In one of the more surprising moves in this year's Budget, the Government has introduced legislation for arrangements which are seen to abuse the rules on s455 CTA 2010 (s79 and Sch 30 FA 2013). This area has never been short of HMRC interest. When I started in HMRC over 20 years ago it was on out 'hit-list' then - and it still is, with an HMRC toolkit devoted solely to it.
'HMRC has seen a number of arrangements which seek to avoid...section 455. Many of these arrangements are tacked on to wider avoidance arrangements which have the principal purpose of avoiding income tax or National Insurance contributions.'
Clarifying the definition of a 'relevant person'
S455 CTA 2010 imposes a tax charge at 25% if a close company makes a loan or advance of money to a 'relevant person' who is a participator in the company or an associate of a participator.
A relevant person is an individual or a company acting in a fiduciary or representative capacity. A case from the late 1990s (Grant v Watton) established the principle that loans from a close company to a partnership in which the participator is a partner is also caught by the rules but this was case law, not statute..
The new legislation is putting 'beyond doubt' that certain trustees and certain Limited Liability Partnerships (LLPs) or other partnerships are subject to the s455 tax by adding specific persons:
• Trustees - where there is a loan or advance to the trustees of a settlement in which at least one trustee or beneficiary (or potential beneficiary) is a participator in the close company making the loan or advance or an associate of such a participator.
• LLPs or other partnerships - where at least one of the partners is an individual and that individual is a participator in the close company making the loan or an associate of an individual who is a participator in the close company.
The new s455 has effect for a loan or advance made on or after 20 March 2013.
HMRC example 1
'An individual (X) owns 100% of the shares in, so is a participator in, a close company (C Ltd).
X and C Ltd set up an LLP with themselves as the partners. C Ltd makes a loan to the LLP.
A close company, C Ltd, has made a loan to an LLP in which there is an individual partner who is also a participator in the close company, so the loan is chargeable to s455 tax on the close company.'
Charge to tax - other arrangements
In a move against 'indirect' loans, a new tax charge is imposed to catch tax avoidance arrangements to which a close company is party under which a benefit is directly or indirectly conferred on an individual who is a participator in the close company or an associate of such a participator (new s464A CTA 2010 FA 2013). For many this will mean no change but will clearly affect others who have attempted to take planning to what HMRC feel is an unacceptable level.
HMRC example 2
'X, an individual, is a participator in a close company (C Ltd).
C Ltd and X are partners in a partnership. Under the partnership agreement, 80% of the profits are allocated to C Ltd and charged on C Ltd at the corporation tax rate.
C Ltd leaves its profits undrawn on capital account in the partnership and X draws on them.
There is a benefit conferred on X because X has received funds from C Ltd, a company in which X is a participator and there was no s455 charge on C Ltd and no income tax charge on X. If the funds had been transferred directly from C Ltd to X, they would have been chargeable to income tax (if transferred as remuneration or a dividend) or s455 (if they were transferred as a loan).'
HMRC example 3
'Using the structure described in Example 2, C Ltd could alternatively have drawn its profit share from the partnership but reintroduced some or all of the funds into the partnership as a capital contribution. At the point X then draws on these funds and seeks to argue that a tax charge does not arise when those funds are withdrawn, a benefit is conferred upon X in a similar way as for Example 2.'
Summary of provisions
The legislation contains provisions which:
• set the due and payable date for any tax chargeable under s464A CTA 2010;
• introduce a rule for these purposes that a participator in a company which controls another company is to be treated as a participator in the controlled company;
• ensure s464A CTA 2010 only applies if the conferral of the benefit which would be chargeable does not give rise to a s455 CTA 2010 tax charge or an income tax charge on the participator or an associate; and
• provide for a repayment of the tax under s464A CTA 2010 when an amount is repaid to the company which has previously been determined as a benefit. These provisions mirror the relief rules for loans in s458 CTA 2010.
The provisions have effect for any arrangements to which the close company becomes a party on or after 20 March 2013.
Restrictions on repayment of tax on the repayment of a loan
Finally, HMRC are attempting to stop what they have historically referred to as 'bed and breakfasting' i.e. repaying the loan just before the due date and then redrawing the same money shortly after. HMRC have liked this but have never had any specific legislation to stop it.
The intention of new legislation is to dictate how certain repayments are treated so that the relief rules cannot be manipulated. The provisions also apply to the new 'arrangements' legislation in ss464A and B CTA 2010. As a consequence, the legislation refers to 'chargeable payments'. Chargeable payments include loans which give rise to a charge under s455 CTA 2010 and the conferral of benefits which give rise to a charge to tax under s464A CTA 2010. There are two rules introduced.
Rule One: the 30 day rule
This is a matching rule. It matches certain repayments to 'the available amount of relevant chargeable payments'.
• An amount contained in a chargeable payment is an 'available amount' to the extent that no repayment has been treated as made in respect of it by the previous operation of Rule One.
• A 'relevant chargeable payment' is a chargeable payment if (or to the extent that) it is not repaid within the period of 30 days mentioned below.
• An amount contained in a repayment is a qualifying amount to the extent that it has not been treated by the previous operation of Rule One as a repayment of a chargeable payment.
If the conditions below are satisfied the repayments are matched as far as possible with the new chargeable payments. Repayments are available to set off against the original chargeable payments only to the extent that the repayments are in excess of the new chargeable payments.
Where, within any period of 30 days:
(i) the qualifying amount of repayments made to a close company in respect of one or more chargeable payments made by the company to a person totals £5,000 or more; and
(ii) the available amount of the relevant chargeable payments made by the company to the person or an associate of the person totals £5,000 or more; and
(iii) the relevant chargeable payments are made in an accounting period subsequent to that in which the chargeable payments mentioned in (i) were made,
the qualifying amount of the repayments, so far as not exceeding the available amount of the relevant chargeable payments, is to be treated as a repayment of the relevant chargeable payments.
The repayments and new chargeable payments may be in the same accounting period but the new chargeable payments must be made in a later accounting period than the original chargeable payments.
Importantly, the 30 day rule does not apply to any repayments chargeable as income on the participator or their associate. An example may be where a dividend is declared by the close company of an amount which is equal to the amount of the loan outstanding and upon which the participator is charged to income tax.
We have asked HMRC to clarify the position where the taxpayer, to ensure that the timing of the repayment is before the due date, is paid the dividend by way of a cheque that they bank personally and then they pay a separate cheque back to the company for the same amount. HMRC believe this repayment would be subject to the matching rules as the repayment is not subject to income tax. This seems a bit like splitting hairs.
Example (based on HMRC example of earlier draft legislation)
C Ltd is a close company in which X, an individual, is a participator. C Ltd's accounting period ends on 31 March 2013.
On 25 March 2013, X borrows £15,000 from C Ltd. If the loan is not repaid within nine months and a day of the end of the accounting period, C Ltd must pay a tax charge under s455 of 25% of the amount of the loan (£3,750).
On 1 December 2013, a dividend of £9,000 is declared by C Ltd on which X is chargeable to income tax. On the same day, X repays the remaining £6,000.
On 10 December 2013, X borrows £3,500 from the company. On 15 December 2013, X withdraws a further £2,000 from the company.
For the purposes of the 30 day rule, there was a loan outstanding of £15,000 and of that:
• £9,000 was repaid (by way of the application of a chargeable dividend towards the amount of the loan) which leaves a loan outstanding of £6,000.
• X repays the £6,000 (the qualifying repayment) which is greater than the £5,000 de minimis limit for repayments.
• Nine days later and 14 days later respectively, so within the 30 day period, X withdraws a further £5,500 (£3,500 + £2,000). These are 'available' amounts as they have not been matched previously under the 30 day rule. They are 'relevant amounts' as they are not repaid by X within the 30 day period. The amounts exceed £5,000 and so exceed the de minimis limit. And finally the payments were made in a later accounting period to the period in which the original payments were made by C Ltd to X.
Therefore £5,500 of the £6,000 repayment is matched with the £5,500 relevant chargeable payments (and so are treated as repaid and will not subsequently give rise to a charge under s455). Only £500 of the £6,000 original loan has been repaid and so a charge under s455 arises of 25% of £5,500.
Rule Two: arrangements
This matching rule considers whether a repayment is made under arrangements which result in a further amount being paid to the participator. If the conditions are met, then the repayment is to be treated as far as possible as a repayment of the new chargeable payment rather than the original chargeable payment.
(i) immediately before a repayment is made in respect of one or more chargeable payments made by a close company to a person, the total amount owed to the company by the person in respect of chargeable payments is £15,000 or more;
(ii) at the time the repayment is made, arrangements had been made for one or more chargeable payments to be made to replace some or all of the amount repaid; and
(iii) the available amount of the chargeable payments made by the company to the person or an associate of the person under the arrangements totals £5,000 or more
the qualifying amount of the repayment, so far as not exceeding the available amount of the chargeable payments mentioned in (iii), is to be treated as a repayment of those chargeable payments.
An amount contained in a chargeable payment is an available amount to the extent that no repayment has been treated as made in respect of it by the operation of Rule One or the previous operation of Rule Two.
As with the 30 day rule, repayments such as dividends declared by the close company and so chargeable to income tax will not come within Rule Two.
HMRC examples: arrangements
'A Ltd lends a participator £20,000 which is still outstanding at the end of the accounting period. 35 days before the section 455 tax becomes due and payable, the participator receives a further £25,000 payment from the company. The original £20,000 is repaid using £20,000 of the £25,000 new loan.
It is likely in this situation that the repayment of £20,000 would be treated as a repayment of £20,000 of the new £25,000 loan so the original loan would be treated as not repaid and so the section 455 tax would become due and payable.'
'B Ltd lends a participator £30,000 which is still outstanding at the end of the accounting period. During the nine month period leading up to the due and payable date, the full amount is repaid using a 40 day bank loan. The bank loan is repaid using a further loan of £30,000 from the company.
There are clear arrangements here and so the original loan would be treated as not repaid and so the section 455 tax would become due and payable unless a further repayment was made.'
The new relief provisions have effect for repayments and return payments made on or after 20 March 2013.
If a person who has made a tax return becomes aware that, after making it, anything in it has become incorrect because of the operation of the 'two Rules' above, the person must tell HMRC how the return needs to be amended within three months beginning with the day on which the person became aware that anything in the return had become incorrect.
Other amendments - loan releases and write offs
Where a loan is written off or released, the amount released is treated as a distribution in the hands of the participator or associate. The legislation is amended so that if a relevant loan which was made to an LLP or partnership is released or written off, the person liable to income tax is any partner who is an individual.
If there is more than one individual, the liability is apportioned between the partners who are individuals on a just and reasonable basis.
These amendments have effect for loans made on or after 20 March 2013.
And more changes ahead?
The Government is consulting on the structure and operation of the tax charge on loans from close companies to their participators. If legislation is found to be needed it will be in Finance Bill 2014. The Government is considering the following in relation to the s455 regime:
• maintaining the current regime;
• increasing the tax rate but retaining the structure and operation of the regime;
• replacing the current repayable charging system with a lower-rated but permanent charge which arises annually on amounts outstanding at the end of each accounting period until the extraction is repaid to the close company; and
• replacing the current repayable charging system with a lower-rated but permanent charge which arises annually on average amounts outstanding during the accounting period.
This all seems to miss the point that s455 was thought necessary in the days of ACT but that regime is long gone. The historic justification for s455 no longer exists, so why not just scrap it. If HMRC are worried about tax free perks, then change the benefit-in-kind rules, don't punish the company! We will see what the government chose to do.
Mark Morton is Head of Tax at Mercia Group Ltd, one of the UK's largest providers of training and support services to the accountancy profession. He can be contacted on 0116 258 1200 or at firstname.lastname@example.org
The views expressed in this article are entirely his own.