is both retained profits and new equity issues. The basic idea is to level up the treatment of equity and debt sources. That obviously deals with the differential treatment of debt and equity."[65] The cost of introducing such an allowance could however be large. The Mirrlees review estimated the cost as around one quarter of corporation tax revenue.[66]

63.  An alternative approach would be to give the same, but partial, relief for the costs of both debt and equity finance. In this case, introducing a partial relief for the costs of equity finance cold be financed by an appropriate reduction in the rate of deduction for interest payments.

64.  In principle there is a case for harmonising the treatment of the costs of debt and equity finance. A full allowance for corporate equity is too expensive to introduce now given the current state of the public finances. But the revenue cost of partial relief for equity finance could be offset by a reduction in the rate of relief for debt finance. We recommend that the Treasury review we propose should investigate whether and if so how the treatment of debt and equity finance could best be harmonised.

OTHER UNILATERAL MEASURES

65.  As outlined above, HMRC has a good record of introducing anti-avoidance measures. The OECD BEPS work aims to make coordinated progress on some areas in which the shifting of profits is particularly severe, such as arbitrage opportunities arising through mismatches in legal definitions between countries. There may also be scope for the UK to act unilaterally in two ways.

66.  First, it may be possible to build on the specific initiatives that HMRC has introduced over the last decade—such as the DOTAS scheme, the anti-arbitrage provisions and the GAAR. We are aware that the new CFC provisions were introduced after extensive consultation, but they may have weakened the armoury in the fight against avoidance. We recommend that the Treasury should review the statutory measures available to HMRC to combat tax avoidance and arbitrage arrangements, with a view to strengthening these where possible.

67.  Second, it has been suggested that even within existing rules, HMRC could be more aggressive in dealing with large companies. Professor Picciotto said:

"If you take, for example, Google, … HMRC could adopt an aggressive approach and say that Google's UK entity is operating as, in effect, a branch of the Irish entity and reattribute profit to the UK. That would be … possibly arguable under the rules, but [HMRC] is too genteel to do that, and it would also rather upset the apple cart of the existing system of rules which HMRC and Treasury people have done a lot to erect."[67]

He argued that other countries, such as India, China and Brazil, "are adopting aggressive approaches".[68] He also accepted however that taking a more aggressive unilateral stance could lead to more cases being challenged: "The result is conflicting interpretations of the rules, so you can see in a way why HMRC has not wanted to go down that route …. If the system is broken, you do need to fix the rules, so in that sense I agree … that it is better to fix the rules".[69] Professor Freedman agreed, saying that although HMRC

"perhaps does not have enough transfer pricing experts, it does have some of the best transfer pricing experts … The aggressive approaches that have been taken by the BRIC countries have caused difficulty. We are talking about double taxation agreements, so if one country unilaterally grabs more, then another country could get less … you have to do this in an international and not unilateral way while you have a transfer pricing system."[70]

Addressing compliance

NAMING & SHAMING

68.  Public outrage can affect corporate behaviour, especially where reputational damage might lead to consumer action. It has been widely reported that Starbucks is to pay £20 million extra corporation tax in response to public indignation. On the other hand, Google's response to being named and shamed by the Public Accounts Committee[71] has been simply to call on governments to change the international tax rules.[72] Nevertheless, mainstream tax advisers like Deloitte recognise that there is "pressure on taxpayers to demonstrate their contribution to society" and emphasise "management of taxes …to deliver sustainable outcomes that are right for the business and that would still feel right should the media spotlight settle on them".[73]

69.  The Chancellor of the Exchequer announced in March 2013: "We will name and shame the promoters of tax avoidance schemes."[74] The form, content and timing of the planned new measure are not yet known. Meantime, some doubt that promoters of aggressive avoidance schemes feel shame.[75] Some think naming and shaming legally questionable.[76] There is a question over the basis for any case of naming and shaming while only HMRC has the full facts and is bound by a duty of taxpayer confidentiality. There is also the general point that an on-the-ball government would normally change ineffective rules and penalise infringements rather than simply name avoiders.

70.  Where the Government sees a threat to the public interest from the manipulation of the existing legal and regulatory framework, the best response is for it to tighten up that framework. Naming and shaming is bound to be to a degree arbitrary and challenging to justify when the activity is within the law. So far as tax advisers and promoters are concerned, we await publication of the Chancellor of the Exchequer's plans to name and shame promoters of tax avoidance schemes. We believe that an alternative to the Chancellor's proposals is the establishment of a regulatory system, as outlined in paragraph 76 below.

71.  So far as companies are concerned, public exposure did succeed in getting Starbucks to offer to pay more tax. The threat of naming and shaming represents a reputational risk to companies; and may therefore have the effect of encouraging boards to make sure that the companies they run are not using inappropriately aggressive tax avoidance strategies.

CODE OF CONDUCT AND REGULATION OF TAX ADVISERS

72.  We welcome the prospect that the mainstream tax advisers' Code of Conduct is soon to be updated to contain much more guidance on tax avoidance and to recognise public concern.[77] But we are sceptical that the revised Code will address our concerns about the need to combat aggressive and abusive tax avoidance.

73.  The existing code does not apply to tax advisers who are not members of the relevant public bodies. At present, there is no requirement for tax advisers to be registered. Mr Roy-Chowdhury said: "You do not have to be registered. We professional bodies have been looking for a long time to have much greater recognition for professionally regulated tax advisers."[78] HMRC issued a consultation paper on the role of agents in 2011,[79] and is currently reviewing how it deals with tax agents.[80]

74.  HMRC state that "HMRC data suggests that there are approximately 43,000 firms in business providing support and advice to taxpayers. HMRC also works with 'families and friends' who act for an individual taxpayer and with various voluntary sector organisations who support those who would otherwise find it difficult to comply with their obligations. Together, these amount to up to a further 80,000 'agents' who are authorised to act on behalf of another person".[81]

75.  The Public Accounts Committee proposed: "HM Treasury should introduce a code of conduct for tax advisers, setting out what it and HMRC consider acceptable in terms of tax planning. Compliance with this code should determine whether or not these firms can access both Government and wider public sector work."[82] The Government has stated its disagreement with the PAC proposal,[83] citing the CBI statement of principles[84] and the ICAEW Code of Ethics.[85]

76.  We consider that a new system of regulation of tax advisers could be valuable in helping ensure that advice on tax matters is in accord with a strengthened code of conduct. We recommend that the Treasury and the professional bodies should urgently examine how such a system of regulation might be established and function, bearing in mind the many practical issues involved, including the form of a regulatory body and suitable sanctions for falling short of the standards required, which might include loss of the right to act as a tax adviser.

PUBLIC PROCUREMENT

77.  The Government has proposed that companies seeking contracts for public procurement should self-certify that they had complied with their tax obligations. The Government published the results of its consultation on this proposal in March. It suggests that:

"for central government contracts advertised in the Official Journal of the European Union on or after 1 April 2013, potential suppliers to Government would have to self certify that they had complied with their tax obligations. Criteria were set out which, if satisfied, would indicate that a taxpayer had failed to fulfil such an obligation and could be excluded, or not selected. The criteria included a tax return being found to be incorrect by reason of the new general anti-abuse rule (GAAR), any targeted anti-avoidance rule (TAAR) or the "Halifax" abuse principle or because the taxpayer was involved in failed tax avoidance scheme to which the disclosure of tax avoidance schemes (DOTAS) rules apply."[86]

78.  We broadly welcome as a first step the Government's proposals to exclude from bidding for public procurement contracts companies whose tax affairs are not in good standing. But we have concerns that they would apply only to companies that seek public contracts rather than treating companies equally under the law, and that procurement officers would have discretion over which companies to exclude. As with naming and shaming, there is no substitute for improving the tax code to reduce tax avoidance.

PENALTIES

79.  As things stand companies or their advisers run few risks in undertaking tax planning at the boundaries of the law, with an uncertain outcome, generally seen as aggressive or abusive tax avoidance.

80.  A more direct sanction than e.g. naming and shaming would be to introduce penalties in cases where such planning was not accepted by the courts, even though fraud was not suspected: "where there is no trace of any concealment of the true facts of arrangements for which there is a respectable technical case, it is hard to imagine how a criminal offence can have been committed".[87]

81.  The introduction of the GAAR may be useful in identifying where a case is not respectable. Where tax planning is deemed not to be reasonable under the GAAR, there may be a case for introducing a penalty. The proposal by Graham Aaronson QC for a GAAR stated: "In some jurisdictions there are provisions applying special penalty or rates of interest regimes to tax recovered under a GAAR. Including similar measures in a UK GAAR would certainly increase its deterrent effect, and may be regarded by a significant proportion of taxpayers as no more than just retribution for schemes designed to avoid paying a fair share of tax."[88] Mr Aaronson nevertheless did not recommend penalties. One argument against them is that they could make the courts less likely to decide against a particular form of tax avoidance. On the other hand, the deterrent effect of a penalty could be useful in against aggressive and abusive behaviour. Some other countries that have a GAAR already use penalties.[89]

82.  It is important that the GAAR should be effective. If the range of sanctions envisaged proves ineffective, we recommend consideration of the introduction of penalties for all taxpayers in cases that are found by the courts not to meet the "double reasonableness" test in the GAAR.

TRANSPARENCY

83.  We asked witnesses whether legislation for companies to make public more information about taxes paid would help allay public concern (before publication of the Lough Erne G8 summit's leaders' communiqu, including its commitment to make extractive industry payments more transparent). Mr Steve Edge of Slaughter & May had doubts:

"My fear with transparency has always been that if you impose transparency for transparency's sake but it does not really inform, you just impose administrative costs on people; and that you again create potential concerns for companies based in the UK that they are being required to put a lot of their confidential information out in the public domain, on profits made in particular areas. I am sure foreign predators or potential predators would love that."[90]

84.  It seems unlikely that information made public on a company's tax affairs would be full enough to enable, say, campaigners to second-guess HMRC on whether a company had paid enough UK tax. Even if full information were released, it would be extremely costly for anyone to use it to challenge an HMRC judgement.

85.  Automatic exchange of information between tax authorities seems more likely to reduce scope for tax avoidance by multinationals. The recent G8 communique stated:

"Comprehensive and relevant information on the financial position of multinational enterprises aids all tax administrations effectively to identify and assess tax risks. The information would be of greatest use to tax authorities, including those of developing countries, if it were presented in a standardised format focusing on high level information on the global allocation of profits and taxes paid. We call on the OECD to develop a common template for country-by-country reporting to tax authorities by major multinational enterprises, taking account of concerns regarding non-cooperative jurisdictions. This will improve the flow of information between multinational enterprises and tax authorities in the countries in which the multinationals operate to enhance transparency and improve risk assessment."[91]

86.  We recommend that the Government should actively promote implementation of the G8 proposals for improving the flow of information between tax authorities. As regards public disclosure, we recommend that large companies operating in the UK should make public disclosure of their UK corporation tax returns. We also recommend that the Treasury review should look at practical ways to require companies with large operations in the UK to publish a pro-forma summary of their UK corporation tax returns. This would help enable Parliament and the public to see if a fair level of corporation tax was being paid and when action against avoidance was needed. It might also act as a deterrent to aggressive tax avoidance by companies.


63   HM Treasury & HMRC, Corporate Tax Reform: Delivering a More Competitive System, November 2010, p 14. Back

64   Q52. Back

65   Q1. Back

66   IFS Mirrlees Review, Tax by Design, p.449. Back

67   Q125. Back

68   Q125. Back

69   Q125. Back

70   Q125. Back

71   Public Accounts Committee, Tax Avoidance-Google, (9th Report, Session 2013-14, HC Paper 112). Back

72   Eric Schmidt, Why we need to simplify our corporate tax system, Financial Times, 16 June 2013Back

73   Deloitte, Responsible Tax, Sustainable tax strategy, May 2013. Back

74   HC Deb, 20 March 2013, col 940. Back

75   Q34. Back

76   Q87. Back

77   Q45. Back

78   Q34. Back

79   HMRC, Establishing the future relationship between the tax agent community and HMRC, May 2011. Back

80   See http://www.hmrc.gov.uk/agents/strategy/overview.htm for The Tax Agent Strategy. Back

81   HMRC, Establishing the future relationship between the tax agent community and HMRC, May 2011, page 12. Back

82   Public Accounts Committee, Tax avoidance: the role of large accountancy firms, (44th Report, Session 2012-13, HC Paper 870). Back

83   HM Treasury, Treasury Minutes, CM 8652, June 2013. Back

84   See www.cbi.org.uk/media/2051390/statement_of_principles.pdf for Statement of Tax Principles. Back

85   www.icaew.com/en/members/regulations-standards-and-guidance/ethics  Back

86   HMRC, Tax and Procurement-Summary of Consultation Responses, March 2013. Back

87   HMRC, New Criminal Offence of Tax Fraud, Inland Revenue Tax Bulletin, October 2000, page 783. Back

88   Graham Aaronson, GAAR Study, 11 November 2011, par 5.47. Back

89   See, for example, the case of Australia at http://www.ato.gov.au/About-ATO/About-us/In-detail/Key-documents/Large-business-and-tax-compliance-publication/?default=&page=67  Back

90   Q86. Back

91   G8 2013 Lough Erne, Leaders' Communique, 18 June 2013. Back


 
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