Commission publishes full version of UK CFC state aid decision: recovery 'tougher than expected'

On 25 April, the Commission released the full public version of its state aid decision on the finance company exemptions within the UK’s CFC regime, having announced on 2 April that the exemptions were partially justified under state aid rules. The decision requires the UK to effect full recovery within four months. Within two months, the UK must provide the Commission with a full breakdown of the relevant exemptions granted to individual taxpayers and the amounts of state aid involved.

Following its investigation, the Commission concluded that the finance company exemption constituted state aid when applied to non-trading finance profits from qualifying loan relationships falling within TIOPA 2010 s 371EB (UK activities). The exemption was not state aid when applied to profits falling within TIOPA 2010 s 371EC (capital investments from the UK).

Paul Davison, partner at Freshfields Bruckhaus Deringer, commented that the Commission’s line on recovery is ‘rather tougher than might have been expected’ given the narrower scope of its final decision. The very tight turnaround time of just two months for the UK government to finalise the amounts and demand repayment ‘seems unrealistic’, he said, ‘given the need for a case by case analysis of where the relevant “significant people functions” were’.

‘It seems that the Commission expects most potentially affected taxpayers to face some level of recovery’, Davison added, noting that the decision ‘quotes extensively from HMRC’s toughly-worded guidance on the likelihood of significant people functions being in the UK’.

Davison highlights the fact that the decision even requires the UK ‘specifically to identify, and justify, any case where a taxpayer has claimed the benefit of the exemption and the facts are accepted as involving no UK significant people functions, such that there is no recovery required’.

In this regard, the decision requires the UK to submit the following information to the Commission within two months:

• a list of beneficiaries that have received aid under the scheme, together with evidence of how the UK has calculated the relevant profits falling within TIOPA 2010 s 371EB (UK activities);
• a list of taxpayers that have applied the exemption in a way the Commission accepts did not constitute state aid, i.e. to profits falling within TIOPA 2010 s 371EC (capital investments from the UK), together with supporting evidence;
• for each beneficiary, the CFC charge actually charged in determining the beneficiary’s liability under the corporate income tax return, for each tax year that he has applied the group financing exemption, as well as the relevant corporate income tax return forms;
• for each beneficiary, the CFC charge that would have been charged if he had not applied the group financing exemption, including underlying calculations, for each tax year that the beneficiary has applied the group financing exemption;
• the total aid amount and its detailed calculation (principal aid amount and recovery interest) to be recovered from each beneficiary; and
• documents demonstrating that the beneficiaries have been ordered to repay the aid.

The decision also sets out the UK’s four main arguments against the Commission’s position. These are:

• the contested exemption does not favour any undertaking or constitute an advantage but is designed to set the boundaries of the corporate tax base by defining artificially-diverted profit, rather than providing an exemption from an already established tax base;
• the appropriate reference system should be the UK corporate tax system;
• the contested exemption is not a derogation from the reference system as it does not differentiate between economic operators that are, in light of the objectives of the reference system, in a factually and legally comparable position; and
• if the contested exemption does constitute a derogation from the reference system, this derogation can be justified by the basic and guiding principles of the UK’s corporate tax system and the CFC regime, namely, the prevention of artificial diversion of profit from the UK through a system that is robust, administrable and compatible with EU law.

See bit.ly/2V5zFWw.

Looking at next steps, Paul Davison said: ‘it seems likely that potentially affected taxpayers will need to litigate the decision in Europe (whether or not the UK government does), and to prepare for difficult discussions with HMRC over the location of their significant people functions’.

As for taxpayers deciding on whether or not they should appeal, Davison observed that ‘the clock is not yet ticking’, until the Commission’s decision has been published formally in the EU official journal.