Tax Bulletin - July 2008.

Contents:

Current Rates: The latest rates of inflation and interest

Finance Act 2008: Royal Assent was granted on 21 July

Remittance Basis: The final amendments make little difference

Controlled Foreign Companies: The legislation seems to be wholly inoperative 

Inheritance Tax: The courts consider the family maintenance exemption

Capital Gains Tax: Relevant discounted securities get a further airing

Concession A11: The extent of the concession is clarified

IR20: Another draft booklet is published

Widows Bereavement Allowance: The ECJ  are sympathetic to widowers

Current Rates July 2008

> Finance Act 2008 Royal Assent was granted on 21 July 2008.

Remittance Basis A mountain of amendments has been made to the Finance Bill proposals on the remittance basis. Some serious criticism has been made of the Chancellor's proposals both by the House of Commons Treasury Committee and by the House of Lords - but I don't think anybody is taking any notice. The amendments are nearly all highly technical and designed to make the legislation coincide with explanatory notes provided by HMRC. There is nothing much new to report here.

Controlled Foreign Companies It may be remembered that in 2006 the European Court of Justice decided that the Controlled Foreign Companies (CFC) rules cannot be applied to tax the profits of a foreign subsidiary where the CFC is actually established in the other Member State and carries on a genuine economic activity there. The fact that it may have done so for tax reasons is irrelevant. The CFC legislation can be applied only where the CFC is a wholly artificial arrangement intended to escape tax and where there is no genuine economic activity: Cadbury Schweppes Plc v HMRC (Case C-196/04).

The recent case of Vodafone 2 v HMRC (2008) EWHC  1569 seems to have taken this a stage further. The High Court have said that it is impossible to construe the CFC legislation in a way that enables it to comply with European Community law even in the absence of an establishment with genuine economic activity. There are no words in Section 748 Taxes Act 1988 that are capable of limiting the operation of the section in a way that would comply with Article 43 as explained in the Cadbury Schweppes judgment. The only way in which a limitation could properly be made would be by amending Section 748, not interpreting it. Accordingly, the CFC legislation cannot apply to charge a company such as Vodafone tax on the profits of its foreign subsidiaries in the absence of amending legislation or executive action. I guess that some of that will be with us before too long.

IHT Exemption: Reasonable Provision The recent case of McKelvey v HMRC SpC 694 was concerned with the exemption under Section 11 IHTA 1984 for dispositions for maintenance of the family and dependents.

A daughter lived with and cared for her widowed mother. She was diagnosed with a terminal illness and realised that she would need to make provision for her mother to pay for nursing care after her own death. Accordingly, the daughter transferred properties to her mother specifically so that they could be sold to pay for nursing costs and claimed that they were exempt transfers within Section 11(3) IHTA 1984, which reads:

"A disposition is not a transfer of value if it was made in favour of a dependent relative of the person making the disposition and is a reasonable provision for his care or maintenance".

HMRC accepted that gifts of this kind could be exempt, but in this case the mother refused to move into residential accommodation and, in fact, the properties did not need to be sold for this purpose. Accordingly, HMRC claimed that no part of the value of the properties had been used for the mother's care and therefore the transfers could not have amounted to reasonable provision for that care; no provision was, in fact, required.

The Special Commissioners decided that the stance of HMRC was too harsh. The meaning of reasonable provision in this context was an objective standard and it was clear that at the time the gifts were made the mother would need paid care. The deceased's decision to make the gifts for the purpose of providing funds for her mother's future care was reasonable.

HMRC then argued that even if that were the case, the value of the properties exceeded a reasonable amount and therefore an apportionment was necessary to disallow the excess. Accordingly, some calculations were made (of spurious accuracy in my view - but no matter) suggesting that the mother's care would have been needed for 5.5 years at a cost of [pounds]21,000 per annum plus a further [pounds]25,000 to cover the contingency of her admission to a home. The value of the properties exceeded this total by [pounds]28,500 - and that amount was therefore ineligible for the exemption and was a chargeable transfer.

It is disappointing that the Special Commissioners chose to be so precise when the grounds for such precision simply did not exist. What if the paid nursing care had been required for 5.75 years and the costs had gone up during that period? The figures would be completely different. However, having regard to the case of Phizackerley SpC688, the executors may have been happy with anything because, in that case, the Special Commissioner acknowledged that Section 11 was wide enough to cover the transfer of a house but only if it relieved the recipient from income expenditure - for example, on rent. In that case the transfer was not considered to be reasonable maintenance for the other party; it was to give the other party security and fell outside Section 11 on those grounds.

CGT: Relevant Discounted Securities In the September Bulletin, I mentioned the decision in Astall v HMRC in which the Special Commissioners had considered the meaning of a relevant discounted security for the purposes of capital gains tax. At the time, this was defined in Schedule 13(3) Finance Act 1996 as a security where the amount receivable on maturity or redemption:

"is or would be an amount involving a deep gain or might be an amount which would involve a deep gain".

The terms of the security included a redemption option that, if it had been exercised, would have involved a deep gain. The taxpayer (not surprisingly) said that because the amount payable on redemption might involve a deep gain, the definition of a relevant discounted security was satisfied. The exercise of the option may not have been very likely and admittedly the redemption option was inserted for tax reasons, but that was no reason for it to be ignored.

HMRC argued that the possibility of early redemption should be ignored because it was unlikely to take place. The Special Commissioners agreed and said that looking at the position realistically, it was practically certain that the redemption option would not be exercised.

The High Court have confirmed this view, saying that the Special Commissioners' conclusion cannot be faulted and as there was no realistic possibility of the option being exercised and, therefore, for a deep gain to arise, the security was not a relevant discounted security. It was correct, on the authority of Ramsay and Barclays Mercantile, to construe the requirements for a relevant discounted security by considering all possibilities in such a way to limit those possibilities to real ones.

The difficulty here, of course, is in understanding what this means. The provision does say "might be an amount which would involve a deep gain" - which expressly envisages a degree of uncertainty - so the question is: How uncertain does it have to be? Every day in betting shops, people are taking wildly different views about what represents a realistic possibility - so whose view is going to prevail? The ordinary person, perhaps, or maybe a Lord Justice of Appeal, or even the person who is actually going to assess the risks in real life? Who knows? I hope we are not going back to the Chancellor's foot. These rules are hard enough to understand without introducing an extra element of uncertainty.

If a definition is provided by the legislation, it is a bit tough to say that there is another condition that we did not mention - and it is bad luck you don't satisfy it. If the taxpayer had known about this unspecified condition at the outset (and why should he not be entitled to know) he or she might not have incurred the enormous costs of an appeal. This may have been a tax scheme (which is obviously a bad thing), but that should not mean that principles go out of the window.

Concession A11 HMRC have recently published some clarification about the extent of Extra Statutory Concession A11, which deals with split-year treatment for tax residence. They say that this concession is likely to be replaced because of the possibility of a statutory residence test. However, to cover the period while this concession remains in place, HMRC thought it would be helpful to clarify their position, because there has apparently been some uncertainty about whether the concession applies to employment income relating to securities in Part 7 ITEPA 2003.

HMRC confirm that they do not consider that the concession applies to such income in the year of arrival but, as there has been some uncertainty about the matter, for all open years and until a statutory basis is introduced, HMRC will accept that the concession applies in the year of arrival.

As far as the year of departure is concerned, the concession does not apply where a charge arises in respect of securities acquired for less than market value. However, HMRC say that a concession does not apply to anything else in Part 7 either. Even so, to avoid any misunderstanding, for all open years and until a statutory basis is introduced, HMRC will accept that Concession A11 applies in the year of departure - except where the charge arises from securities acquired for less than market value.

IR20: New Draft HMRC have issued a new draft IR20 that is still provisional. It now includes the changes introduced by the Finance Act 2008 in connection with the day count rules for determining residence (the new midnight rule to replace the earlier notion of ignoring days of arrival and departure) and the remittance basis. We are promised Full Guidance (whatever that means) but, because they say IR20 will then be withdrawn, it looks like it might be comprehensive.

Widows Bereavement Allowance It may be remembered that a Mr Thomas claimed a Widows Bereavement Allowance some years ago, but this was denied on the grounds that he was not a woman. The case was concluded against him in the UK, but he applied to the European Court of Human Rights (ECHR) that he had been discriminated against on grounds of sex.

The ECHR recently ruled that there was no objective or reasonable justification for this discrimination and that there had been a violation of Article 14 of the Convention. Interesting - but perhaps not immediately significant, as the ECHR have no force under English law. HMRC have no power to grant him the relief, so presumably somebody will decide that we should change the rules to allow Mr Thomas his relief.

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Mr Peter Vaines

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