With all the attention being focused on the new pensions legislation and, to a lesser extent, the continuing developments in the law relating to personal tax avoidance, you could be forgiven for missing the (important) proposals to counter unacceptable corporate tax avoidance in the shape of the new “diverted profits tax”.
It would have been hard for even the least tax-interested person to have missed the kerfuffle over the tiny amount Starbucks, Google, Amazon and the like pay in UK corporation tax compared with the obvious size of their trading presence and turnover in the county. Most in the know appreciate a truly effective deterrent has to have global application. The OECD, EU and the G-whatever-number all appear to at least have this issue on their agenda.
But as Jarvis Cocker emoted in the seminal Common People, “I had to start somewhere, so it started there”. He was talking about a posh girl in a supermarket but the phrase is also apt in relation to the UK’s start on doing something serious and direct about corporate tax avoidance. This has come in the shape of the diverted profits tax. HM Revenue & Customs released the following information about the measure at the end of last year:
Who is likely to be affected?
Large multinational enterprises with business activities in the UK that enter into contrived arrangements to divert profits from the UK by avoiding a UK taxable presence and/or by other contrived arrangements between connected entities.
General description of the measure
This measure will introduce a new tax on diverted profits. The diverted profits tax will operate through two basic rules. The first rule counteracts arrangements by which foreign companies exploit the permanent establishment rules. The second rule prevents companies from creating tax advantages by using transactions or entities that lack economic substance.
The main objective of the diverted profits tax is to counteract contrived arrangements used by large groups (typically multinational enterprises) that result in the erosion of the UK tax base.
It seems the new measures will have effect in respect of profits arising on or after 1 April.
Under the current law UK resident companies, and non-resident companies carrying on a trade in the UK through a permanent establishment, are chargeable to corporation tax on profits. The computation of those profits is subject to:
- The transfer pricing rules (at Part 4 Taxation (International and Other Provisions) Act 2010).
- The rules on profits attributable to a UK permanent establishment of a non-UK resident company (at Part 2, Chapter 4 Corporation Tax Act 2009).
- The rules on whether a non-UK resident company has a permanent establishment in the UK (at Part 24, Chapter 2 Corporation Tax Act 2010).
The tax will be at a rate of 25 per cent of diverted profits relating to UK activity. The charge will arise if either of two rules applies.
These rules seek to apply an effective “substance over form” approach to the taxation of “offending corporations”. I will look at the rules in more detail in next week’s article but I will give you a “generally speaking” overview to be going on with.
The first rule is designed to address arrangements that avoid a UK permanent establishment and comes into effect if a person is carrying on an activity in the UK in connection with supplies of goods and services by a non-UK resident company to customers in the UK, provided the detailed conditions are met. Here, the mischief being addressed is the corporation that does its business in the UK but books its profits outside of it – usually in a low or no-tax jurisdiction.
The second rule will apply to certain arrangements that lack economic substance involving entities with an existing UK taxable presence. The primary function here is to counteract arrangements that exploit tax differentials and will apply where the detailed conditions, including those on an “effective tax mismatch outcome”, are met.
So, in a GAAR-like way, legislative force is being given to a “substance over form” approach to secure the tax the authorities feel should rightly be payable based on the commercial realities of the business in question.
Tony Wickenden is joint managing director at Technical Connection