Tax deduction for overdraft interest

Recently the Tax Tribunal faced the question whether overdraft interest paid by two directors to fund their company's business was claimable against their personal tax bills. Is it? 


Business Expenses It is not unusual for a company director to incur expenses on its behalf and for him to be reimbursed later. Usually this results in the company having a deduction for its cost and for the director the transactions are neutral. But HMRC took a different view when Mr and Mrs G (the Gs) took out a £1 million personal overdraft to fund their new company.


Balancing transaction This was no clever tax avoidance scheme, the Gs simply borrowed the money from the bank and used it to develop their business. They paid interest on the overdraft and the company simply reimbursed them that cost to balance the books. Trouble started When HMRC spotted that the company was not deducting tax from the interest payments it made to them and assessed it to collect the tax it should have deducted.


TRAP When a company pays interest to an individual, it must deduct basic rate tax, currently 20%, from the payment and hand this over each quarter to HMRC with a form CT61.


Personal tax on interest Their woes did not end there. HMRC checked the G's personal tax returns and noticed they contained no entries for the interest the company paid them. The G's argued the interest they received was balanced by what they paid to the bank. Whilst this was financially accurate, fiscally it was not because while the interest they received was taxable, the interest they paid was not tax deductible.


TRAP  The law specifically rules out a tax deduction from general income for overdraft or credit card interest. It is only allowable against profits made by anyone who is self-employed or in partnership. Directors' earnings a employment income and thus no deduction is due.

A tax deduction from an individual’s general income is allowed for interest paid where this relates to types of expenditure specified at s.383 Income Taxes Act 2007 (ITA). However, where the interest charged relates to the “overdrawing” of an account or “credit card” or similar arrangement no deduction is permitted; s.374 ITA.   

No Choice for Tribunal   The Tribunal expressed great sympathy for the Gs but had no choice but to completely agree with HMRC with the following results:

1. The Gs would be taxed on all the interest the company had paid them;
2. They would receive no tax deduction for the interest they paid to the bank even though clearly for a business purpose, yet
3. The company could claim a Corporation Tax deduction for the interest it paid to the Gs.

TAXTIP The Gs could have avoided a tax bill if:

1. They had taken a personal loan instead of an overdraft.Interest on a loan to provide capital for your business is tax deductible.
2. They had guaranteed an overdraft or loan for the company.

  

Working From Home: Don’t Lose Private Residence Relief!

Working from home is increasingly popular, but could it affect your Capital Gains Tax (CGT) private residence relief when you come to sell?

Private residence relief is perhaps one of the best well-known tax reliefs . It allows you  to sell your main home without triggering a liability to CGT. As with most reliefs, its availability depends on certain conditions being met.

The relief applies to the disposal of a main residence. Where a person has more than one residence, he or she can choose which one is the main residence for the purposes of the relief. This does not have to be the one in which most time is spent and a person can chop and change which property is regarded as his or her main residence, although only one property can be the `main’ residence at any one time.

Relief is provided from CGT on the disposal of all or part of a property that is, or has at any time in taxpayer’s ownership, been his or her only or main residence, together with land enjoyed with the property as a garden up to the permitted area.

No Relief for Exclusive Business Use

Private residence relief is not available for any part of the property that is used exclusively for business use. The key word here is exclusively and relief is only denied in respect of that part of the property that is used exclusively for business use. Where there is exclusive business use, any gain arising on the sale of the property must be apportioned and the proportion relating to exclusive business is taxed.

Example Sue runs a business from home which has eight rooms one of which she uses  exclusively as an office. When she sells the  property, she makesrealises a gain of £80,000. One eighth (£10,000) would be charged to CGT. To the extent that her annual exemption (£10,100 for 2010/11) is available, this would shelter the gain with the result that no CGT is payable.

The same considerations apply if a person is employed but works from home and sets aside a dedicated area exclusively for work.

Protecting the Exemption Relief is only lost where there is exclusive business use of part of the property. To protect the exemption, all you need do is  ensure that any part of the home that is used for business purposes is also available for private use. For example, a room used as an office from which to run the business during the day could also be used by the children to do their homework in the evening.

By ensuring that rooms used for business are also available for domestic use, it is possible both to work from home while ensuring that private residence relief remains available for the whole property.

Income Tax Dilemma While non-exclusive business use is a `good thing’ in protecting full entitlement to private residence relief, the same is not true  from an income tax angle. Relief for expenses is available only to the extent that they are incurred wholly and exclusively in relation to that business.

Where a room is used exclusively for business, a greater deduction is permitted. Where there is non-exclusive use, the permitted deduction is reduced as costs must be apportioned between business and domestic use.

VAT cheats deadline looms

Businesses have to register for VAT if their taxable turnover in the previous 12 months reaches the VAT registration limit (£73,000 from 1/4/11) or if they believe their turnover in the next thirty days will exceed the VAT registration limit.

A recent HMRC campaign offered businesses that have not yet registered for VAT (and should have done so) the chance to come forward and make a disclosure under favourable terms.

Businesses had to notify HMRC by 30 September 2011 of their intention to make a voluntary VAT disclosure. Under the terms of the VAT initiative, businesses who have notified their intention to take part in the campaign must register for VAT by 31 December 2011. They will then receive their VAT registration number and instructions on how to complete their first VAT return. Once this has been submitted most businesses will face a lower penalty rate of 10% on late paid VAT.

HMRC''s Head of Campaigns commented in the news release that:

'We are determined to ensure everyone pays their fair share and, since September, have begun identifying people and companies who we believe are trading above the VAT threshold but have not come forward. We will be targeting these groups early in the New Year. I urge anyone with unpaid tax to use it to come forward and avoid potentially lengthy and costly investigations. The penalty they will pay will still be lower than when HMRC catches up with them.'

HMRC also previously announced that any taxpayer targeted by a previous campaign will not be able to use a subsequent campaign to disclose liabilities.

Top Ten Tax Tips for Overseas Property Investors

1. Don't forget you still have UK tax to pay!

This is really more of a warning than a tip, but it is vital to remember that any UK resident individual buying property abroad is still exposed to UK tax on that property. 

This may include:

• UK Income Tax on rental income, 
• UK Capital Gains Tax on property sales and
• UK Inheritance Tax on any foreign properties you leave to your children.

The UK tax burden is often greater than any foreign tax liabilities, so it makes sense to undertake UK tax planning for your foreign property. Many of the same planning techniques that work well on UK property can be used equally on foreign property, although the overseas angle adds an extra dimension and brings both additional opportunities and additional pitfalls to be wary of.

2. Main residence relief for foreign holiday homes

There is nothing in the UK tax legislation to say that a foreign holiday home cannot be a UK resident individual's main residence for Capital Gains Tax purposes.

A holiday home can be treated as your main residence by making an election to that effect, generally within two years of buying the property.

The foreign property must be your own holiday home for at least part of the time but, by making the election, you will be able to exempt some or all of the capital gain on your foreign home from UK Capital Gains Tax.

Beware, however, that you're only allowed one main residence and, if you're married or in a civil partnership, you're only allowed one between you, so electing to treat your holiday home as your main residence could backfire if you sell your main house back in the UK.

You can get the best of both worlds though, if you only elect to treat your foreign property as your main residence for a short period, say a week. How does this help? Well, since every main residence is also exempt for the last three years of ownership, that week buys you three years. In other words, you lose one week's worth of exemption on your main house but gain three years (and a week) of exemption on your foreign holiday home.

3. Travel at the Treasury's expense

If you're renting out foreign property, you have a foreign rental business. Like any other business, you're entitled to claim tax relief for your business expenses. That includes any travel costs which you incur for business purposes.

Furthermore, all foreign property rentals are treated as one business. Hence, for example, you could claim the cost of going to Dubai to look for a possible new rental property against the rental income from a villa which you already have in Spain.

4. Understand the local taxes

Most countries will tax foreigners on any property they own in the country. Local taxes often apply to property purchases and sales, and to rental income. Furthermore, you will often have to pay annual taxes on foreign property, even if you do not rent it out, and many countries also have gift and death taxes.

You will get double tax relief in the UK for any foreign tax on the same income or capital gains when the UK accepts that the foreign tax is broadly equivalent to the UK tax you are paying.

Beware, however, that every country has a different tax regime and not all of them are compatible with the UK tax system. If you suffer a foreign tax which is different in character to any UK tax, or which arises when no UK tax is due, you may not get any relief for it in the UK.

So, a foreign tax at 30% which is deductible from your UK tax liability on the same income may actually cost you less than a foreign tax at 10% for which no double tax relief is available. All these factors need to be considered before you invest in foreign property.

5. Do you want double tax relief?

As a general rule it is usually worth claiming double tax relief for any foreign taxes whenever you can. By claiming double tax relief, you deduct the amount of foreign tax paid from your UK tax liability.

However, you cannot get any repayment of foreign tax through a double tax relief claim and the best you can ever do is to reduce your UK tax liability to nil.

Sometimes, the foreign tax may actually exceed the amount of the taxable income or capital gain for UK tax purposes. In these situations, it is better to claim the foreign tax as an expense rather than to claim double tax relief.

Where you claim foreign tax as an expense, it reduces the amount of the taxable income or capital gain and can even create a loss. This loss can be carried forward to give you future tax relief and hence, in some situations, can actually give you better value for your foreign tax than a double tax relief claim.

6. Reduce your foreign exchange tax risk

All UK tax calculations for individual taxpayers are carried out in pounds sterling. This creates some particular problems when it comes to capital gains on foreign property. You may make very little gain in the local currency, but when you translate your purchase and sale costs back into sterling, you may have a big Capital Gains Tax exposure in the UK.

Let's say you buy a property in Utopia for 100,000 Utopian Dollars at a time when the exchange rate is two Utopian Dollars to the pound. That means you have a purchase cost of £50,000.

Later, you sell the property for 120,000 Utopian Dollars. In local terms, you have a modest gain of 20,000 Utopian Dollars. However, let us suppose that the exchange rate is now 1.2 Dollars to the pound. This means that your sale proceeds for UK Capital Gains Tax purposes are £100,000 and you have a taxable gain of £50,000.

Maybe that's fair: after all, if you bring the money back to the UK, you will have made a profit of £50,000 on your investment.

Beware, however, that if you hang on to your Utopian Dollars, they will become a new chargeable asset for UK Capital Gains Tax purposes and may give rise to a capital gain or capital loss when you eventually spend them or exchange them into sterling or any other currency.

The real problem to watch is that if you make a capital loss on your foreign currency in a later UK tax year (year ended 5^th April), you will not be able to set that loss off against the earlier capital gain on your foreign property.

The tax tip here, therefore, is to make sure that you dispose of your foreign currency sale proceeds in the same UK tax year as you dispose of the foreign property itself.

7. Get VAT back with leaseback

In the UK, we are accustomed to the idea that any purchase of residential property is exempt from VAT. This is not the case in every country, however, and many European countries charge VAT, at rates of up to 20%, on new residential property purchases.

One way to recover the VAT on such a purchase is to enter into a 'leaseback' scheme. Under these schemes you, the owner, lease the property back to a hotel operator. This means that your property becomes a business property and you are able to recover the VAT. Typically, you are allowed a few weeks of personal use of the property each year and, eventually, after a suitable number of years, it is yours outright again.

The scheme only works for certain types of property, such as hotel rooms and apartments, and may carry disadvantages for other foreign taxes, such as higher Income Tax rates; so it's one to investigate carefully before you sign up.

8. Borrow to save

Many countries impose Wealth Tax, Inheritance Tax, or both, on foreigners owning property in their country.

Wealth Tax is usually an annual charge on the property owner's net wealth in the country.

Foreign Inheritance Tax also usually applies only to a foreigner's net assets in the country.

In most cases, you can reduce your net wealth in the foreign country for tax purposes by taking out a mortgage on your foreign property. In this way, it will usually be just your net equity in the property which attracts foreign tax.

If you don't actually need a mortgage, you can invest the borrowed funds somewhere else outside the country where your property is located.

9. Avoid evasion

When you buy property in a foreign country, you will usually also be acquiring tax obligations in that country. In fact, many countries require prospective foreign property purchasers to register themselves with the local tax authority before they can complete their purchase.

If you want to sleep at night, you need to make sure that you fulfil your local tax obligations in the country where your property is situated. Many foreign tax authorities have the power to seize property where taxes are unpaid.

Naturally enough, the local tax authority will write to you in their own language. Do not ignore this correspondence just because you don't understand it: this is no defence. You will need local help and advice to make sure that you deal with the local tax authority appropriately and meet all of your obligations as a taxpayer in the country.

10. Expect the unexpected

If the UK tax system is all Greek to you, or seems like Double Dutch, why should you expect foreign taxes to be any different? Every country has its own tax and legal system and, when you buy property abroad, you must abandon all of your preconceptions.

Assume nothing until you have investigated the local tax system thoroughly. Your destination country will have different taxes, different tax rates, a different tax year and a whole different set of rules, regulations, reliefs and exemptions.

Local property law and succession law is likely to be different too and a UK investor who overlooks this fact may suffer a great deal more than just tax!

HMRC change mind on income shifting

HMRC's view used to be that interest earned on joint savings accounts by spouses must be taxed on a 50/50 basis. It has now quite clearly changed its view. Could this provide you and your spouse with an opportunity to reduce your joint tax bill?


Old fashioned values Until fairly recently, a wife's income for tax purpose was treated as if it was her husband's. In 1980 this antediluvian view was replaced with "independent taxation". Its rules atre straightforward if the income of each spouse arises in their own name solely.However, life becomes tricky where income arises from jointly owned assets such as a joint savings account.


Joint asset rules If you;re married, you know the line between what's yours and what's your spouse's can be hazy. HMRC know this and have rules to prevent couples from declaring income from jointly-owned assets in ways to produce the lowest tax bill for them.


TRAP Even if an asset is held in unequal shares by a married couple S.836 of the Income Taxes Act 1987 treats the income from it for tax purposes as if received equally. This may result in one spouse paying tax on income which isn't theirs. There are exceptions to this rule.


Tax planning election  Where the ownership of an asset is other than 50/50, a married couple can elect to be taxed on their actual share of the income it produces. The election must be made in the correct format on Form 17 (which can be downloaded here ) and submitted within a fairly tight deadline.


Form 17 procedure You can use a Form 17 to declare a beneficial interest if you hold property with your spouse jointly and you:

• own the property in unequal shares
• are entitled to the income arising in proportion to those shares
• want to be taxed on that basis.

A form 17 can’t be used to allocate income for tax purposes in respect of:

• partnership income
• rental income from letting of furnished holiday accommodation
• dividends from shares in a close company
• income which for tax purposes is treated as belonging to someone else even if it arises from property held in joint names
• property held as beneficial joint tenants where you are both entitled to the whole of the property and income.

Procedure and time limit Once completed a Form 17 must be sent to HMRC within 60 days of the date of declaration. This deadline will not be extended for any reason.

With the form send documents which show how the proportions of beneficial interest shown were arrived at. If the proportions change for any reason notify HMRC straightaway.

TRAP Until June 2011 HMRC claimed an election couldn't be made in respect of interest on a joint bank or savings account. Their view was that as the money in joint accounts is accessible by either spouse, the ownership was equal and the 50/50 split applies.


Rethink on ownership HMRC's 50/50 approach is out of step with general law which takes several factors into account in deciding who owns money in a joint account. A recent tribunal case confirmed that interest on a joint account can be attributable in unequal proportions.


Trust is important Where both spouse pay in and withdraw money from a joint account, it may be almost impossible to say how much of the balance each owns. It is equally impossible to say how much interest each is entitled to. There is a simple solution to this problem.


TaxTip If you want interest on  joint account to be taxed otherwise than on a 50/50 basis, draw up a simple trust signed by you and your wife indicating how the capital and thus the interest is owned. You can then make a form 17 election specifying how the interest is to be allocated for tax purposes.


Example statement of trust 

Bank account at ABC Bank Plc (number 01234568)

Mr John X (J) and Mrs Susan X (S) are the joint legal and beneficial owners of the above named account (the account) and, in accordance with the terms and conditions of the operation of the account as set out and varied from time to time by the bank, have equal and several rights over the money in it.

J and S both contribute money to and withdraw money from the account. While recognising this J and S agree that from the date of this agreement unless revoked the money held in the account at any time shall be beneficially owned as follows:

• J 20%
• S 80%

Interest

All interest paid or accrued in respect of money held in the account will be due to J and S in proportion to their respective beneficial ownership as determined by this agreement.

Signature……………………….. Name…………………… Date……………

Signature……………………….. Name…………………… Date……………


Throughout this article please construe references to couple(s), spouse(e) and marriage as including civil partnerships.

When can you rely on what HMRC say

Recently, a landmark Supreme Court decision wemt against a taxpayerwho had relied on adfvice included in a HMRC booklet. So where are you if you follow HMRC's rules but they later change their mind?


Gaines losses Mr Gaines Cooper(GC) spent the best part of 30 years living abroad and followed advice published by HMRC in its IR20 booklet (now Booklet 6). Yet HMRC still contended he was resident in UK for tax purposes. The case raises an important question for us all. When can you rely on information contained in the various documents HMRC publish?


By the book The case actually involved three taxpayers who had relied on HMRC guidance contained in IR20. All claimed they had satisfied the conditions to qualify as not resident in UK for tax purposes and thus were not liable to UK tax on their income arising outside the UK. The big problem is that there is currently no statutory definition of tax residence. So greedily eyeing the huge amounts of tax at stake, HMRC argued against their own guidance and claimed all three taxpayers were UK resident. 


TRAP Some reports have implied that following this judgement. advice in HMRC's publications is worthless. That is not true but you need to take some precautions before following it.


Be reasonable The Supreme Court took the view that HMRC's guidance and publications are a vital part of its relationship with taxpayers and HMRC were bound by what it had said in its publications. GC and the others lost because they had misinterpteted the published guidance. However, HMRC had not been sufficiently clear and should provide clear, unambiguous advice in all its publications. One judge commented that ordinary taxpayers should feel no need to go beyond HMRC's published advice. HMRC will doubtless take their time in updating their publications to meet this goal but where is the taxpayer left in the interim?


Public or internal guidance Booklets, notices and HMRC statements of practice intended for the general public can be relied upon and tribunals and courts will back you up if HMRC decide to change their mind. However, this does not hold good for HMRC's staff instruction manuals on their web site. Mostly, these will tie up with their publications but where a difference exists, rely only on what is written for the taxpayer.


TRAP You cannot cherry pick the bits of advice you like and ignore those you don't. This may end up with you not acieving the tax result you wanted. Follow the published guidance in full.

Contemporaneous records HMRC's advice is constantly changing. Online publications may alter before you next refer to them - slightly awkward if you are arguing against HMRC's updated view.


TaxTip Keep a PDF or hard copy of HMRC web pages you used in making a particular decision. If you phone HMRC for advice, ask which public notice or instruction the taxman bases his view on.


Conclusion You can rely on HMRC advice contained in public notices (but not online manuals). Follow this to the letter to be sure you get the tax result you want. HMRC's publications and views change often, so keep a hard copy of any web pages you rely on.   

Alternative to associated companies

You may have good commercial reasons for running different parts of your business through separate companies, but this may lead to higher tax bills. Why is this and how can you avoid it?


More than one trade It is not unusual to find more than one business using the same premises. The owners may have started one trade successfully and then branched out into others placing each new trade into a new, separate company with its own identity. This may seem a perfectly logical business structure but it could cost the businesses extra tax.


Associated Tax For corporation tax purposes a company is connected with another company if both are controlled by the same owners. These are called associated companies. A company may make taxable profits of up to £300,000 in a year and be taxed on them at the Small Companies Rate (SPR) of 20%. Thereafter, the higher rate of 27.5% is used. However, where two or more companies are associated, the SPR band is split equally between them.


Example Two associated companies A Ltd and B Ltd have taxable profits of  £250,000 and £50,000 respectively for the same year. Overall their profits amount to £300,000 which would be taxed at 20% if they were not associated to produce a tax bill of £60,000. But because the SPR is split equally between them, A is taxed at 20% on its first £150,000 profits (£300,000/2) - £30,000 - but at 27.5% on the remaining £100,000 - £27,500 to produce a tax bill of £57,500. As B's profits are only £50,000 they are taxed at 20% - £10,000. This produces a total tax bill of £67,500 for A and B Ltd. How can this increased tax burden be avoided?


Profit Sharing Running the companies separately produces an increase in their joint tax bill of £7,500. Shifting profits may help to resolve this. B Ltd could charge A Ltd for services it provides eg supplying staff or accommodation. But the services provided must justify the amount of any such charge as B can only charge for services it actually provides. This may limit profit shifting opportunities.


TaxTip A and B Ltd could merge and operate each business through just one company and thus take full advantage of the lower 20% rate. Their businesses would be carried out in separate divisions within the same company.


They can retain their respective trading names as far as their customers and suppliers are concerned although they would need to make changes to the company stationery. Click here  to see what needs to appear on company stationery.


They can even prepare separate accounts so that directors and shareholders can see how each is performing.


Divisional caveat  However, there other considerations than tax to take into account. If one division is in danger of failing , its creditors can look for payment from the company as a whole not just from the division owing them the money,

Winding up concessions go

HMRC's concession for companies closing down is to go - probably in April 2012.
The Treasury Solicitor's Department (TSD) has just abolished their equivalent concession from October 14, 2011. Does this mean higher tax bills for shareholders?


Tax efficient wind up When you want to close down your company, you will want to do it in the most tax-efficient way. Both HMRC and TSD have parts to play in achieving this but if you don't stick to their rules you could end up with a big tax bill or even lose the company's assets to the Crown.


Tax Concession Unless a company is formally liquidated any cash or assets it passes to its shareholders in the closure are taxable as income at the taxpayer's highest rate.


HMRC's Extra Statutory Concession C16 (ESC C16) says the transfer may be treated as a capital payment liable to capital gains tax (if at all) at rates of between 10% and 20%.


ESC 16 is due to be withdrawn next April and replaced by a less generous law.


In the meantime it can save shareholders substantial amounts of tax.


TSD Concession Until 14 October 2011, TSD had a similar concession. By law, if assets are distributed and the company subsequently struck off without a formal liquidation, the assets become Crown property. This is known as bona vacantia.


The TSD concession said bona vacantia did not apply where the company's share capital was less than £4,000.


However, there is an alternative under the Companies Act 2006 wherby you can, for example, transfer the company's share capital and reserves (accumulated profit) leaving just £1's worth. It is this remaining £1 which is at risk of becoming bona vacantia if a formal liquidation is not carried out. However, this procedure may cause trouble with ESC   C16.


Tax concession also ending Although ESC C16 is not likely to be revoked until April 2012, the removal of the TSD concession could pose a tax problem for any company intending to close down without a formal liquidation.


Usual method A company using ESC C16 must ask HMRC to agree that transfers of its assets to shareholders before the company is struck off can be treated as capital payments. The company can then distribute its assets whilst leaving its share capital intact. To stop the bona vacantia problem, the company must first use the Companies Act 2006 procedure to reduce its share capital. ESC C16 does not apply to this type of distribution but only to a "distribution of assets" , not share capital. An awkward inspector  might take this point in an attempt to deny relief under ESC C16. It is advisable, therefore, to explain to HMRC that the reduction of share capital is simply part of the process of closing down the company before strike-off and therefore should be covered by the concession.

Companies Act 2006 Procedure The first step is for the company to pass a special resolution; this needs agreement from 75% of the shareholders. In addition the directors will need to provide a solvency statement. This requires each of them to confirm that there's no reason why the company can't meet its debts and that it will be able to pay them as they fall due within twelve months of the statement. The statement must:

• be in writing
• show the date it’s made
• state that the company’s solvency statement is made in accordance with s.642 of the Companies Act 2006
• contain the name of each director, and be signed by each of them.

The resolution and the solvency statement must then be sent to Companies House within 15 days of being passed, together with a statement of capital showing how the share capital has been reduced.

You can find more information on the procedure for making company resolutions here:

http://www.companieshouse.gov.uk/about/gbhtml/gp3.shtml

---------------------------------------------------------------------------------------------------------------

HMRC have now published a draft of the legislation which will replace ESC 16

Distributions in respect of share capital prior to dissolution of company: corporation tax

16.—(1) In Part 23 of the Corporation Tax Act 2010(1) (company distributions), Chapter 3 (matters which are not distributions) is amended as follows.

(2) In section 1029(1) (overview of Chapter), after paragraph (a) insert—

“(aa)section 1030A (distributions in respect of share capital

prior to dissolution of company),”.

(3) After section 1030 insert—

“Distributions prior to dissolution of company

1030A    Distributions in respect of share capital prior to dissolution of company

(1) This section applies where—

(a)the procedure in section 1000 of the Companies Act

2006 (2) (power to strike off company not carrying

on business 

or in operation) has been commenced in relation to a 

company, and

(b)the company makes a distribution in respect of share  

capital in anticipation of its dissolution under that section.

(2) This section also applies where—

(a)a company intends to make, or has made, an application

under section 1003 of that Act (striking off on application

by company), and

(b)the company makes a distribution in respect of share

capital in anticipation of its dissolution under that section.

(3) The distribution is not a distribution of a company for the purposes of the Corporation Tax Acts if conditions A and B are met (but see section 1030B).

(4) Condition A is that, at the time of the distribution, the company—

(a)intends to secure, or has secured, the payment of any

sums due to the company, and

(b)intends to satisfy, or has satisfied, any debts or liabilities

of the company.

(5) Condition B is that—

(a)the amount of the distribution, or

(b)in a case where the company makes more than one

distribution falling within subsection (1)(b) or (2)(b),

the total amount of the distributions, does not exceed 

£25,000.

(6) In the case of a company incorporated in a territory outside the United Kingdom, any reference in subsection (1) or (2) to a section of the Companies Act 2006 is to be read as a reference to any provision of the law of that territory corresponding to that section.

1030B    Section 1030A: effect of company not being dissolved, etc

(1) Where this section applies, a distribution made by a company is to be treated for the purposes of the Corporation Tax Acts as if section 1030A(3) had never applied to it.

(2) This section applies where 2 years have passed since the making of the distribution and—

(a)the company has not been dissolved during that time, or

(b)the company has failed—

(i)to secure, so far as is reasonably practicable, the

payment of all sums due to the company, or

(ii)to satisfy all of its debts and liabilities.

(3) In a case where this section applies, all such adjustments as are required in order to give effect to subsection (1) are to be made, whether by the making of assessments or otherwise.

2010 c. 4The above Statutory Instrument was approved by the First Delegated Legislation Committee on Monday 30 January which means that distributions which made on or after 1 March 2012 in anticipation of a dissolution and which exceed £25,000 will be subject to income tax and not capital gains tax.

The way to preserve capital gains tax treatment will then be to enter a formal liquidation which may be a rather expensive exercise.

FromIIIt is clear that there are a lot of people trying to beat the 1 March deadline and dissolve companies under the ESC C16 rules.

There is no limit, or cap, on the amount of the distribution that can be made under ESC C16 and be subject to CGT.

Making the distribution before 1 March

HMRC has stated that as long as you have written to HMRC and provided the required assurances and you make the distribution in February then the fact that you have not heard back from HMRC before doing so does not matter. You still come under ESC C16 and pay CGT.

‘[In relation to] applications made but not finalised before 1 March, [HMRC] can confirm that it would not take a point on the absence of a response by HMRC provided that all the conditions attaching to the current ESC are met. If the distribution is made in February, the distribution can be treated as capital receipts in the hands of the shareholders and the £25,000 ceiling does not apply.’

If all the company assets are not yet in cash then it should be possible to make a distribution in specie and come within ESC C16. If the affairs of the company are complicated then you may need to take appropriate legal advice to make sure that what you are proposing to do would be treated as a distribution, if challenged, and that you will have complied with all the assurances you need to give under ESC C16.

If you cannot make the full distribution before 1 March but need to make one distribution before that date and distribute the rest of the company assets afterwards then beware. The current view of HMRC is that for the purpose of determining whether the post 1 March distributions exceed the £25,000 limit, and are liable to income tax, you have to take into account any interim distributions made before that date.

We do not believe that the HMRC analysis is correct. Article 18 of the Statutory Instrument (SI) states the new rules will only have effect in relation to distributions made on or after 1 March. So it is not clear to us how you can take pre March distributions into account when determining whether you have breached the £25,000 cap on March and subsequent distributions. 

 If you make a distribution under the new regime which of itself is less than £25,000 but which, together with earlier relevant distributions, exceeds £25,000 you will have to make up your mind as to whether to return that subsequent distributions as liable to capital gains or income tax.

A future tax return filing problem

The general aggregation principle could also present a bit of a problem when you are filing tax returns under the new regime. Suppose you make a distribution in March 2013 of less than £25,000 but the distribution together with a subsequent final distribution come in total to more than £25,000. This means that all the distributions are liable to income tax. If the second distribution is not made until after the tax return covering the first distribution is filed you will have filed on the basis that that first distribution was liable to CGT but it will subsequently become liable to income tax because of the second distribution.

The new regime

The relevant statutory provisions governing the new regime which appear in the SI insert two new sections, 1030A and 1030B, into Corporation Tax Act 2010. One obvious danger in the new regime is that if the dissolution is delayed more than two years after the distribution or there is a similar delay in settling all the debts and liabilities then income tax will be applied to the distribution even though it was for an amount less than £25,000. Again you are going to have tax return filing problems.

What