Issue 79 - 23rd January 2008
Sentiment
Welcome to the first ITN of 2008 – it seems only yesterday since I welcomed you to the first edition of 2007. How time passes us by…. I hope that you all had a wonderful Christmas (thank God it’s over), and that 2008 is a happy, successful and healthy one.
Now the pleasantries are over, lets get down to the nitty gritty. 2007 was an interesting year to say the least – and 2008 has started with a bang.
The seemingly endless descent into global recession was highlighted yesterday in London when the stock markets plummeted dramatically, a turn of events mirrored in Asia. I often struggle to comprehend the magnitude of global economics (being a bit of a dafty it isn’t surprising!), but there is no mistaking that we are in for a rough ride. I have always thought of international tax, and more specifically IFS, as being a recession proof area of law / business respectively. Tax is certainly never far from the headlines. Whether it is Vince Cable MP claiming that if Sir Richard Branson takes over Northern Rock most of the profits will be routed though a Caribbean tax haven, or the saviour of English football, Fabio Cappelo’s run in with the Italian tax authorities, we work in an industry which is forever in state of flux, and which should, by definition, keep us occupied.
I hope I am not wrong, what with school fees, a mortgage – which in my case is an anagram for albatross - (the mortgage ironically being with Northern Rock!), and a hedonistic lifestyle to fuel. We at IFS also believe that the UK is also shooting itself in the foot with its tax policy – Roy has set out his views on this in a lengthy sentiment which you can download by clicking http://www.interfis.com/information-zone/roys-sentiment
The announcement last year that the Government intended to change the laws on domicile and residence came as a shock to us all. The draft legislation, which is summarised below, contains more or less what we had come to expect, and of course with this comes significant opportunities to restructure existing arrangements prior to the changes coming into force. And all this at a time of economic slow-down!
Happy reading!
Tax tip of the day
I have written the Tax Tip of the ITN in some far flung places – at the moment I am 37,000 feet above Budapest on the way to Bucharest and have been praying silently that flight BA886 lands safely!
Ilonka and I are meeting with clients in Romania whose international business has expanded quite dramatically over the past 24 months. So much so that the group of companies now requires its own finance company, and possibly a company to hold specific intellectual property rights. The finance company has been incorporated in the Netherlands and will be integral to the way in which intra-group debt is used to mitigate source taxation in and around central Europe. The use of intermediate group finance companies can achieve significant results in terms of tax savings, but it goes without saying that the devil is in the detail.
We have been reviewing various term sheets from independent banks to ascertain what is an arm’s length rate of interest; we have had to consider the thin capitalisation rules in 6 different jurisdictions; we have taken into account what is an acceptable spread in the Netherlands and have commissioned a transfer pricing report from specialists there; we have also been mindful of the maximum rates of interest that can be charged – Romania for example limits this to 7%. The Netherlands was an obvious choice for the finance company but there are others too: Cyprus can be used (although the lack of a ruling practice in respect of transfer pricing is a key factor), Luxembourg with a Swiss branch was also considered but discounted for non-tax reasons, which brings me to the point I am trying to make.
Tax advisors all too often approach a problem from an academic perspective, and of course this is absolutely vital. However, tax optimisation often comes at a price and this is in the form of added complexity, increased compliance costs and corporate governance issues. A growing business like our client’s needs to grow in a structured manner; key to which is managing the growth and ensuring substance is deployed in each of the overseas territories. The fact that the group had already established a holding company in the Netherlands was sufficient to locate the finance company there too. Having a finance company in yet another jurisdiction, for the sake of saving a percentage point or two of tax was not worth it. The moral of the story – to get underneath the skin of your client’s business is vital; tax planning is so much more than “treaty shopping”.
Australia / Netherlands
‘Stichting’ is a trust for Australian tax purposes
The Australian Tax Office (ATO) on 11 January found a Dutch pension fund, constituted as a Stichting, to be a trust for Australian tax purposes.
In the Netherlands a Stichting is a type of foundation, a separate legal entity distinguished from its founders or directors. A Stichting for Dutch tax purposes is considered a legal person which has no members and its purposes is to realise the object stated in its articles of association using capital allocated to such purpose(s). The object of the Stichting may not include the making of distributions to any founder or director.
In this case, the Stichting was created in the Netherlands to operate an employee loyalty / pension fund for certain employees of an Australian resident company (AusCo). The purpose of the Stichting was to provide incentives and benefits to eligible employees or their dependants. An agreement between AusCo and the Stichting was entered into for this purpose, i.e. the object of the Stichting. Contributions by AusCo were non-returnable and were thus no longer AusCo’s property; equally the Stichting had legal title to the contributions.
The ATO, when assessing the Stichting, compared the constitution / by-laws of the Stichting to what they considered to be the essential elements of a trust paying particular attention to case law, namely Harmer & Ors v. Federal Commissioner of Taxation (1989) 20 ATR 1461. These included:
1. A trustee who holds legal or equitable interest in the trust property: (The Stichtine has ownership and possession of the property and may therefore be said to be trustee);
2. There is trust property which is capable of being held on trust and which includes a chose in action: (The assets of the pension fund are held on trust for the benefit of employess. The employess when nominated to participate in the Fund had to complete an application form binding them to the terms of the agreement entitling them to benefit from the fund, and were therefore able to sue);
3. There are one or more beneficiaries; and
4. There is a personal obligation on the trustee to deal with the trust property for the benefit of the benficiaries: (The terms of the agreement imposed afiduciary and legal duty on the trustee, the Stichtine, to manage the trust property for the benefit of the beneficiaries).
By concluding that the Stichting was a trust it was eligible for a certain capital gains tax break available to individuals, life insurance companies and tursts, where certain conditions are met.
Hungary
Participation exemption
In November the Hungarian Parliament enacted the 2008 Tax Law Changes, which, amongst other things, relaxed the requirements of the Hungarian participation exemption. The changes are effective as of 1 January 2008.
Dividends and capital gains received by a Hungarian company from its subsidiary are exempt from tax in Hungary provided certain conditions are fulfilled, namely:
i) that the subsidiary is resident or has a permanent establishment in the EU or a country with which Hungary has concluded a double tax treaty;
ii) that the Hungarian company has at least a 30% holding in its subsidiary and holds its interest for a period 12 months (previously 2 years).
A non-EU or non-treaty country subsidiary may still benefit from the participation exemption provided it has an effective tax rate of more than 10.67% (previously an ‘existing active business test’ had to be met, but this has been abolished under the new rules).
This is an improvement on the old regime, and together with the fact that Hungary does not levy withholding tax on payments to a foreign parent, is a full member of the EU and has concluded a number of double tax treaties makes it a very compelling holding company jurisdiction.
Ireland
Remittance basis
Currently individuals who are resident but not domiciled in Ireland and have investment or employment income arising in the UK are not able to take advantage of the remittance basis of taxation in respect of such income. Following discussions with the European Commission it was announced in the Irish 2008 Budget that such restrictions should be lifted. It should also be noted that the UK in its PreBudget Report 2007 also announced that individuals who are resident but not domiciled in the UK and have investment or employment income arising in the Republic of Ireland are now able to take advantage of the remittance basis of taxation in respect of such income, effective from 6 April 2008.
Japan
Deductibility of CFC losses
The Japanese Supreme Court ruled in a recent case that a Japanese company cannot deduct losses arising to its controlled foreign company.
Japan operates an anti-tax haven system whereby certain Japanese shareholdings in a company located in a low tax jurisdiction are subject to tax on an appropriate portion of the retained earnings of the subsidiary. A Japanese company or individual investor owning at least 5%, directly or indirectly, of a subsidiary in a tax haven is subject to the CFC rules.
The Japanese Lower Court of Matsuyama had held that a Japanese company could deduct the losses of its foreign subsidiary based on the fact that a the CFC’s income based on a pro-rata share of its retained earnings is treated as part of the Japanese company’s taxable income and is subject to normal corporate income tax in Japan. This was supported by Article 66-6(2)(2) of the Japanese Special Taxation Measures Law. The Supreme Court overturned this decision stating that it was reasonable to presume that Article 66-6(2)(2) would allow for a CFC to carry forward its losses and deduct against future income, but that simply because a Japanese company was required to include within its taxable income, a proportion of its CFC’s income, it did not necessarily mean that the losses of the CFC would be deductible against the Japanese company’s taxable income.
The decision in this case may be compared to the Marks and Spencer decision where it was held that losses of a UK company’s foreign subsidiary could be set against the taxable income of the UK company but only after all possibilities to relieve the loss in current, previous and future years in the foreign subsidiaries state of residence are exhausted.
UK
Residence and domicile draft legislation published
The draft legislation published last week in respect of the domicile and residence laws which are effective from 6 April 2008 can be summarised as follows:
Residence
- Days of arrival and departure are now to be taken into account when determining whether the 183 day rule has been met.
- HMRC practice in relation to the non-statutory 91-day average test will be amended with effect from 6 April 2008 to also take into account days of arrival and departure.
The £30,000 Charge
- Where an individual has been resident in the UK for more than 7 out of the last 10 years he must pay a £30,000 charge if he wants to avail of the remittance basis.
- An election is available from one year to another and a £1,000 de minimis limit will apply automatically where offshore income and gains are less than £1,000.
- The personal allowance and CGT exemption will be lost if the remittance basis claimed.
Source Ceasing
The “Source Ceasing” loophole has now been closed. If an individual brings property into the UK which has been purchased with relevant foreign income this will now be treated as a taxable remittance.
Overseas Gifts
It will no longer be possible to gift a close relative offshore income or offshore gains without a charge to tax arising if the recipient of the gift effectively has use or enjoyment of those assets in the UK.
Extension of CGT Anti-Avoidance Provisions
Section 13 TCGA 1992 has now been extended to non-UK domiciled individuals. This provision applies to participators in non-UK companies which realise a gain. Such gains, if UK source, will now be taxed on an arising basis in the hands of the non-domiciled individuals. Non-UK situs gains realised by a non-UK resident company will be taxed on remittance.
Section 86 TCGA 1992
Non-UK domiciled settlors of non-UK resident trusts will now be chargeable on the remittance basis in respect of gains accruing to the trustees. In effect this will mean that UK situs gains realised anywhere within an offshore structure will be taxed on an arising basis whilst non-UK situs gains will only become chargeable when they are distributed from the structure.
Section 87 TCGA 1992
Previously a non-domiciled beneficiary could receive a capital payment from an offshore trust in the UK and pay no tax. This “anomaly” has been amended and such capital payments will be subject to UK tax even if not brought into the UK.
