Between 2007 and 2011 a number of UK Plc’s departed these shores. Brit Insurance, Shire and WPP all ‘left’ the UK tax net. Their beef was with the UK’s controlled foreign company (CFC) regime that was perceived as draconian and uncompetitive when compared with other foreign tax regimes.                      

The CFC regime attempts to prevent UK headed groups from artificially diverting profits away from the UK and into low tax jurisdictions. The CFC rules exist in parallel with the transfer pricing legislation, and case law dealing with where companies are tax resident.

Such diversion was more likely to occur in businesses where income was mobile, such as royalties, interest, consultancy fees, or where the overseas entity has large trade related connections with UK customers or suppliers. Effectively the taxpayer was presumed ‘guilty’ unless it could get itself into one of the prescribed exemptions. Attempts to locate shared (intra-group) service centres in low tax jurisdictions were also caught. If the overseas subsidiary was deemed to be a CFC its profits were added to those of the UK parent and taxed to UK corporation tax at the main rate.

Over the years of course the way in which business is undertaken overseas has changed immeasurably. The size and number of transactions has changed, SMEs now undertake an increasing amount of cross border trade, and communication technology enables a wide variety of businesses to be truly multinational - but the CFC rules are written in such a way that some say discourages UK owned business to trade overseas and questions the financial sense behind having a UK parented group. 

There’s a huge debate to be had around whether a UK parented group should pay tax in the UK, even on profits it does not create here. This is a political debate and not one I have any professional views on.

In 2010 the new Coalition Government announced their intention to overhaul the UK’s corporate tax regime. To date we have seen the main UK rate drop from 28% to 23% (in 2014), and listened to a bold statement claiming that the UK regime will be the most competitive in the G20. Updating the CFC regime was a key part of this plan of modernisation.

On 6 December 2011 HM Treasury published the first cut of the draft legislation which it is intended will be with us once the 2012 Finance Bill has been given Royal Assent in mid to late Summer. We’ve been looking at the documents and the legislation and it’s fair to say it’s encouraging but it is also pretty tough going.

The Chartered Institute of Taxation (CIOT) wrote a letter to HM Treasury on 16 December 2011 setting out some reservations and early thoughts and will follow this up in due course this month with a more detailed submission. We’re also collating our own thoughts specifically in relation to SMEs and some of the more common scenarios we see with UK owned clients with overseas subsidiaries. We’ll be sharing some of those headline thoughts here on my blog next time and possibly with CIOT and HMT in due course. 

The big news for SMEs is that the de-minimus profits limit will be raised from £50,000 per annum to £500,000 per annum, an increase of tenfold. Most SMEs will therefore fall outside of the CFC rules, however for many of our clients with lumpy overseas income, or successful overseas entities, close attention to the new rules will be required to determine whether those profits will be subject to UK taxation. We will deal with the detail in the draft legislation next time.