Legislation introducing the new disguised remuneration (DR) charge on loans made as far back as 1999 is currently before Parliament and will take effect in April 2019. This affects loans made by third parties prior to the DR legislation, as well as arrangements to avoid the DR rules by transferring or writing off loans. HMRC continues to consult on the close companies’ gateway, which will take effect from April 2018. The latest changes to the draft legislation seek to ensure that the gateway does not affect genuine commercial transactions and to make clear when the loans to participators regime will take precedence.
The disguised remuneration (DR) legislation was introduced to prevent the use of schemes whereby employers used third parties, often employee benefit trusts, to make payments free of tax to employees.
In many cases, payments were made by providing employees with loans which had no repayment date and often were not subject to interest. The DR legislation effectively prevented any more such loans being made. However, loans which were outstanding in 2011, when the DR legislation came into force, were unaffected. Changes to the legislation are currently before Parliament, which will ensure that even historic loans made after 6 April 1999 will be subject to tax. The amended legislation will also tax the release of a loan to an employee.
HMRC is also continuing to consult on legislation to close disguised remuneration schemes that use close companies. Some employees that were also shareholders in a close company have argued that payments or loans made to them were in their capacity as shareholders, rather than connected with their employment. Arrangements which are linked to a person’s status as a shareholder do not fall within ITEPA 2003 s 554A, as that only applies where the arrangement is ‘in connection with A’s employment’ (see s 554A(1)(c)). HMRC intends to end that argument by adding a ‘close companies’ gateway’ to the DR rules.
The amended legislation is taking a somewhat convoluted route to the statute book, given the acceleration, and resulting curtailment, of Finance Act 2017 (as a result of the June general election and the move to an autumn Budget).
Some provisions were brought in through the Finance Act 2017, while others are part of Finance Bill 2017–19, which is currently before Parliament and will become Finance (No. 2) Act 2017. These are the charge on the transfer and/or write off of loans, the loan charge on historic loans, and related double taxation exemptions.
Draft legislation for the final piece of the jigsaw (the close companies’ gateway and a requirement to provide HMRC with additional information on the loan charge) is open for consultation until 25 October 2017 and is expected to form part of the Finance Bill approved in 2018.
The Finance Act 2017 amended ITEPA 2003 Part 7A to include a new ‘relevant step’ of transferring a loan (which does not initially fall within the DR legislation) to a third party, and writing off or releasing a loan. Transferring a right to repayment of a loan will also be a ‘relevant step’ where that right is transferred to the employee who received the loan.
There is an exclusion from this charge where the loan does not exceed the threshold in ITEPA 2003 s 180 (currently £10,000), and the employee is either an employee or prospective employee of the third party to which the loan is transferred. The s 180 threshold applies to all outstanding employment-related loans, so the total of all loans made to an employee may not exceed £10,000 in order to rely on this exclusion. This exclusion should ensure that the transfer of employment-related loans (such as travel season ticket loans) as part of a normal commercial transaction, such as the sale of a business, will not give rise to a Part 7A charge.
The new Part 7A charge on historic loans is in Finance Bill 2017–19 Sch 11.
A new ‘relevant step’ applies where a loan or a quasi-loan was made on or after 6 April 1999 and is still outstanding on 5 April 2019. A ‘quasi-loan’ exists where a third party acquires a right to a payment or to the transfer of assets; and there is a connection between the acquisition of that right and a payment (including a loan) or transfer of assets to an employee.
The relevant step takes place on the ‘relevant date’, which is 5 April 2019; or, in limited cases where the loan is an ‘approved fixed term loan’, on the approved repayment date for that loan. The amount subject to tax is the outstanding amount of the loan or quasi-loan at the time the relevant step is taken. As a result, all outstanding loans held by a taxpayer will be taxed in the same tax year. This may mean that the taxpayer will pay tax at a higher marginal rate than would have been the case if the loans had been treated as earnings at the time they were made.
To counter avoidance, if the right to repayment of the loan is transferred to the employee or the employer before 5 April 2019, so that there is no third party to the arrangement on that date, the transfer is ignored and a relevant step will take place on 5 April 2019 as if the loan were still with the third party.
The loan amount is broadly the amount outstanding under the loan less amounts repaid.
The principal amount of a loan is the original amount loaned plus any amount which has subsequently become part of the principal amount but excluding any capitalised interest. Repayments are the total of any principal repaid before 17 March 2016 (by any means) plus any repayments of principal made in money by the borrower after that date.
The limit on what counts as a repayment after 17 March 2016 means that simply writing off or releasing a loan will not count as a repayment, and a Part 7A charge will arise in April 2019 even though the debt itself may have been extinguished. (If a loan is written off, and that write off is subject to income tax, ITEPA 2003 s 554Z5 prevents double taxation.)
Repayments are disregarded if they are connected with a tax avoidance arrangement or where the payment (or a sum or asset representing that payment) is the subject of a further relevant step taken after the payment is made but before 5 April 2019, unless the tax arising on that subsequent relevant step has been paid by that date.
Provisions have been included setting out how loans made in currencies other than sterling will be calculated. Broadly, the outstanding amount of the loan must be calculated in the currency the loan was originally made in and then converted into sterling on the date the tax charge arises.
Different rules apply where the loan was made in a depreciating currency and ‘it is reasonable to suppose’ that depreciation was the main or one of the main reasons for selecting that currency. Here, the amount loaned and any repayments made must be converted into sterling on the date they are made, and the outstanding balance of the loan is calculated using those converted amounts.
Although likely to be of limited benefit due to the conditions which must be met, borrowers can apply to HMRC to have certain loans treated as an ‘approved fixed term loan’, which will have the effect of postponing the Part 7A charge until the ‘approved repayment date’ (i.e. the repayment date of the loan) if the loan remains unpaid on that date. Applications must be made during the 2018 calendar year.
To qualify as an approved fixed term loan, a loan must have been made before 9 December 2010 for a maximum fixed term of ten years; and must not have been replaced by another loan or altered to meet the ten year rule or to postpone the repayment date. Repayments must have been made at least once every 53 weeks since the loan was granted and the loan must have been made by a commercial lender or on commercial terms.
Accelerated payments
An employee can apply for postponement of a Part 7A charge where the employee makes a payment by 5 April 2019 under an accelerated payment notice issued in relation to the arrangement under which the loan was made, and provided the outstanding loan is equal to or less than the accelerated payment. If the accelerated payment is repaid, a relevant step is treated as taking place at the end of the 30 day period starting with the repayment date of the accelerated payment.
PAYE and provision of information
The employer is required to pay any Part 7A charge under PAYE. To facilitate this, the draft legislation requires the employee and/or the third party lender to provide the employer with information regarding any outstanding loans within ten days of the loan charge date (i.e. 5 April 2019 or the repayment date of an approved fixed term loan). This obligation applies whether or not the employer requests this information.
The draft bill before parliament requires the employee and the third party to provide this information to HMRC where the employer company cannot be contacted. However, this requirement is to be removed, as it is superseded by the additional information reporting requirement (see below).
Additional information reporting: employee obligation
HMRC is currently consulting on additional information that employees will be required to provide to HMRC by 1 October 2019. This is to enable HMRC to ensure there has been compliance with the loan charge and to apply relief from double taxation where appropriate. The information provisions apply to any person holding a loan that is subject to Part 7A on 5 April 2019 (even if the charge is postponed) or who had a loan which met the requirements of the loan charge on 16 March 2016. The additional information rules will not apply where a taxpayer has reached a full and final settlement with HMRC before 1 October 2019, which includes all loans that fall within Part 7A or where the loans to participators regime takes priority.
The additional information to be provided consists broadly of:
HMRC has indicated it is developing a ‘digital tool’ for the submission of this information but there will also be a ‘non-digital’ option. Penalties will apply for a failure to comply with the reporting requirement.
Double taxation relief
A Part 7A charge may arise in respect of money or assets which have already been subject to an earlier income tax charge. Substituted s 554Z5 and new ss 554Z11B–554Z11F, which came in through Finance Act 2017, are intended to provide relief from double taxation in these cases.
Section 554Z5 prevents double taxation where there are overlapping Part 7A charges by reducing the second Part 7A charge by the amount which was subject to the earlier Part 7A charge.
New ss 554Z11B-554Z11F apply where s 554Z5 does not, because the first tax charge has not yet been paid (either in whole or in part) or otherwise accounted for. The new rules treat payment of one tax liability as a payment on account of another tax liability.
Section 554Z11G deals with potential charges under ITEPA s 222 and the IHTA 1984.
The provisions to prevent a double tax charge apply by reducing the successive Part 7A charges to nil, rather than disapplying the charge altogether. As each Part 7A charges is a notional payment, a charge under s 222 could arise in respect of each. Section 554Z11G prevents this by providing that a s 222 charge will only arise where the Part 7A charge has not been reduced by the new double taxation provisions.
Similarly, existing relief from IHT where both an IHT charge and an income tax charge arise (IHTA 1984 s 65(5)(b) or s 70(3)) may not be available, as no income tax will have been paid where the new double tax provisions apply. Section 554Z11G deals with this by ensuring that overlapping Part 7A charges are not treated as income for inheritance tax purposes.
Payments made to satisfy a tax liability are not a ‘relevant step’
Section 554XA provides that no Part 7A charge will arise where a payment is made from a disguised remuneration scheme to settle a tax liability in relation to that disguised remuneration scheme, provided HMRC has agreed, either as part of a settlement agreement or following an application, that payments in respect of the tax liability will fall within the exclusion in s 554XA.
The current policy paper (published on 13 September 2017) makes further refinements to the close companies’ gateway, which is expected to be introduced in the next Finance Bill and take effect from 6 April 2018.
The close companies’ gateway (a new s 554AA) applies where:
The following changes were made to the close companies’ gateway in the latest draft of the legislation:
HMRC continues to take action through new legislation where previous attempts at litigation to close what it regards as avoidance schemes have failed. Only time will tell whether these are the final nails in the coffin for disguised remuneration arrangements or whether HMRC will find it needs to take aim at new ghouls.
Legislation introducing the new disguised remuneration (DR) charge on loans made as far back as 1999 is currently before Parliament and will take effect in April 2019. This affects loans made by third parties prior to the DR legislation, as well as arrangements to avoid the DR rules by transferring or writing off loans. HMRC continues to consult on the close companies’ gateway, which will take effect from April 2018. The latest changes to the draft legislation seek to ensure that the gateway does not affect genuine commercial transactions and to make clear when the loans to participators regime will take precedence.
The disguised remuneration (DR) legislation was introduced to prevent the use of schemes whereby employers used third parties, often employee benefit trusts, to make payments free of tax to employees.
In many cases, payments were made by providing employees with loans which had no repayment date and often were not subject to interest. The DR legislation effectively prevented any more such loans being made. However, loans which were outstanding in 2011, when the DR legislation came into force, were unaffected. Changes to the legislation are currently before Parliament, which will ensure that even historic loans made after 6 April 1999 will be subject to tax. The amended legislation will also tax the release of a loan to an employee.
HMRC is also continuing to consult on legislation to close disguised remuneration schemes that use close companies. Some employees that were also shareholders in a close company have argued that payments or loans made to them were in their capacity as shareholders, rather than connected with their employment. Arrangements which are linked to a person’s status as a shareholder do not fall within ITEPA 2003 s 554A, as that only applies where the arrangement is ‘in connection with A’s employment’ (see s 554A(1)(c)). HMRC intends to end that argument by adding a ‘close companies’ gateway’ to the DR rules.
The amended legislation is taking a somewhat convoluted route to the statute book, given the acceleration, and resulting curtailment, of Finance Act 2017 (as a result of the June general election and the move to an autumn Budget).
Some provisions were brought in through the Finance Act 2017, while others are part of Finance Bill 2017–19, which is currently before Parliament and will become Finance (No. 2) Act 2017. These are the charge on the transfer and/or write off of loans, the loan charge on historic loans, and related double taxation exemptions.
Draft legislation for the final piece of the jigsaw (the close companies’ gateway and a requirement to provide HMRC with additional information on the loan charge) is open for consultation until 25 October 2017 and is expected to form part of the Finance Bill approved in 2018.
The Finance Act 2017 amended ITEPA 2003 Part 7A to include a new ‘relevant step’ of transferring a loan (which does not initially fall within the DR legislation) to a third party, and writing off or releasing a loan. Transferring a right to repayment of a loan will also be a ‘relevant step’ where that right is transferred to the employee who received the loan.
There is an exclusion from this charge where the loan does not exceed the threshold in ITEPA 2003 s 180 (currently £10,000), and the employee is either an employee or prospective employee of the third party to which the loan is transferred. The s 180 threshold applies to all outstanding employment-related loans, so the total of all loans made to an employee may not exceed £10,000 in order to rely on this exclusion. This exclusion should ensure that the transfer of employment-related loans (such as travel season ticket loans) as part of a normal commercial transaction, such as the sale of a business, will not give rise to a Part 7A charge.
The new Part 7A charge on historic loans is in Finance Bill 2017–19 Sch 11.
A new ‘relevant step’ applies where a loan or a quasi-loan was made on or after 6 April 1999 and is still outstanding on 5 April 2019. A ‘quasi-loan’ exists where a third party acquires a right to a payment or to the transfer of assets; and there is a connection between the acquisition of that right and a payment (including a loan) or transfer of assets to an employee.
The relevant step takes place on the ‘relevant date’, which is 5 April 2019; or, in limited cases where the loan is an ‘approved fixed term loan’, on the approved repayment date for that loan. The amount subject to tax is the outstanding amount of the loan or quasi-loan at the time the relevant step is taken. As a result, all outstanding loans held by a taxpayer will be taxed in the same tax year. This may mean that the taxpayer will pay tax at a higher marginal rate than would have been the case if the loans had been treated as earnings at the time they were made.
To counter avoidance, if the right to repayment of the loan is transferred to the employee or the employer before 5 April 2019, so that there is no third party to the arrangement on that date, the transfer is ignored and a relevant step will take place on 5 April 2019 as if the loan were still with the third party.
The loan amount is broadly the amount outstanding under the loan less amounts repaid.
The principal amount of a loan is the original amount loaned plus any amount which has subsequently become part of the principal amount but excluding any capitalised interest. Repayments are the total of any principal repaid before 17 March 2016 (by any means) plus any repayments of principal made in money by the borrower after that date.
The limit on what counts as a repayment after 17 March 2016 means that simply writing off or releasing a loan will not count as a repayment, and a Part 7A charge will arise in April 2019 even though the debt itself may have been extinguished. (If a loan is written off, and that write off is subject to income tax, ITEPA 2003 s 554Z5 prevents double taxation.)
Repayments are disregarded if they are connected with a tax avoidance arrangement or where the payment (or a sum or asset representing that payment) is the subject of a further relevant step taken after the payment is made but before 5 April 2019, unless the tax arising on that subsequent relevant step has been paid by that date.
Provisions have been included setting out how loans made in currencies other than sterling will be calculated. Broadly, the outstanding amount of the loan must be calculated in the currency the loan was originally made in and then converted into sterling on the date the tax charge arises.
Different rules apply where the loan was made in a depreciating currency and ‘it is reasonable to suppose’ that depreciation was the main or one of the main reasons for selecting that currency. Here, the amount loaned and any repayments made must be converted into sterling on the date they are made, and the outstanding balance of the loan is calculated using those converted amounts.
Although likely to be of limited benefit due to the conditions which must be met, borrowers can apply to HMRC to have certain loans treated as an ‘approved fixed term loan’, which will have the effect of postponing the Part 7A charge until the ‘approved repayment date’ (i.e. the repayment date of the loan) if the loan remains unpaid on that date. Applications must be made during the 2018 calendar year.
To qualify as an approved fixed term loan, a loan must have been made before 9 December 2010 for a maximum fixed term of ten years; and must not have been replaced by another loan or altered to meet the ten year rule or to postpone the repayment date. Repayments must have been made at least once every 53 weeks since the loan was granted and the loan must have been made by a commercial lender or on commercial terms.
Accelerated payments
An employee can apply for postponement of a Part 7A charge where the employee makes a payment by 5 April 2019 under an accelerated payment notice issued in relation to the arrangement under which the loan was made, and provided the outstanding loan is equal to or less than the accelerated payment. If the accelerated payment is repaid, a relevant step is treated as taking place at the end of the 30 day period starting with the repayment date of the accelerated payment.
PAYE and provision of information
The employer is required to pay any Part 7A charge under PAYE. To facilitate this, the draft legislation requires the employee and/or the third party lender to provide the employer with information regarding any outstanding loans within ten days of the loan charge date (i.e. 5 April 2019 or the repayment date of an approved fixed term loan). This obligation applies whether or not the employer requests this information.
The draft bill before parliament requires the employee and the third party to provide this information to HMRC where the employer company cannot be contacted. However, this requirement is to be removed, as it is superseded by the additional information reporting requirement (see below).
Additional information reporting: employee obligation
HMRC is currently consulting on additional information that employees will be required to provide to HMRC by 1 October 2019. This is to enable HMRC to ensure there has been compliance with the loan charge and to apply relief from double taxation where appropriate. The information provisions apply to any person holding a loan that is subject to Part 7A on 5 April 2019 (even if the charge is postponed) or who had a loan which met the requirements of the loan charge on 16 March 2016. The additional information rules will not apply where a taxpayer has reached a full and final settlement with HMRC before 1 October 2019, which includes all loans that fall within Part 7A or where the loans to participators regime takes priority.
The additional information to be provided consists broadly of:
HMRC has indicated it is developing a ‘digital tool’ for the submission of this information but there will also be a ‘non-digital’ option. Penalties will apply for a failure to comply with the reporting requirement.
Double taxation relief
A Part 7A charge may arise in respect of money or assets which have already been subject to an earlier income tax charge. Substituted s 554Z5 and new ss 554Z11B–554Z11F, which came in through Finance Act 2017, are intended to provide relief from double taxation in these cases.
Section 554Z5 prevents double taxation where there are overlapping Part 7A charges by reducing the second Part 7A charge by the amount which was subject to the earlier Part 7A charge.
New ss 554Z11B-554Z11F apply where s 554Z5 does not, because the first tax charge has not yet been paid (either in whole or in part) or otherwise accounted for. The new rules treat payment of one tax liability as a payment on account of another tax liability.
Section 554Z11G deals with potential charges under ITEPA s 222 and the IHTA 1984.
The provisions to prevent a double tax charge apply by reducing the successive Part 7A charges to nil, rather than disapplying the charge altogether. As each Part 7A charges is a notional payment, a charge under s 222 could arise in respect of each. Section 554Z11G prevents this by providing that a s 222 charge will only arise where the Part 7A charge has not been reduced by the new double taxation provisions.
Similarly, existing relief from IHT where both an IHT charge and an income tax charge arise (IHTA 1984 s 65(5)(b) or s 70(3)) may not be available, as no income tax will have been paid where the new double tax provisions apply. Section 554Z11G deals with this by ensuring that overlapping Part 7A charges are not treated as income for inheritance tax purposes.
Payments made to satisfy a tax liability are not a ‘relevant step’
Section 554XA provides that no Part 7A charge will arise where a payment is made from a disguised remuneration scheme to settle a tax liability in relation to that disguised remuneration scheme, provided HMRC has agreed, either as part of a settlement agreement or following an application, that payments in respect of the tax liability will fall within the exclusion in s 554XA.
The current policy paper (published on 13 September 2017) makes further refinements to the close companies’ gateway, which is expected to be introduced in the next Finance Bill and take effect from 6 April 2018.
The close companies’ gateway (a new s 554AA) applies where:
The following changes were made to the close companies’ gateway in the latest draft of the legislation:
HMRC continues to take action through new legislation where previous attempts at litigation to close what it regards as avoidance schemes have failed. Only time will tell whether these are the final nails in the coffin for disguised remuneration arrangements or whether HMRC will find it needs to take aim at new ghouls.
