Policy paper

Tax avoidance involving profit fragmentation for Income Tax and Corporation Tax

Published 7 November 2018

Who is likely to be affected

Individuals who carry on a trade or profession within the charge to UK taxation, as a sole trader, in partnership, or through a company (in the last case it is likely that the company will an owner managed business), but only where arrangements are in place such that value is transferred from a UK trader to an offshore entity.

General description of the measure

From April 2019, this targeted legislation aims to prevent UK traders and professionals from avoiding UK tax by arranging for their UK-taxable business profits to accrue to entities resident in territories where significantly lower tax is paid than in the UK. The counteraction will be effected by adding those profits to the profits of the UK trade.

Policy objective

The aim of the measure will be to ensure that the amount of profit that should be taxable in the UK is fully taxed in the UK.

Background to the measure

This measure was announced at Autumn Budget 2017. A consultation document was published on 10 April 2018. The consultation closed on 8 June 2018.

The first draft of legislation and a response document were published on 5 July 2018. This was followed by a period of technical consultation which ended on 31 August 2018.

Following consultation on draft legislation government has decided to remove the duty to notify HMRC of relevant arrangements meeting certain criteria.

This tax information and impact note (TIIN) replaces the TIIN published alongside the draft legislation on 5 July 2018.

Detailed proposal

Operative date

The measure will have effect from 1 April 2019 onwards for Corporation Tax and 6 April 2019 for Income Tax and Class 4 National Insurance contributions, and will apply to all profits diverted on or after that date.

Current law

Current law is contained in part 2 of the Income Tax (Trading and Other Income) Act 2005 (ITTOIA) and part 3 of the Corporation Tax Act 2009 (CTA 2009). These contain the main charging provisions for the taxation of profits of a trade.

Section 6 of ITTOIA deals with the territorial scope of Income Tax. Profits of a trade arising to a UK resident are chargeable to UK tax wherever the trade is carried on. Profits of a trade of dealing in or developing UK land arising to a non-UK resident are chargeable to UK tax wherever the trade is carried on. Profits of a trade arising to a non-UK resident are chargeable to UK tax only if they arise:

• from a trade carried on wholly in the UK
• in the case of a trade carried on partly in the UK and partly elsewhere, from the part of the trade carried on in the UK

Section 5 of CTA 2009 deals with the territorial scope of Corporation Tax. A UK resident company is chargeable to Corporation Tax on all its profits wherever arising. A non-UK resident company is within the charge to Corporation Tax only if it carries on a trade:

• of dealing in or developing UK land
• in the UK through a permanent establishment in the UK

A non-UK resident company which carries on a trade in the UK through a permanent establishment in the UK is chargeable to Corporation Tax on its profits that are chargeable profits as defined in section 19 of CTA 2009 (profits attributable to its permanent establishment in the UK).

Legislation in part 13 of the Income Tax Act 2007 (Transfer of assets abroad) charges Income Tax on a person who makes a relevant transfer where certain further conditions apply. This legislation may apply to some of the arrangements or to some parts of the arrangements that will be affected by this measure.

Proposed revisions

Targeted legislation

Legislation will be introduced in Finance Bill 2018-19 which will consider whether certain characteristics are present as follows:

• there must be a transfer of value from the UK trader to an offshore entity - this could be a diversion of income to the offshore entity, or payment of expenses to the offshore entity
• the effect of the arrangement must be that a significantly lower level of tax is paid on the profits than would be the case if they were correctly taxed in the UK in accordance with the current law
• the proprietor of the business, whether a sole trader or partner in an unincorporated business, or as director and/or shareholder of a company must be able to enjoy the profits that have been diverted
• the UK person must have arranged for the profits to be diverted to the offshore entity
• the diversion or payments mentioned in the first condition are not commensurate with the work undertaken by the offshore entity

Where these conditions are present the arrangement is to be counteracted by bringing the profits back into UK tax by attributing the correct amount of profits to the UK-taxable source.

Summary of impacts

Exchequer impact (£m)

2017 to 2018	2018 to 2019	2019 to 2020	2020 to 2021	2021 to 2022	2022 to 2023
negligible	+65	+65	+75	+95	+100

These figures are set out in table 2.1 of Budget 2018 as part of a package of measures called ‘Offshore: prevent profit fragmentation, extend VAT grouping rules, and prevent looping avoidance schemes’ and have been certified by the Office for Budget Responsibility. More details can be found in the policy costings document published alongside Budget 2018.

Economic impact

This measure is not expected to have any significant macroeconomic impacts.

Impact on individuals, households and families

This measure is likely to affect approximately 1,000 individuals many of whom may need to make adjustments under these new rules.

This measure has no impact on individuals and households as it only affects sole traders, partnerships and companies who are in business.

The measure is not expected to impact on family formation, stability or breakdown

Equalities impacts

It is not anticipated that there will be any particular impacts on groups sharing protected characteristics.

Impact on business including civil society organisations

This measure is likely to affect approximately 1,000 individuals carrying on business in the UK as sole traders, in partnership or carrying on a trade or profession through a company, many of whom may need to make adjustments under these new rules.

All businesses with cross border transactions will incur a one-off cost of familiarisation with the new rules. It is expected that this cost will be negligible.

There is no impact on civil society organisations

Operational impact (£m) (HMRC or other)

The information technology and operational impacts on HMRC for this measure are negligible.

Other impacts

Other impacts have been considered and none have been identified.

Monitoring and evaluation

The measure will be monitored through information collected from tax returns and HMRC compliance work.

Further advice

If you have any questions about this change, please contact Chris Stewart by telephone: 03000 519 402 or email: profitfragmentation.mailbox@hmrc.gsi.gov.uk.