Archives for posts with tag: budget

Relief Capping

I want to examine one of the proposals in George Osborne’s recent budget which has attracted a lot of press comment – however the press discussion has ignored rather more significant aspects of the proposal.  This entry is now amended to reflect the Chancellor’s announcement on 31 May 2012.

I’m talking about the suggestion that a cap should be introduced on all forms of tax relief which do not have a separate limit.  It has been suggested that some very wealthy taxpayers are using these reliefs unfairly to minimise their taxation liability – George Osborne claimed to have been shown evidence by HMRC concerning the aggressive use of upcapped reliefs to minimise liability –

He told The Telegraph:

“I was shocked to see that some of the very wealthiest people in the country have organised their tax affairs, and to be fair it’s within the tax laws, so that they were regularly paying virtually no income tax. And I don’t think that’s right. I’m talking about people right at the top. I’m talking about people with incomes of many millions of pounds a year. The general principle is that people should pay income tax and that includes people with the highest incomes. I’m not allowed to be shown the names of the individuals but I’ve sat with the most senior people at the Inland Revenue, the people who run some of the high net worth units there. They have given me examples, anonymised examples, and so we are taking action.”

Ironically in 2007 HMRC published a report on Gift Aid which suggested that wealthy people were not sufficiently aware of Gift Aid in particular – their report states – “If Tax reliefs on charitable donations are to be used more widely by wealthy people, levels of awareness must be improved…” seems they have been improved considerably.

The Press have focussed on the impact on charitable giving but it may be important to remember that gift aid as a system has not always been an unlimited relief – in 1999 Gordon Brown announced a number of initiatives to increase charitable donation in a package entitled “Getting Britain Giving” which included removing a number of gift aid and payroll-giving restrictions.

It is true that many very wealthy people have used their own charitable trusts to shelter income which has richly endowed many charities ranging from the Sackler galleries at the Royal Academy to local church halls.  Osborne has also stated that he is “specifically looking at making sure we are still encouraging philanthropy and charitable giving.”

Interestingly this capping will not affect the ability of the charity to reclaim tax under the Gift Aid system, only the excess liability relief that the taxpayer will be entitled to.

But the impact of this proposed measure may be more significant in two other areas – loss relief and relief for interest as a charge against income.

It seems that this will not affect the carry forward of losses against future profits nor carry back against trading income in earlier years.  However relief for trading losses against other income will now be capped at £50,000 or, if greater, 25% of a taxpayer’s income.  And that will apply to all of the reliefs which may be subject to capping.

Now it may be true that some very wealthy individuals have been buying avoidance schemes to artificially generate losses to offset income – and this year’s budget contains specific anti-avoidance provisions to counter the use of some of these schemes.  But if HMRC are concerned about the very wealthy why set the limit for this capping at such a low level?  Let’s think about a practical situation.

Alan set up a trading company eight years ago and subscribed for £120,000 worth of shares at this time.  Because of adverse trading conditions the company has failed and had to be liquidated with no money to return to shareholders.  Alan has taken employment with a company at an annual salary of £140,000 and in that sense he is lucky.  Alan can claim that the loss that he suffers on the disposal of the shares can be converted into an income loss and offset against other income that he may have – but he will now be affected by capping.  No more than £50,000 can be offset against income (as 25% of £140,000 is less) and as there are no other sources against which the loss can be offset the balance will be lost.  Is this the sort of situation that that George Osborne had in mind?

Aiden has two separate trades which he pursues, one as a farmer which generates income of £140,000, the other as an active Lloyds Underwriter.  As a result of several natural disasters his underwriting syndicate suffers losses of which his share for the year is £80,000.  This will be capped at £50,000.  If he claims against the previous year he may be allowed to offset against the trading profit of the previous year but not other income, however for this to be permitted reform will be needed to the scheme for offsetting losses as well, at present this relief is against total income from all sources without distinction.

Lets look at another situation – interest relief.  Relief can be claimed for interest paid as a deduction in calculating income from certain sources, principally trading and property ownership.  These are, we are told, not affected.  Interest relief can also be given as a charge, a deduction from total income which will now be subject to capping; these reliefs apply to loans applied to a qualifying purpose, broadly relief for loans used to purchase an interest in a close company or a partnership, loans used to make loans to a close company or partnership and loans used to purchase plant and machinery for use by a company in it’s trade. Relief is also available for loans used by employees buying an interest in an employee controlled company, for investments in co-operatives by members and loans used by executors to pay inheritance tax arising on death.  These will all now be subject to capping

Brian has traded through his company for many years and recently it made a takeover bid for another trading company.  This was financed by a loan which Brian took from his bank, as it was not willing to lend to his company directly.  Brian lent the money on to his company and charges the company interest of the same amount that he pays to his bank.  Under the new proposals he runs the risk of not being able to claim full interest relief on the amount he pays to the bank even though he will still be taxable on the amount he receives from the company.  Was this the sort of situation envisaged by George Osborne?

Bill is a director of a large manufacturing company and has the opportunity, with five other directors and senior managers, to complete a management buyout.  He will mortgage his home and borrows £1,500,000 on which he will pay annual interest of £75,000.  He has agreed with the individuals involved to draw modest income for the first few years until the business is established. Unless Bill receives income of at least £300,000 pa he will be subject to capping.

Is this what George Osborne intended? – Personally I doubt that it was.

I think part of the problem is the very low level at which the restriction applies – HMRC and Osborne are complaining about the actions of multi-millionaires and yet setting a level of £50,000 is going to directly affect many taxpayers who are most certainly not millionaires and not using this device to avoid liability. There are also no exceptions envisaged for bone fide reliefs where avoidance or even mitigation of liability is the furthest thing from a taxpayer’s mind.  Loss-making multi-millionaires may have bought into artificial schemes to minimise the tax that they pay but many, many ordinary taxpayers will be adversely affected by these proposals.

Perhaps if the ceiling was set considerably higher at £500,000 it would attack the sort of abuse without significant adverse effects, and if there were exceptions permitted it would help but as it stands this is evidence of the revenue simply being unwilling to use existing measures to counteract avoidance.  It is easier for the revenue to impose this sort of limit than to have to police more specific anti-avoidance measures even though they continue to actively seek these powers as well.

This is exactly the same strategy that saw the ludicrously small £25,000 limit set on the statutory equivalent of ESC C16 that I discussed in my December podcast last year.

What can we do?  Like many suggestions in the budget which are intended to be applied in the future – this restriction is intended to be introduced in April 2013 – this will be subject to consultation later this year.  It is vitally important that we take part in the consultation process – and yet very few people do.

Here is a quote from the published results of a recent consultation – 83 representations were received from a range of interested parties including 11 individuals and 72 organisations, ranging from the professional bodies and larger firms of accountants to commercial companies and institutions affected by the measure.  11 individuals only!

If accountants and taxpayers simply sit back and do not take an active part in consultation which potentially affects them then they shouldn’t complain when these measures are subsequently introduced.

There are reliefs which know will not be affected, these include credits against liability – tax credits, double taxation relief and credits under the event gain regime and also where there is a financial limit established such as Pension Contributions and the various Venture Capital reliefs.  We are also told that it won’t apply to the Cultural Gift Scheme – this is the name now being given to the scheme introduced in the Finance Act 2012 for objects of pre-eminent interest being gifted to the nation – although the capping here is the total value from all taxpayers of objects accepted of £30million per annum – the Secretary of State for Culture, Olympics, Media and Sport will have overall accountability for ensuring that the annual limit is not exceeded.

There are also reliefs which might be affected where no clarification has yet been received – what about the payment or spreading of patent royalties for example, or the averaging provisions allowed for authors artists and farmers?

The guidance says that computational reliefs which determine how income from a particular source is measured are excluded which should mean that interest on the acquisition of buy-to-let properties will not be affected although this is often cited as an example of avoidance of this type.

In applying the cap we are told that income is measured without deduction of capped reliefs which can help to maximise the relief available but the revenue’s own example is not completely clear on this point.  In applying the limit relief such as gift aid relief which operates by extending the basic rate band will be converted into the equivalent of a relief that reduces income.

Suppose Charlie has total income of £250,000, claims qualifying interest relief of £40,000 and relief for a donation of shares to a charity valued at £25,000.  That gift of shares qualifies for gift aid relief but there is no deemed basic rate tax deducted at source, he simply claims a deduction for the value of the shares gifted.  He also invests £50,000 under the Enterprise Investment Scheme.  In calculating liability without capping his taxable income will be reduced by £65,000 and there will be a tax reducer relief of £15,000 to offset against the liability arising because of the EIS investment.  Although legally he has taxable income of £185,000, for the purpose of the cap the full income of £250,000 will be used, 25% of which is £62,500 leaving taxable income of £187,500 after capping.

Until we see the consultation document we will not know whether it is the charitable gift or the interest relief that will be practically reduced.  Taxpayers may be allowed to choose.

The document points out that if the EIS shares are disposed of at a loss there will then be a further potential loss relief claim which will also become subject to capping and in fact in this example Charlie will get no relief at all.

Unfortunately capping can’t be applied until the income for the whole of the year has been ascertained and that will usually be after the year has finished.  Traders with a 30 April year end, or one ending earlier in the year, will have an opportunity to know what their income for the year will be and plan accordingly.  Those with a 31 March year end, or an employee with bonus entitlements arising late in the tax year will not.

Timing of certain claims will also become critical to avoid, perhaps, two claims in a single year where capping might then apply where one claim would not be.

Remember – if you or a client of yours is likely to be adversely affected by this proposal you will only have yourself to blame if you fail to take part in the consultation later this year.

31 May 2012 – update:  George Osborne apparently stated today (although there is as yet no confirmation on either the Treasury of the HMRC websites) this:

Mr Osborne said: “I can confirm that we will proceed next year with a cap on income tax reliefs for wealthy people, but we won’t be capping relief for giving money to charity.  It is clear from our conversations with charities that any kind cap could damage donations, and as I said at the Budget that’s not what we want at all. So we’ve listened.”

The point is that the capping of losses and interest relief will go ahead despite the damage that this is likely to cause to the SME sector – this measure, remember, is supposedly aimed at multi-millionaires but the limit, £50,000 or 25% of income is set so low that it WILL affect many smaller businesses – Consultation is likely to start in June or July and it is still critical that that taxation professionals and their clients make it quite clear how damaging this proposal may be.

Remember – if you or a client of yours is likely to be adversely affected by this proposal you will only have yourself to blame if you fail to take part in the consultation later this year.

 

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Budget 2012

George Osborne’s budget is the first under the budgetary process in full.  This involves an announcement made in budget 1 (in this case the 2011 budget on 23 March) being subject to consultation over the summer, then the draft finance bill measures are published in December for consideration.  If adopted they are included in the budget statement No 2, this year on 21st March and then published as part of the actual finance bill, this year expected on 29 March.  The measures are considered by parliament and the final amended version emerges in the middle of July.

Meanwhile advance announcements in this budget in 2012 will be consulted on this summer, included in a draft bill next December, and then adopted in the Finance Act 2013 after next year’s budget.

One measure which was going to included in this year’s finance bill was the new statutory residence test we discussed in October last year.  This is to be postponed and will now be brought forward for inclusion in next year’s finance bill, the rules becoming operational from 6 April 2013.  We also learn that the concept of ordinary residence is to be largely abolished and it’s effect preserved in connection with certain overseas duties.

A number of measures in this year’s budget have started with consideration by the Office of Tax Simplification – and one of these seems to have backfired on the government. You’re probably aware that the office started off looking at IR35 and redundant tax reliefs.  It then went on to consider small businesses and some it’s recommendations are adopted here including allowing businesses with a turnover below the VAT registration threshold, called ‘Nano’ businesses, to use the cash basis rather than the full GAAP which, in strictness, they should be using.  OTS think that 65% of the smallest businesses, many not using accountancy services, are using this method anyway!

The OTS went on to look at two further areas, issuing initial reports but not final recommendations; one of these concerned employee shares schemes, the other taxation of the elderly. They identified the problem that the tax affairs of elderly people are quite complex, they often have several sources of pensions and income, often dealt with by different districts and, if the taxpayer’s income is below £29,000, they have been entitled to a higher tax allowance when reaching 65 and a higher allowance still on reaching 75, although if their income is just below £29,000 the higher allowance is subject to clawback.

In the meantime the coalition have been pursuing the idea of substantially increasing the normal personal allowance to take increasing numbers of people outside of the scope of IT.  From April 2012, as was announced in 2011, the personal allowance goes up by £630 to £8,105 and to balance this the higher rate threshold is reduced by £630 from £35,000 to £34,370.  This budget provided that next year, from April 2013, the allowance would increase by £1,100 to £9,205, although the higher rate band threshold would reduce by rather more, £2,125, to limit the benefit of the allowance increase to higher rate taxpayers to 25% of what a basic rate taxpayer benefits by.

Now we know that the Lib Dems want to increase the allowance to at least £10,000 and if this allowance eventually exceeded the higher amounts of the age allowance, and of course you can’t have an allowance which is lower that the personal allowance so the age allowance can be done away with then the complexity of the age allowance and the clawback of the additional relief which gives affected taxpayers a marginal rate in excess of 20% could be done away with.

But George has jumped the gun.  Before the OTS makes its final recommendations and before the ordinary personal allowance has caught up with the age allowance George has decided to accelerate its withdrawal – this is the so-called “Granny Tax”.

The age allowance will be restricted now to those who reached the age of 65 before 6 April 1948 and the higher level of the allowance will only be available to those born before 6 April 1938.  It is also going to be frozen, which is the main complaint of the grannies, that in inflation adjusted terms they will be worse off. Although the pension may well be increased next year to compensate those persons who are affected by this ‘granny tax’, the increase in liability of those whose allowance is frozen has been seized upon by the press.  It reminds me of Gordon Brown’s ill-fated attempt to ‘simplify’ the tax system when he controversially eliminated the 10% starting rate for all income other than savings income.

It is made all the worse because George also decided to reduce the 50% rate to 45% on the grounds that the higher rate was counterproductive, it may well be that it is, HMRC figures seem to suggest it, but of course it makes it look as though he is taking from pensioners to transfer to the very wealthy.

In an historical sense this budget will be seen as the one where the government and the revenue finally accepted the need for a General Anti-Avoidance Rule or GAAR; given the number of targeted rules (TAAR) implemented since 2006 when the first one was introduced (concerning capital losses for CT purposes, and was so successful that it was extended a year later to individuals and trusts for CGT purposes) this should enable a significant reduction in the length of taxation legislation and may allow abolition of individual TAARs which now litter the legislation and account for much of the length of recent Finance Acts.

In the past HMRC have been reluctant to introduce this sort of measure, even though it is a potent one in the war against avoidance, because of the need to have a parallel clearance mechanism so that business can achieve certainty before entering into transactions.  It is claimed that Canada – who introduced a GAAR without a clearance mechanism – have suffered as a result.

Graham Aaronson QC, who suggested the GAAR in a report commissioned in last year’s budget, believes that it is possible to have such a rule as a limited GAAR, Sounds like a contradiction in terms which would allow ‘reasonable tax planning’ and so would not require new clearance mechanisms.  It remains to be seen whether it could be effective, as the arbiters of reasonability in the first instance would be – the revenue, although the final decision would be up to the Tribunals and the Courts.

Investors may have a quite unique opportunity in 2012/13 to secure 78% tax relief – it works like this…

Genuine small start-up businesses can use a scheme to raise capital called the Seed Enterprise Investment Scheme or SEIS – this offers investors a tax reducer relief of 50% which they can set against this year or last year’s liability regardless of the rate of tax they actually pay.  But they can do better than this – if they also make gains during the year 2012/13, and they would be advised to do so if they can, these can be matched against the investment into the SEIS and will be exempt from CGT.  Now the ordinary EIS offers 30% relief and deferral of gains, but this is a genuine exemption worth a further 28%.

Middlemen have already started to try to attract investors and match them with suitable small businesses.  It is obviously very high risk but the relief available may make it worthwhile.

Company cars are subject to good news and bad news – lets look at the… good news first.  From April 2013 the current scheme which gives a business 100% relief on the cost of a car which emits less than 100 g/km of CO2 was to come to an end.  It will now be extended to 2015 but at a slightly lower emission limit of 95g/km.

You can still get an Alfa Romeo Mito 1.3 diesel and claim a 100% FYA after April 2013 but if you want an Audi A1 Sportback you’ll need to be quick as it will cease to qualify after April 2013, its emission value is 99g/km – unless the manufacturer improves efficiency even further.

The Bad news? – well there’s rather a lot of it… cars which emit more than 130 g/km but less than 160 g/km will qualify for an 18% WDA until April 2013, but from that time onwards purchasing such a car will give you a writing down allowance of 8% pa only which at the moment only applies to cars with an emission figure in excess of 160 g/km.

In addition between April 2014 and April 2016 several changes are to be made to the company car benefit in kind scheme which will see the benefit in kind, in other words the tax liability, on some vehicles increasing by 25% over this short period, or indeed even more!  If you have a zero emission vehicle, which at the moment has a zero benefit in kind, from April 2015 onwards you will have a 13% benefit and in the following year this will be increased by a further 2% to 15%.  The maximum percentage for company cars is going to go up as well, it is at the moment 35% but will increase to 37%.  From April 2016 onwards you will no longer need to add the extra 3% for a diesel vehicle.

The announced reduction in the rate of corporation tax from 26% down to 24%, where last year we were told that the rate would go down to 25%, was a welcome reduction for larger companies with profits in excess of £300,000, and next year and the year after the rate will go down to 23% and 22% respectively.  But what of the lower 20% rate that applies to profits up to £300,000?  Would that be reduced as well?

The problem is that if this rate is reduced a 40% taxpayer taking a dividend from a company would be liable to a combination of corporation tax and income tax on the dividend which would be less than 40%. This was the mistake made some years ago by Gordon Brown, in reducing the rate to 19%, which he compounded by increasing national insurance so that a self-employed taxpayer was liable at 41% but dividend extraction from a small company attracted a liability of only 39.25%.

In a throwaway comment George indicated that he intended the main rate to fall even further to 20% in the future when there would then be one rate of tax applying to all companies regardless of size and the marginal relief calculation, necessary for profits between £300,000 and £1,500,000 to avoid a large jump in liability would no longer be needed and the complicated Associated Company rules, which were only reformed in last year’s Finance Act would also not be necessary.

In addition to increasing R&D relief further for small and medium sized businesses, a welcome change, he also confirmed the introduction of the idea of a “patent box”.  Originally dreamed up by his predecessor, Alistair Darling, this would mean that profits derived directly or indirectly from the exploitation of patent rights would be charged at an effective rate of 10% from April 2013 onwards and it worth noting here that this is not confined to patent royalties but also the trading profits that manufacturers derive.  As a response to this and the general reduction in CT liabilities Glaxo SmithKline have already announced a half a billion pound investment in UK manufacturing.

The CFC, Controlled Foreign Company, regime is extensively overhauled as announced last year to prevent it falling foul of EU discrimination laws and will only apply where profits are artificially diverted away from the UK by larger companies, rather than applying by default at the moment unless you benefit from an exemption.

A number of VAT anomalies have been removed from 1 October 2012 so that enjoying a hot chicken from your supermarket, drinking sport nutrition drinks, using self-storage facilities, even going to the hairdresser now that self employed stylists will not be able to rent chairs in a salon on an exempt basis could all become more expensive.

When the last government implemented SDLT, Stamp Duty Land Tax, in 2003 a number of bodies suggested they were too hasty in doing so and since then every year has seen further attempts to limit tax losses caused, at least in part, from the revenue’s Stamps Office seemingly not understanding real world property transactions. Of course, before SDLT came in, they were experienced in valuing legal documents but were not required to be aware of other transactions.

Residential properties costing more than £2,000,000 will now be subject to a 7% rate of SDLT and where companies have been used to acquire this sort of residential property there will be a 15% liability on the transfer into the company, because subsequently the shares can be transferred at a much lower Stamp Duty liability of 0.5% or outside the UK with no liability at all – other measures will include charging gains on the sale of property within these offshore companies to CGT and even a version of Vince Cable’s vaunted mansion tax where a company is used as an envelope to avoid liability.

This podcast can only skim the surface of the budget provisions and further information can be obtained from the revenue and treasury websites. There is a 206 page document “Overview of Tax Legislation and Rates” containing details of all of the budgetary changes which can be downloaded from http://www.hmrc.gov.uk/budget2012/ootlar.htm and The Chancellors full budget report, the ‘Red Book’ as it is called is available from http://www.hm-treasury.gov.uk/budget2012_documents.htm