Proposed changes to tax rules on manufactured payments

Consultation on proposed
<strong>changes</strong> <strong>to</strong> <strong>tax</strong> <strong>rules</strong> on
manufactured payments
Summary of Responses
11 December 2012
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Contents
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Annex
Introduction
Simplification of <strong>tax</strong> <strong>rules</strong>
Income <strong>tax</strong> deduction <strong>rules</strong>
Summary of proposals and next steps
List of respondents
On request this document can be produced in Welsh and alternative
formats including large print, audio and Braille formats
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1. Introduction
1.1 HMRC published a consultation document on possible <strong>changes</strong> <strong>to</strong> the <strong>tax</strong>ation of
manufactured payments on 27 March 2012. The consultation closed on 22 June 2012.
This document summarises the responses received and explains HMRC’s further
proposals on this subject.
1.2 The aim of the consultation was <strong>to</strong> seek views on proposals for:
•
•
Simplification of the <strong>rules</strong> for relieving and <strong>tax</strong>ing manufactured payments;
Abolition of <strong>rules</strong> requiring deduction of income <strong>tax</strong> from some
manufactured payments.
1.3 The Consultation Document made proposals for legislative <strong>changes</strong> in the
following areas:
• Simplification of <strong>rules</strong> for <strong>tax</strong>ing and relieving manufactured payments relating <strong>to</strong>
shares: the <strong>tax</strong> code currently contains detailed <strong>rules</strong> for <strong>tax</strong>ing and relieving
manufactured payments. Many of these are unnecessary. Most payments are
made and received by financial traders, for whom such payments will ordinarily
be <strong>tax</strong>able as trading income or deductible as trading expenses without the
need for special <strong>rules</strong>. The consultation document therefore proposed that
the <strong>rules</strong> applicable in such cases should be repealed. For other market
participants, the consultation document proposed that the recipient would be
<strong>tax</strong>able only if the real dividend would have been, while the payer would
normally obtain a <strong>tax</strong> deduction only if a) it relates <strong>to</strong> a company’s investment
business and b) the company elects <strong>to</strong> be <strong>tax</strong>ed on the real dividend of which
the manufactured dividend is representative.
• No <strong>changes</strong> were proposed <strong>to</strong> the <strong>rules</strong> regarding the deductibility or <strong>tax</strong>ability of
manufactured interest payments.
• Income <strong>tax</strong> deduction <strong>rules</strong>: financial institutions making manufactured overseas
dividends (MODs, a type of manufactured payment) are subject <strong>to</strong> a
requirement <strong>to</strong> deduct income <strong>tax</strong> when paying them <strong>to</strong> another UK resident
recipient (but not where the payment is made <strong>to</strong> an overseas recipient). The UK
recipient can then claim credit for the <strong>tax</strong> as if it were overseas <strong>tax</strong> eligible for
double <strong>tax</strong>ation relief. The <strong>rules</strong> are complex, with entitlements <strong>to</strong> offset <strong>tax</strong>
suffered against the <strong>tax</strong> <strong>to</strong> be deducted and numerous exemptions from the
obligation <strong>to</strong> deduct. They have been widely exploited in avoidance schemes in
recent years, and the consultation was part of the rolling review of high risk
areas of the <strong>tax</strong> code. The consultation document proposed <strong>changes</strong> so
that <strong>tax</strong> would no longer have <strong>to</strong> be deducted and the recipient would no
longer be able <strong>to</strong> obtain the benefit of that <strong>tax</strong>.
1.4 Nine responses were received in <strong>to</strong>tal, from representative bodies, professional
firms, market practitioners and a charity.
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1.5 In addition <strong>to</strong> receiving written responses, HMRC held a number of meetings <strong>to</strong>
discuss the proposals with representative bodies and a market practitioner.
1.6 The responses <strong>to</strong> the consultation are described in more detail in the following
chapters in this document, along with the Government’s detailed proposals, but in
summary the views expressed by those who replied on each of the <strong>to</strong>pics included in
the consultation were broadly as follows.
• There was clear support for the proposal <strong>to</strong> simplify the <strong>rules</strong> relating <strong>to</strong>
<strong>tax</strong>ability and deductibility of manufactured payments.
• Most respondents supported the proposals <strong>to</strong> abolish the requirement <strong>to</strong> deduct
income <strong>tax</strong> when paying manufactured overseas dividends.
1.7 Chapters 2 & 3 of this document set out the Government’s proposals following the
consultation. In summary these are <strong>to</strong> legislate in Finance Bill 2013 all the <strong>changes</strong>
proposed in the Consultation Document, with a commencement date of 1 January
2014. Draft legislation has been published <strong>to</strong>day.
1.8 Chapter 4 of this document sets out the next steps relating <strong>to</strong> these proposals.
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2. Simplification of <strong>tax</strong> <strong>rules</strong>
2.1 The consultation document sought views on our proposals on manufactured
payments relating <strong>to</strong> equities as follows:
• Where manufactured payments relating <strong>to</strong> dividends are paid or received as
trading transactions, we proposed following the accounts treatment of the
payments. The <strong>tax</strong> charge, and deductions, would follow the accounts. No
special <strong>tax</strong> <strong>rules</strong> would be required <strong>to</strong> achieve this, and most of the current
<strong>rules</strong> in Part 17 CTA 2010 could be repealed.
• For other companies it was proposed that no charge will be made on receipt
unless the dividend of which the manufactured payment is representative would
have been <strong>tax</strong>ed; and that in most circumstances no deduction would be
allowed for making manufactured payments payment.
• For persons other than companies, we proposed that manufactured payments
will remain <strong>tax</strong>able in the same circumstances as now but will be deductible
only if incurred in the course of a financial trade
2.2 The great majority of responses <strong>to</strong> the consultation were supportive of all of these
proposals, on the grounds that they would permit the repeal of significant amounts of
complex legislation.
Proposals
2.3 The Government proposes legislation in Finance Bill 2013 <strong>to</strong> insert a new Part 17A
in<strong>to</strong> Corporation Tax Act 2010 (CTA 2010) and a new Part 11ZA in<strong>to</strong> Income Tax Act
2007 (ITA 2007). Draft legislation has been published <strong>to</strong>day.
Corporation Tax
2.4 Under new Part 17A of CTA 2010 a company will be prevented from obtaining a
<strong>tax</strong> deduction for any manufactured dividend unless either:
• The company brings the payment in<strong>to</strong> account under Part 3 of Corporation Tax
Act 2009 (trading profits) in calculating the profits of a trade that it carries on; or
• The payment is paid by the company in the course of an investment business
that it carries on and the payment represents a dividend received by the
company that is <strong>tax</strong>able by virtue of section 548(5) of CTA 2010 (recipients of
distributions from REITs).
2.5 Part 17A will provide that the Corporation Tax Acts will apply <strong>to</strong> the recipient of a
manufactured dividend as if the payment were a dividend on the shares in question.
This ensures that the <strong>tax</strong> treatment of the manufactured payment will follow that of the
dividend that the payment represents.
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2.6 This rule will not apply <strong>to</strong> a recipient for whom the manufactured payment is
brought in<strong>to</strong> account under Part 3 of CTA 2009 as a trading receipt. No special <strong>rules</strong>
are needed <strong>to</strong> secure that such a payment is <strong>tax</strong>ed as income.
2.7 The recipient of such a payment will not be entitled <strong>to</strong> any <strong>tax</strong> credit under section
1109 of CTA 2010. This is unlikely <strong>to</strong> have any practical significance given that there
is little that a company can do with such a <strong>tax</strong> credit.
2.8 With one exception the recipient will also not be entitled <strong>to</strong> double <strong>tax</strong>ation relief in
respect of the payment following the repeal of the requirement <strong>to</strong> deduct income <strong>tax</strong>
from manufactured overseas dividends.
2.9 The exception relates <strong>to</strong> any actual overseas <strong>tax</strong> deducted under the <strong>tax</strong> <strong>rules</strong> of a
foreign terri<strong>to</strong>ry from the manufactured payment. This responds <strong>to</strong> concerns raised in
the consultation that a general denial of DTR entitlement would affect the ability <strong>to</strong>
claim the benefit of actual overseas <strong>tax</strong> deducted from a MOD.
2.10 The corporation <strong>tax</strong> <strong>changes</strong> will result in the repeal of almost all of Part 17 CTA
2010.
Income Tax
2.11 Under new Part 11ZA of ITA 2007 a person within the charge <strong>to</strong> income <strong>tax</strong> will
be prevented from obtaining an income <strong>tax</strong> deduction for any manufactured dividend
unless the payment is brought in<strong>to</strong> account under Part 2 of ITTOIA 2005 (trading
profits) in calculating the profits of a trade carried on by the person.
2.12 Part 11ZA will provide that the Income Tax Acts will apply <strong>to</strong> the recipient of a
manufactured dividend as if the payment were a dividend on the shares in question.
This ensures that the <strong>tax</strong> treatment of the manufactured payment will follow that of the
dividend that it represents.
2.13 This rule will not apply <strong>to</strong> a recipient for whom the manufactured payment is
brought in<strong>to</strong> account under Part 2 of ITTOIA 2005 as a trading receipt. No special
<strong>rules</strong> are needed <strong>to</strong> secure that such a payment is <strong>tax</strong>ed as income.
2.14 The recipient of such a payment will not be entitled <strong>to</strong> any <strong>tax</strong> credit under
Chapter 3 of Part 4 of ITTOIA 2005.
2.15 The recipient will also not be entitled <strong>to</strong> double <strong>tax</strong>ation relief in respect of the
payment following the repeal of the requirement <strong>to</strong> deduct income <strong>tax</strong> from
manufactured overseas dividends. As with companies, this will not apply <strong>to</strong> any actual
overseas <strong>tax</strong> deducted under the <strong>tax</strong> <strong>rules</strong> of a foreign terri<strong>to</strong>ry from the manufactured
payment.
2.16 These <strong>changes</strong> <strong>to</strong> the income <strong>tax</strong> <strong>rules</strong> will allow the repeal of Chapters 1 <strong>to</strong> 3 of
Part 11 ITA 2007.
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3. Income <strong>tax</strong> deduction <strong>rules</strong>
3.1 The consultation document sought views on the proposal <strong>to</strong> repeal the
requirements set out in Chapter 9 of Part 15 ITA 2007 <strong>to</strong> deduct <strong>tax</strong> from payments of
manufactured overseas dividends (‘MODs’) <strong>to</strong> UK residents and <strong>to</strong> account for <strong>tax</strong> on
receipts of MODs from non-UK residents (the ‘reverse charge’).
3.2 The representative bodies for the major financial institutions involved in this area
of activity were broadly supportive of both of the proposed <strong>changes</strong>.
3.3 Their responses suggested that the key benefit was that it would no longer be
necessary for payers of MODs <strong>to</strong> satisfy themselves that beneficial entitlement <strong>to</strong> the
MOD rests with an overseas person before being in a position <strong>to</strong> make payments on a
gross basis. Administratively there would also be benefits because the documentation
requirements currently imposed by the legislation would no longer exist.
3.4 The consultation document envisaged, and the responses confirmed, that the
proposals are likely <strong>to</strong> result in the re-pricing of some transactions <strong>to</strong> reflect the fact
that the payer will no longer have <strong>to</strong> deduct <strong>tax</strong> and the recipient will no longer be able
<strong>to</strong> claim credit for it. The responses noted that for recipients such as pension funds
that currently cannot use the credits the <strong>changes</strong> are likely <strong>to</strong> be positive while for
others the <strong>changes</strong> could be negative.
3.5 Several responses expressed the view that the proposed <strong>changes</strong> should not be
introduced until January 2014, <strong>to</strong> give time for companies <strong>to</strong> prepare.
3.6 A response from a large charity was supportive of the proposed <strong>changes</strong>, on the
basis that charities cannot currently obtain any benefit for the <strong>tax</strong> deducted at source
but under the proposals would be able <strong>to</strong> receive the MODs gross.
3.7 Of the market participants responding, some were strongly in favour of the
proposals and some were against. Support came from those who saw benefits in
terms of simplification; opposition tended <strong>to</strong> focus on particular trading strategies that
the current <strong>tax</strong> <strong>rules</strong> favour that depend upon the recipient of a MOD being able <strong>to</strong>
claim DTR.
3.8 Several respondents commented that any <strong>changes</strong> <strong>to</strong> the <strong>rules</strong> should not affect
entitlement <strong>to</strong> claim double <strong>tax</strong>ation relief in respect of actual overseas <strong>tax</strong> deducted
from MODs.
Proposals
3.9 The Government proposes legislation in Finance Bill 2013 repealing the income
<strong>tax</strong> deduction <strong>rules</strong> for MODs in sections 922 <strong>to</strong> 925F of ITA 2007. Draft legislation
has been published <strong>to</strong>day.
3.10 To reflect the responses given expressing a need for the markets <strong>to</strong> prepare, and
in line with those responses, the new <strong>rules</strong> will apply only <strong>to</strong> MODs paid on or after 1
January 2014.
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3.11 If the primary legislation relating <strong>to</strong> MODs is enacted in Finance Act 2013, the
secondary MODs legislation in Regulations, of which the largest part is Statu<strong>to</strong>ry
Instrument 1993/2004, will also be revoked. This will be done in time <strong>to</strong> take effect on
1 January 2014.
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4. Summary of proposals and next steps
4.1 The Government proposes <strong>to</strong> introduce legislation in Finance Bill 2013 <strong>to</strong> simplify
the corporation <strong>tax</strong> and income <strong>tax</strong> <strong>rules</strong> for relieving and <strong>tax</strong>ing manufactured
payments relating <strong>to</strong> dividends.
4.2 Under the proposed legislation, manufactured dividends paid will generally be
deductible only if they are expenses of a trade, and manufactured dividends received
will generally be treated in the same way as the real dividend. Receipts of
manufactured dividends will not be eligible for any <strong>tax</strong> credits, except where foreign
<strong>tax</strong> has been deducted from the payment. This legislation should be introduced with
effect from 1 January 2014.
4.3 The Government proposes legislation in Finance Bill 2013, also <strong>to</strong> be introduced
with effect from 1 January 2014, repealing the income <strong>tax</strong> deduction <strong>rules</strong> for
manufactured overseas dividends in ITA 2007.
4.4 Draft legislation has been published <strong>to</strong>day.
4.5 Comments on the proposals set out in this response document and on the draft
legislation should be sent by:
• e-mail: geoff.hea<strong>to</strong>n@hmrc.gsi.gov.uk
• telephone: 020 7147 2577
• fax: 020 7147 2641
• post: Geoff Hea<strong>to</strong>n, Room 3c04, 100 Parliament St, London SW1A 2BQ.
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Annex: List of respondents
HMRC does not normally identify the names of individuals who contribute <strong>to</strong> a
consultation, or those of other respondents who specifically ask not <strong>to</strong> be identified.
Association of Financial Markets in Europe
Ernst & Young LLP
ING Bank NV
The International Securities Lending Association
Morgan Stanley & Co International plc
PricewaterhouseCoopers LLP
Prudential plc
Société Générale
The Wellcome Trust
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