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Revenue disallows goal

Over the past few weeks, I have been looking at employee benefit trusts, how they work, how the rules operate and, in particular, how the Inland Revenue appears to be less than happy with them. If confirmation that this was true was needed, we got it in the shape of:

•The (unsuccessful) Inland Revenue arguments in the Dextra case.

•Proposed new legislation announced in the pre-Budget report on November 27.

I have considered Dextra in this column over the past few weeks, so if you were reading and paying attention, well done, we can move on. If not, shame on you.

The clear objective of the standard model employee benefit trust was for the employer to secure a tax deduction for the contribution to the trust without any employee beneficiary being assessed and then for benefits in the form of cash to be received by the employee (usually by way of loan) without triggering a liability to tax.

The decision in the Dextra case confirmed that all this was possible. The result was predictable – legislation to ensure that the result the Inland Revenue wanted was actually achieved.

New legislation was announced in the Chancellor&#39s pre-Budget report to take effect in respect of the computation of profits for accounting/trading periods ending on or after November 27, 2002 in respect of deductions for contributions to employee benefit trusts made on or after November 27, 2002. The attack, as you will have deduced by now, is focused on disallowing the contribution for the employer. Broadly speaking, the Inland Revenue will not permit any deduction for the employer unless (and until) there is a corresponding assessment of the employee.

For those of you who are deeply involved in the wonderful world of employee benefit trusts, you may wish to know that the rules in the new schedule replace those in sections 43 and 44 Finance Act 1989. Students of the Dextra case will recall that an attempt was made (unsuccessful as it turned out) to assess amounts in the employee benefit trust as potential emoluments of the beneficiaries under these provisions, especially in light of the allocation of employee benefit trust funds to sub-funds for the benefit of certain beneficiaries.

Under the new legislation, an employee benefit contribution is a payment in money or by transferring ownership of an asset to a third party, for example, trustees of employee benefit trusts, who are entitled or required to hold or use it to provide benefits to employees of the employer under an employee benefit scheme. This definition would include most if not all of the employee benefit trusts that exist.

A deduction is restricted for the employer in computing taxable profits to the extent that the recipient third party does not use the employer&#39s contribution for a qualifying purpose during the trading period in question, that is, for which the deduction is claimed, or within nine months of the end of it.

If the contribution is not allowed for the lack of a qualifying payment, it is provided in the legislation that a deduction shall be permissible in a subsequent period in which the trustee uses the amount in question to provide qualifying benefits. So what is a qualifying benefit? Simply put, it is a payment of money (but not by way of loan) or transfer of an asset by the trustees which gives rise to a charge to income tax under Schedule E and National Insurance.

There are two exceptions to the rule that, to be a qualifying payment, the benefit must be assessable to income tax under Schedule E and liable to NICs. The first is where the payment is made in connection with the termination of an employee&#39s employment and the second covers situations where the absence of Schedule E income tax and NICs is due to the employee working outside the UK.

Certain expenses incurred by the trustees will operate so as to permit the employer&#39s contributions (up to this level) to be deductible. These expenses are, broadly speaking, any expenses that are incurred by the trustees in operating the employee benefit trust, other than those that would not be deductible for the employer if incurred directly.

In determining the level of qualifying payments made, there is a general presumption that the payments out are made first out of employee benefit trust contributions, thus permitting a deduction to the extent of the qualifying payments. The same rule holds good for expenses which, as stated above, can also frank and, thus, permit a deduction for contributions.

So, all very depressing, if a little predictable. However, it is worth noting that certain deductions otherwise due for an employer&#39s payments to third parties such as trustees are not within the scope of these new rules.

In particular, practitioners will be happy to find that these include employer contributions to approved occupational and personal pension plans, approved share incentive plans and qualifying share ownership trusts.


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