Avoiding 50% tax: Cheap loans and EBTs

Will cheap loans save you tax? Nichola Ross Martin explores the whys and wherefores of HMRC’s latest business briefing on close company EBTs.

With a 50% ‘super tax’ fast approaching, the idea of taking cheap company loans instead of cash remuneration is looking increasingly attractive for many higher paid directors and employees. However, you cannot take a long term loan from your company without the company incurring a tax charge under section 419 of the 1988 Income Tax Act (ICTA 1988).

Continued...

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Comments

Hmm

taxtrust | | Permalink

Whilst I certainly agree the Revenue have a none too brilliant case, I think you may have got the wrong end of the Revenue's stick. The Revenue's argument, which has been knocking about ever since Dextra, is based on the contributions leaving the close company (in law and in fact, and ignoring the accounting nonsense) and not the circumstances in which those monies might then be lent onwards by the trustees.

bookmarklee's picture

My recollection is that this issue has long been addressed by Co

bookmarklee | | Permalink

I well recall seeing Counsel's opinions in 2001 and 2002 (pre and post Dextra) in which the question of a prospective IHT charge was addressed. Whether an explicit statement by HMRC will change things I don't know.

What it does do is re-emphasise that HMRC do not like EBTs (especially those promoted as a tax avoidance scheme) and that clients are even more likely now to suffer a degree of HMRC attention that they may find uncomfortable over a protracted period, pending a final decision by the courts in a few years time. No doubt someone will still be prepared to take on HMRC and there will be a test case and/or legislative change to put the position beyond doubt.

Over the last couple of years the promotion of EBTs has slowly gathered pace again. I remain of the view however that they are complex and risky. As such I don't think it's necessary for general practitioner accountants to spend the time to learn enough about such schemes and, where appropriate, advocate such schemes to their clients.

Professionally qualified accountants are obliged to comply with the five fundamental ethical principles. These include integrity, competence and objectivity. None of us should ever advise clients to undertake complex transactions that we don't understand. Experience suggests that only around one in ten of clients eventually proceed with these sort of schemes once they have been fully briefed and understand the risks, caveats and downsides.

On balance therefore it cannot be worthwhile or necessary for an accountant to devote the time to find out enough to be able to satisfy the obligation of competence and to talk about such schemes to clients. And, as I have said elsewhere, in my view this means that an accountant cannot be successfully accused of negligence for failing to discuss such schemes. The standard of care to which they would be held is that of the reasonably competent accountant. And they have neither the experience, desire or knowledge to advise on such things.

Rant over.

Mark Lee
Tax Advice Network

Employee Benefit Trusts

Anonymous | | Permalink

I have read the previous commentator's comments with interest and some bewilderment. EBTs ("Employee Benefit Trusts") are some of the most straightforward tax mitigation strategies available and provide companies and their employees with additional commercial benefits during uncertain times (including the potential to incentivise their employees through the creation of a ring-fenced fund which can be readily seen as available to pay bonuses and other incentivising "employee benefits" separate from the company's ssets. That fund can even extend to amounts available for the payment of redundancy costs in the event of retrenchment during adverse economic circumstances.

That s.94 of IHTA 1988 exists as a deterrent to close companies taking advantage of such arrangements if their hard-working director-shareholders are "capable" of benefitting from the monies set aside (whether they do or not) is a clear example of penalising the family businesses which are the life blood of the UK economy in favour of big business, which has no such deterrent. The penalty is the imputed lifetime charge to Inheritance Tax on individual participators in close companies which make contributions to such EBTs.

Incredibly, those participators may in fact have no power to prevent their nil rate IHT bands being used in consequence of the company in which they participate paying a contribution to an EBT that they will never see anything from. Surely the most unfair situation that the law has permitted in entertaining HMRC's increasingly elaborate attempts to make everyone pay as much tax as they can.. by fair means or foul and in life as well as after death.. By playing on the relative lack of sophistication and resources of smaller businesses to counter such disproportionate measures without employing expert advisors, a deterrent effect is achieved.

Even more concerning is the veiled and arcane threat implied in Revenue Brief 49/09 concerning loans made from participator-excluded EBTs, a particular form of EBTs which are perfectly legal and offer enhanced opportunities to avoid the punitive and unfair restrictions of s.94 in certain cases. This is another example of HMRC attempting to send sufficient hares running to scare off accountants and their clients, put an even damper cloth on their hard-earned August holidays, and set a negative, confused mindset in place ready for their return to a desk full of compliance work, when they will be much more interested in getting their core business back on track than trying to understand Brief 49/09. Anyone smell a carefully timed release by any chance in line with the marketing of fear and confusion by HMRC that has been the hallmark of recent years ?

Perhaps HMRC's hope is that the market will be dissuaded by confusion and doubt for long enough time to enable them to work out what they want to do (or can do) within the parameters of the law within which they are purporting to be operating.

I cannot agree with the rather sweeping and dismissive stance taken by the previous commentator who appears not to understand much about EBTs "in the round" and his comments appear narrowly focused on the small number of cases where legitimate tax mitigation is the only reason why such structures are attractive and valuable tools for both growing businesses and established ones facing difficult circumstances, rather than one of the many reasons (as in the majority of cases).

Perhaps if the previous commentator has witnessed clients being advised on the use and benefits of EBTs in a balanced way, the statistic of "1 in 10" proceeding with the strategies would be improved a little.. An alternative stance might otherwise be taken by a client faced with a more balanced briefing and experienced specialist advisor supporting them and their accountant at the point of appraisal and in a supportive role thereafter. I can recommend the previous commentator and his clients to one such advisor if they would like a second opinion.

There are plenty of defended and insured EBT arrangements out there in respect of which returns have already been filed to provide a pool for test cases to be run through the Tribunals and the Courts, and so I doubt any new cases have too much to fear in terms of being the ones singled out for this. Time will tell - as always.

Clients and their advisors have choices and there are skilled advisors only too willing to help both not to be short-changed in way way that is both cost-effective and cash positive for all...

and everyone is entitled to a view.

bookmarklee's picture

Indeed everyone is entitled to their own view

bookmarklee | | Permalink

I note that anonymous chooses to share their views without revealing their name.

I think it's fair to assume that we're each commenting from different extremes.

Some readers of this thread will know of my background and experience. I'll avoid boring them. A full profile appears here for anyone interested.

A few years back I was regularly approached by different advisers whose clients were being pitched tax avoidance schemes (including those involving EBTs). Frequently the promoters had attempted to demean the accountant as not having the expertise or experience to understand the scheme. Often that was true. Which was why they had approached an independent 'expert' to ensure that their client was not being sold a pup.

In all the years that I spent reviewing schemes I cannot recall a single occasion when the promoter had (unprompted) spelled out the risks, caveats and downsides in an objective "balanced" manner. Why would they? They have a product to sell. It's like selling an investment - except that there are restrictions as to who can promote investments and as to the information that must be disclosed in the promotional material.

Given this background I shall ignore the tired old suggestion that, as a critic, I must be incapable of understanding these schemes.

Instead I'll try to limit myself to responding to just a few of the anonymous comments:
"EBTs ("Employee Benefit Trusts") are some of the most straightforward tax mitigation strategies available"
Hmm. Yes, there are more complex strategies . Given the hoops that EBTs force the company and the owner/directors to jump through in order to get money from the company into the directors' hands they are FAR from straightforward.

"Surely the most unfair situation that the law has permitted"
But 'surely' this allegedly unfair situation only arises in the context of EBTs when the director shareholder is attempting to subvert the more general tax rules that apply to everyone else.

"By playing on the relative lack of sophistication and resources of smaller businesses to counter such disproportionate measures without employing expert advisors, a deterrent effect is achieved."
And some of the promoters are "playing on the relative lack of sophistication and resources of smaller businesses" when pushing their schemes and discouraging reference to independent objective tax advisers; and in suggesting that those who disagree with the promoter's view are confused, unskilled, or incapable of forming a 'balanced' view. Pots and kettles spring to mind.

"..the small number of cases where legitimate tax mitigation is the only reason why such structures are attractive....rather than one of the many reasons (as in the majority of cases)."
Of course things are different now. I recall things changing after the DOTAS rules came into play - by the way I represented ICAEW in discussions with HMRC at the time of their introduction in 2004. Other changes have been occasioned by case law. So let's assume that EBTs are now rarely (not usually) promoted principally for their non-tax advantages. If that were really the case I wonder why the promoters have to go through so many hoops in an effort to try to ensure that the tax advantages are achieved. I don't buy the implicit suggestion that were it not for the tax issues these structures would still be widely promoted and adopted for non-tax reasons.

"Perhaps if the previous commentator has witnessed clients being advised on the use and benefits of EBTs in a balanced way, the statistic of "1 in 10" proceeding with the strategies would be improved a little"
Perhaps if anonymous witnessed more balanced promotions his/her view would also change.....

Mark

Nichola Ross Martin's picture

Now now, boys

Nichola Ross Martin | | Permalink

Aside from the comment of the first contributor, which I was going to ignore on grounds of general rudeness. I would now like to merely ask, "Did you get out of bed on the wrong side of bed that morning mate?"

I think that the other argument is not worth having. The government has made express provision for EBTS, and so they should not be regarded as tax evasion. In any case, the tax (on loans) is not avoided, it is merely deferred.

Thanks Nicola

Anonymous | | Permalink

Thanks for the moderation Nicola.

I am happy to answer the previous commentator's specific comments if there's anyone else out there interested in a response enough to post a comment asking me to do the same. Instead, would like to focus more positively on the wider issues raised by Mark's clearly heartfelt response.

EBTs are indeed a perfectly reasonable and legitimate form of recognised arrangement for incentivising and rewarding employees with particular tax aspects to consider - though these are no more complex in fairness than many Revenue-approved share ownership plans adopted by companies both small and large. What differs is that the need for a Trust Deed brings a need for a lawyer into play and thus the accountant is positioned "out on a limb" from creation of same.

EBTs are widely used, by big business and smaller ones, but smaller accountancy practices will struggle (understandably) to stay on top of all aspects of the consequences of their use as this is quite a specialised area (although by no means excessively complicated from a taxation perspective, in a relative sense taking UK taxation statutes and related legislation as a whole) that will not affect all their clients.

They most likely have other equally important things to focus on, such as helping clients grow their businesses, manage cash flows and so forth. That is precisely why working relationships between suitable tax specialists and accountants is so beneficial, both to the accountant (added resource) and their clients (access to wider opportunities).

Taking / implementing decisions over Trust monies is one of the things that Trustees (not accountants) are responsible for. Once money is in an EBT, if the Trustees are independent, then the operation of the EBT can take place separately from that of the company which contributed to it.

The Trustees will of course be in touch with the company as transactions will take place between the two. The taxation consequences of various decisions of the Trustees (where the company is affected) then fall to be managed by the company's accountant and so it is important to have a specialist advisor for the EBT who will assist the company's accountants with this if they require that help. A fresh perspective on how such relationships can (and do in practice) work is elaborated a little more completely below.

It does appear that the previuos commentator has a long history with "EBTs of yore" and the lengthy litigation which followed. Times have moved on since then, as has the market for specialist tax advisory services and some of the people working in it.

What went on in the last round of EBTs (where Financial Services/Banking industry was heavily involved in selling strategies and promoters often simply "walked away" rather than defend enquiries raised...) really has no bearing on the here and now and it's fair to say that the professional specialist tax advisory market has had more than its fair share of stones thrown at it by professional colleagues, HMRC and the Media alike. Guilty by association as it is often termed. There are, indeed, many unscrupulous tax planning promoters in the industry who have not prioritised building relationships with clients and accountants as part of their business models. Many of those are no longer around.

There is also a breed of extremely client-focused professional advisors, who do not shout their wares publically in forums with a view to self-promotion, and who only work with clients who have been referred to them by accountants with whom they have built up a trusted relationship. They offer free in-house support to their professional partners in relation to products and wider tax issues, just as an accountant helping a small practitioner group might, and with complete respect for the fact that their professional colleagues have core skills in compliance whereas their core skills are in specialist advisory. Believe it or not, some such advisors were once small practitioners themselves.

Those accountants often refer their fellow accountants to the specialist advisors to build relationships with them as partners, with no promotional activity on the part of the specialist tax partner at all. But promotion of a valuable service to potential new professional partners is not in itself a sign of weakness for a tax advisor - they all have to make a living too. If the accountants they approach slam the door in their faces and stigmatise them as salesmen (as many do with CFPs in the Financial Services sector, when many of those are very professional indeed) is it any wonder they are pushed out into more assertive promotion activities, or retreat to their trusted network of discreet and highly successful middle-sized accountancy firms for business introductions ?

Far from belittling accountants with whom they are doing mutual business, the better specialist tax advisor will take the lead from them in terms of profiling potentially suitable cases (most accountant Partners know their clients very well !), meet together with the accountant and let the client and the accountant decide between them whether they are comfortable with proposals and post-transaction support on offer. If not (for whatever reason) there is, simply, no sale.

Naturally such firms will not prioritise working with accountants (or clients serviced by them) who have been led to think in a particularly negative way by individuals with influence - e.g. spokespersons in some networks run like Financial Services networks, or who are so prejudiced as to not be commercially viable as potential partners. In those accountants and their clients both lose out.

Reading everything said on this thread, it is simply time that someone spoke up for the discreet and supportive specialist tax advisors, who do offer all manner of EBTs, to let accountants who are willing to keep an open mind know that there is "another way", and that there are many happy accountants taking advantage of it.

There's only so much "credible resource" to go round in the marketplace right now and thus if you haven't been referred to a decent firm by a colleague, there's just a chance they are happy keeping their relationships to themselves .. they're on to just too good a thing to shout it from the rooftops !!!

Discretion is key and a cornerstone of professionalism ...

bookmarklee's picture

Perfectly reasonable

bookmarklee | | Permalink

My thanks to our (still) anonymous contributor who seems to be more reasonable and professional in his approach than many others; though the fact that he/she chooses to remain anonymous undermines that cloak of professionalism in my eyes (and perhaps others' too).

Everything in the above post 'seems' so reasonable and yet we know that HMRC have every intention of frustrating the aims of those who engage in the use of EBTs to avoid tax in the way set out in Nichola's initial article. I know I'm not alone in finding it hard to reconcile HMRC's approach with our anonymous contributor's suggestion that the planning technique is "perfectly reasonable" and with Nichola's comment above that "The government has made express provision for EBTs."

One of the elements of EBTs that the client has to understand is that the company will relinquish control over its money and must allow independent trustees to allocate funds as they choose - whilst having regard to the company's general intentions - without being bound by these. As is noted above: "Once money is in an EBT, if the Trustees are independent, then the operation of the EBT can take place separately from that of the company which contributed to it." Nudge, Nudge, Wink, Wink - Of course someone has to persuade the owner of the company that he/she will no longer have control of their funds, that the trustees would never do anything unexpected; and that they should generally do pretty much as the owner of the company suggests. After all if there was a serious prospect of them doing otherwise who would ever transfer large amounts of company money into such trusts. Hence our anonymous contributor's use of the word "if" in his statement "if the Trustees are independent". And yet, if they're not then the scheme is close to fraudulent.

But I digress. My initial comments were intended to support my view that "I don't think it's necessary for general practitioner accountants to spend the time to learn enough about such schemes and, where appropriate, advocate such schemes to their clients."

And therefore I am happy to agree with our anonymous contributor - If no one else is interested in this debate we might as well stop. I don't imagine either of us will be changing our views any time soon.

Mark

bookmarklee's picture

HMRC Spotlight 5

bookmarklee | | Permalink

In case any one was still in any doubt I've copied the text below from HMRC website. This seems to confirm the rationale for my preferred approach. Mark

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

Spotlight 5: Using trusts and similar entities to reward employees - PAYE (Pay As You Earn) and National Insurance contributions (NICs), Corporation Tax and Inheritance Tax We're aware that companies have been seeking to reward employees without operating PAYE/NICs by making payments through trusts and other intermediaries that favour the employees or their families. The arrangements usually seek to secure a Corporation Tax deduction, as if the amounts were earnings at the time they are allocated, and also defer PAYE/NICs or avoid them altogether. Our view is that at the time the funds are allocated to the employee or his/her beneficiaries, those funds become earnings on which PAYE and NICs are due and should be accounted for by the employer. In addition our view is that an Inheritance Tax charge may arise on the participators of a close company. Unless the participators are excluded beneficiaries and have not had funds applied for their benefit, such as the receipt of a loan, a charge to Inheritance Tax arises on participators of close companies at the time the funds are paid to the trustee by the close company. Relief is only available to the extent that a deduction is allowable to the company for the year in which the contribution is made. Later payments of earnings out of the trust that may trigger a deduction to the company would not qualify for relief. Participators affected by this may need to self-assess a liability to Inheritance Tax. There is further technical advice on Inheritance Tax on Contributions to Employee Benefit Trusts on the HMRC Internet site. We are actively challenging examples of such arrangements and considering legislative options to end further usage of these schemes.

Discussion useful

gbuckell | | Permalink

I found the comments by both parties interesting. As a tax specialist (but not in EBTs) I have had some involvement with such schemes for many years. I admit to leaning towards Mark's viewpoint. I have never been totally comfortable with the schemes. Trying to give a client a balanced view on the pros and cons is not an easy task. Clients will often say what would I do in their circumstances. I find this almost impossible to answer not least because I am not in their circumstances but my lack of whole hearted enthusiasm does not help. What happens in the long term with these schemes has never been wholly clear to me. I can see the short term benefits but if, for example, a client is paying a benefical loan charge year after year in addition to paying trustee fees, the initial benefits are steadily eroded.

As a result, I have yet to have a client enter into such a scheme following discussion with me. The numbers I have discussed it with are probably insufficient to add statistical weight to Mark's 1 in 10 but I suspect his figure is about right.

The latest HMRC announcements only further muddy the waters. For small firms virtually every corporate client will be a close company. The IHT issue has been another uncertainty with these schemes for many years.

Graham Buckell

EBTs

Anonymous | | Permalink

The company has 2 choices with these schemes; either the trust pays all the company contributions as an emolument, so PAYE/NIC would be due OR the company contributions have been paid out, but as a loan or retained in the trust and not paid out at all, in which case details should be passed to CT in order to disallow the company deduction. Where the payment out of the EBT is an emolument, the PAYE/NIC totals about 52%, where the payment is not an emolument, tax due can be as high as 30% CT and 20% IHT – so either way HMRC are in a win/win situation.

EBTs and other forms of same

Anonymous | | Permalink

To add some value to the comments :

Spotlight 5 aspects directed at PAYE/NICs have no relevance in circumstances where no CT deduction is claimed by the company for the relevant contributions. Quality advice does not suggest that regular EBTs be used in conjunction with an attempt to obtain a CT deduction whilst not incurring PAYE/NICs on the basis of the reasons stated in the Spotlight. In circumstances where participators are to be given loans from the EBT and total contributions are likely to exceed the participators' nil rate bands apportioned to the participators as a group, it is usual for the participators to be excluded from benefit from the underlying Trust assets and no CT deduction sought.

HMRC rarther disingenuously contend that the making of a loan (on terms unspecified [implication being any terms - even for example arm's length commercial terms] is de facto an application of the trust funds for the benefit of a participator and thus the Trustees making such loans are not only in breach of Trust but the original contributions to the EBT in excess of the participators' nil rate bands as a group, pro-rata, attract IHT at 20%. It is difficult to imagine circumstances where a participator borrowing from a participator-excluded EBT on full commercial terms as he might otherwise obtain from a Bank might conceivably be deemed to represent the application of Trust funds for the benefit of the participator and thus HMRC's conclusions stated in Spotlight 5 appear misguided.  

Where a CT deduction is claimed, the relevant Spotlight is Spotlight 6, which pertains to better-advised strategies seeking CT deductions. There is no mention of PAYE/NICs here and HMRC accept these are not in question. Their conclusions as to the correct interpretation of the law in such context are in direct conflict with the conclusions reached by leading Counsel and therefore this matter will simply need to be fought out in the Tribunals and the Courts. In any event in such circumstances if the CT deduction is lost there is a defence to an IHT charge assessment by HMRC that is in many cases (for credibly constructed arrangements) strong and underpinned by case law.

 

 

Cowed into submission

Anonymous | | Permalink

Mark, Irrespective of your past knowledge and experience of EBTS, since you are no longer a practitioner it is irritating to many of us who remain in the profession that you should think and publish that EBTS and other structured tax avoidance schemes are only promoted by the naive or that all promoters alike do not or indeed cannot make a balanced case to their clients. Your postings, especially in the area of tax avoidance are increasingly arrogant and leave the impression that you have been cowed into submission by the Revenue!

And for you to have a pop at Nicola for saying that the government has made expression provision for EBTs, and so they should not be regarded as tax evasion, is disrespectful. If you do not agree with Nicola, by all means point out why you think she is wrong, but a general comment like "I am finding it hard to reconcile HMRCs approach" is lame to say the least! There are many things that the Revenue do not like, but their interpretation of the law is not necessarily correct and the counter view is not illegal until the Courts decide! Richard Murphy may see them as an artifice, and you may agree with him, but until outlawed they should remain a legitimate commercial and tax planning tool.

bookmarklee's picture

Anonymous - I think it's you who is being arrogant

bookmarklee | | Permalink

I'm not sure whether one or more 'anonymous' people are posting on this thread.  We shall all have to draw our own conclusions as to why he/she/they are not prepared to comment publicly....

I find it hard to read anything other than a simple disagreement into the tone of my posts above. If the fact that I'm prepared to take a contrary view and reveal my background and name in so doing makes me appear arrogant than I am sorry.  Equally I disagree with the accusation of being disrespectful to Nichola and apologise if she had taken offence.

I am saddened by the inaccurate misrepresentation of my views in the statement above. I have neither said nor written that: "EBTS and other structured tax avoidance schemes are only promoted by the naive or that all promoters alike do not or indeed cannot make a balanced case to their clients". I do hope that the anonymous contributor who has accused me of this is more accurate in his statements to clients about the risks of EBTs and other structured tax avoidance schemes.

What I object to is the way that some promoters insinuate that accountants who prefer NOT to advocate such schemes are incompetent, naive or at risk of successful negliegence claims when in fact they are simply more cautious and at no risk in this context.

It is the arrogance of such promoters that I find insulting to the much wider population of accountants and tax advisers who prefer NOT to persuade their clients to get involved in structured avoidance schemes.

Mark

ps: I doubt anyone else is still accessing this thread and so will not be replying to any further anonymous comments.

 

Naive promoters of tax avoidance schemes

Anonymous | | Permalink

Check out Mark's article elsewhere:

Naive promoters of tax avoidance schemes

And as for EBTs being contrived and the Revenue not recognising them as legitimate planning device, why do they have such detailed rules about how to deal with deductions etc. in the Revenue Manuals? Check out for instance:

Specific deductions- Employee Benefit Trusts

One can only surmise from Mark's campaign against tax avoidance that it is only legitimate so long as one uses advisers supplied by The Tax Advice Network! :-)

 

 

bookmarklee's picture

Anonymous shows his/her true coulours

bookmarklee | | Permalink

Stil unclear if this is the same person afraid to reveal their name or a succession of different people. I'm going to assume the former as yet again he/she draws conclusions and puts forward views that are biased and not based on the facts before them. It is exactly this appraoch to advice that worries me.

I have no campagin against tax avoidance. The article to which you draw attention makes clear that it is the naive promotion of structured schemes that I am suggeesting is best avoided. It is for this reason that I provide support to the smaller practitioners who are challenged by some promoters to either promote their schemes or risk negligence claims.THAT is biased and untrue advice - hence my reason for challenging it.

The Tax Advice Network provides tax support and does not advocate the use of schemes - as evidenced by the items on the TaxBuzz blog including the one to which you refer.

Mark

ps: If this is the same anonymous person as earlier on this thread I'm afraid that the inaccuracy of their posts implies a similarly inaccurate aproach to the provision of tax advice and thus confirms my fears about some promoters of structured schemes. If more than one anonymous posters is making the same mistake then I'm afraid they are making my case even stronger. 

Anyway - I doubt anyone else is reading or interested so will avoid further responses here (as I intended to do previously)