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Corporate Tax Changes - what do they mean?

George Monbiot’s article in the Guardian last week about the Government’s proposed changes to the rules on taxation of foreign branches has stirred up a great deal of debate. The CIOT has responded to the technical detail of the Government’s consultation but, in light of the interest in this issue, we thought this Q&A might help shed some light on the facts:

Where has this proposal come from?

This proposal is widely seen as a technical measure. It is the product of a long running consultation which crystallised in a Treasury document in 2009, under the last Labour Government and has been carried forward by the Coalition Government.

But it’s a heist, surely?

The Treasury estimates the cost of the proposal as £100 million and this will be reviewed by the independent Office of Budget Responsibility. Put in context, this is 0.2% of total corporate tax. In other words the cost is modest: it needs to be borne in mind that most of the profits that may now formally escape UK tax would already be effectively untaxed here as they would have been taxed overseas, so the credit the UK gives would wipe out most or all of the actual UK tax bill.

By why introduce this measure?

It’s to react to changes in Europe in the way in which insurance companies are regulated. These changes – known as Solvency II – take effect in 2012. Currently insurers usually use a separate company in every country where they provide insurance. These foreign companies – owned from the UK – aren’t subject to UK tax on their profits. The regulatory changes are likely to mean that insurers will need a single super-company to operate throughout Europe. The purpose of the new exemption is to encourage insurers to base a super-company in the UK – rather than elsewhere in Europe. It’s a corporate tax relief to promote jobs here.

[It’s also pragmatic. In general, if a UK company establishes a subsidiary company abroad, that company isn’t taxed here – and the dividends it remits are also normally exempt. Overseas branch profits are currently taxable here (subject to Double Tax Relief, ie tax paid overseas reduces UK tax otherwise due) but that also means branch losses are relieved here. Hence the regular move to start as a (lossmaking) branch and then incorporate.]

But can’t companies just divert all their profits to tax havens?

No. This was a pretty obvious point – and so the Treasury has designed detailed anti-avoidance rules to make sure this doesn’t happen. Other EU countries will also have an interest in making sure their profits don’t vanish. The existing UK transfer pricing rules will also help monitor attempts to siphon off profits.

It’s unfair small companies can’t benefit?

Perhaps – but small companies don’t often have foreign branches. The reason they’ve been cut out is that the UK’s transfer pricing rules – rules which aim to make sure that the right amount of profit is reported on related party transactions – don’t apply to small companies, so as to reduce their administrative burden. EU rules mean that we can’t make small companies adopt transfer pricing rules just for international transactions (where the potential risks arise) without also applying the rules to transactions solely within the UK. If small companies have a branch exemption, they’d have to be brought into transfer pricing as well.

But why is the UK cutting corporation tax to 24% by 2014?

First of all, the cut isn’t as big as it sounds. It is offset by reduced capital allowances, which take effect from 2012. There’s also the reduced small profits rate, cut by 1% to 20%. By 2014-15 these measures are thought to cost the UK £1.3 billion –about 2.5% of corporation tax in that year and 0.2% of total tax. There’s a fair bit of evidence that cutting corporation tax rates promotes extra employment and growth – although no doubt the political debate around this will continue..

The impact assessment and the detailed proposals are here.

The CIOT’s technical response to the proposals is here.

Bill Dodwell
Vice-Chairman, CIOT Technical Committee
Chairman, International Taxes Sub-Committee

16 February 2010


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