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Non corporate distributions - The end is nigh!

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9th Jan 2006
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Rebecca Benneyworth considers the impact of the abolition of the Non Corporate Distribution rate of corporation tax and whether any particular issues arise now that the tax is to be abolished.

The announcement of the abolition of the non corporate distribution rate of corporation tax in the Pre Budget Report last December was welcome news for many acting for smaller companies. Although some companies will see a slight increase in Corporation Tax burden, the benefits of simplicity will enable companies to plan effectively to distribute their post tax profits, and remove several unnecessary complications. Those companies making up to £10,000 per annum and paying no tax on their retained profits cannot reasonably complain about a tax rate of 19% - even if it represents a significant increase financially for them.

Although we have not yet seen draft legislation for this change, it is anticipated that it will apply from 1 April 2006. The announcement included the date 'April 2006', and given that it is a corporation tax measure, no other date would seem sensible, other than the start of the Financial Year.

Dividend payments
For companies affected by the Non Corporate Distribution rate, delaying dividend payments until after 31 March 2006 will maximise the remaining nil rate band available to the company. These dividends will not be regarded as non corporate distributions, as they will be paid after the termination of the rules, so cannot affect the tax payable, which will be 19% in any event.

If the company already has excess Non Corporate Distributions brought forward, there may be little or no benefit in delaying dividends this year, as the excess brought forwards may already have displaced lower rate taxed profits. This will be the case if the amount brought forwards is anticipated to equal or exceed the profit for the year. In addition, if the profits of the current period are expected to be near the upper limit of £50,000, then the tax saved will be very small.

If the shareholder / director needs to draw additional cash in the meantime, it may be appropriate to draw on his loan account ' even if the account goes overdrawn ' as the tax consequences will be unwound if the subsequent dividend is then applied to repay the loan account balance. Of course other legal issues should also be considered before recommending this step, and the impact of the benefit in kind charge should also be borne in mind. Any tax due under Section 419 ICTA 1988 would be cancelled if the repayment of the loan is made within 9 months of the company year end. Provided the dividend is paid between 1 April and 5 April 2006 there should be no direct income tax effect of this delay.

Losses
The offset of trading losses for companies affected by the Non Corporate Distribution (NCD) rate can be complex, but now that the rules have changed, some fairly simple observations can be made. Given that a maximum of three accounting periods will be affected by the NCD rate (and only two if the company's year end is 31 March), the treatment of losses in the final period is to carry forward, as they will be set against profits bearing tax at 19% which is likely to be greater that the rate suffered previously. However, if the preceding period had NCD's in excess of the profits, so that all profits were taxed at 19%, the company will achieve the same quantum of relief by carrying the loss back, and obtain relief sooner. The now excess NCD's will disappear on 31 March 2006, and not affect future periods.

For the earlier periods affected by NCD's (as far as their tax returns are still open) carrying losses back against previous profits will normally be the most appropriate. If the company can access profits in the £10,000 to £50,000 band prior to the introduction of NCD's, relief will be obtained at an effective rate of 23.75%. Obviously if profits in the first £10,000 are affected this would reduce the rate of relief overall. Some companies may now be in a position to amend returns and loss claims, now that the end of the NCD rate is in sight.

Disclaiming the nil rate band
Where a company has never paid NCD rates, and has disclaimed the nil rate band in favour of either the full 30% or the 19% band, this was usually to dispose of significant Non Corporate Distributions ' normally of a sum much greater than the current profits. The essence of the claim is to prevent the NCD's being carried forward for many years, potentially affecting significant amounts of profit over the years. This option was not welcomed by HMRC, and was partly the reason that a new interpretation of the rules was released one year into the regime.

The possibility of NCD's following a company for years is now, of course, no longer possible, so this decision may now be reviewed if the Corporation Tax return is still open for amendment. The review may indicate that accepting the NCD rate of tax is now preferable ' particularly if the rate of 30% was selected in preference to the nil rate.

Practicalities
We are to assume that the CT 600 form will once again be rewritten to remove all references to the NCD rate. It would be helpful if those in the forms design section could start work on the modifications now, so that the new return will be ready a little earlier than on the introduction of the rate, when delays meant that companies were not able to file on the final version until 9 months after the legislation was introduced.

Summary
It is not often that I personally leap from my chair with a victory salute while reading technical tax material, but that was certainly my reaction to the announcement in December. However, reviewing the whole exercise it is indeed a very sorry story. Badly written and extraordinarily complex legislation introduced to avoid performing a 'U ' turn' which was necessary in the end anyway. Reinterpreting the rules twelve months down the line because HMRC didn't like the answer they were getting with the original view of the law. And all this for the smallest businesses! Nobody involved in this mess can claim credit ' apart from the person making the decision to pull the plug on it.

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By NeilW
09th Jan 2006 13:36

Jumping the gun
Bear in mind that the finance bill has yet to be published. We may hope that the NCD and starting rate are merely going to be repealed. However we can't yet rule out the possibility of transistion legislation that will prevent people from delaying dividend payments to avoid tax - particularly given this governments track record in the area.

NeilW

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