Film schemes: The taxman strikes back
In the 1968 film The Producers a washed-up theatrical producer and his neurotic accountant deliberately try to put on a musical that will close as quickly as possible, writes Nick Huber.
They deliberately raise more money than they need for the production and because backers will not expect any money back from a flop, the producers hope to run with the surplus cash.
But their plans go awry when their musical, called 'Springtime for Hitler' (see above), written by an escaped Nazi, is a hit.
Fast forward four decades and real-life get-rich schemes in film are still making headlines.
Over the past few years HMRC has challenged and shut down various film tax schemes which it says have abused rules on tax relief for film partnerships or for fraudulently claimed film tax credits and VAT.
One high-profile film scheme, contested by HMRC, reportedly involved investors including Sir Alex Ferguson, Sven-Göran Eriksson and a host of sports stars and City figures.
The 289 investors in Eclipse 35, a film partnership ruled to be an “aggressive” tax avoidance scheme by a tax tribunal in April, could end up paying several times more than the total of £117m tax they sought to avoid as the Revenue examines the large bank loans they took on to participate in the scheme, the Financial Times reported in 2012.
In March, five men behind a £2.8m film tax scam were jailed for more than 22 years after an HMRC investigation found they fraudulently claimed film tax credits and VAT.
The gang claimed that their film, 'A Landscape of Lives', starred Hollywood A-list actors, but it was never intended for the big screen and was a sham production, HMRC said.
One tax expert says that film investment schemes can be expensive and risky.
Dave Horsley, a director at tax advisory firm Six Forward, which has advised clients on film tax matters, said: “At the aggressive end of the [film investment] market, some tax advisers are overlooking simpler, more appropriate, and effective reliefs such as capital allowances, research and development, and enterprise investment schemes as they [have the advantage of not attracting] the high adviser and QC fees of a [film investment] scheme.’’
The taxman strikes back
Tax avoidance schemes are usually promoted by small “boutique” tax firms which find a film and sell them to investors. Typically, most of the money investors pay comes from a “non recourse” loan, which doesn't have to be repaid, or if it does have to be repaid only from income generated from the film scheme.
The promoter of the scheme will take a minority of the money from investors. Most of the rest of the money is put on deposit in a bank to guarantee future interest and therefore returns for investors. The remainder is invested into the film.
Investors claim income tax relief on their money which in effect goes round in circles. For every £20 higher-rate taxpayers invest they can get £40 from the taxman. “It all works as a cash refund,” says Bill Dodwell, head of tax policy at Deloitte. “The investors don’t part with any money. They make a profit out of the middle of nowhere if the [film scheme] works.”
In the past few years, most film schemes have failed, tax experts say. HMRC has shut them down by going to court. Its main argument has been most of the money from investors has never been invested in a film. Instead it goes on a deposit in a bank to give investors a guaranteed return.
Many of the film investment schemes that have been challenged by HMRC would now be impossible, experts say, because they were designed before a tightening of film-relief rules. Tax relief for individual investors in films was withdrawn in 2008 and so-called “sideways” tax relief (allowing losses on investments to be offset against income), has been limited to £25,000 for most situations.
Avoidance schemes are one of the many examples of unintended consequences of changes to the tax system. In 2005 the Labour Government announced tax breaks for low- and large-budget British films.
Under the legislation, introduced in 2006, tax relief would fund 20% of production costs for British films with budgets up to £20m.
The government said that previous legislation on film tax relief was vulnerable to abuse. Under one loophole, called “double dipping”, producers could claim relief on both production costs and the sale and leaseback of the final film print.
To qualify for the new relief, a film had to meet three conditions: be made to be shown commercially in cinemas; pass a “cultural test” administered by the Department for Culture Media and Sport; and incur at least 25% of its total production expenditure on film-making activities in the UK.
The tax breaks for British films have been extended to 2015.
The scheme is widely viewed as a success, helping fund films in Britain including Harry Potter and the Deathly Hallows and Brighton Rock. Earlier in May, it was announced that filming of the next Star Wars movie will return to the UK – a decision partly attributed to tax breaks for film makers.
The scheme for film tax relief isn't the only help for film makers, however.
Accountant Farook Owadally used the enterprise incentive scheme (EIS) to help raise funds for film about Liverpool Football Club’s thrilling European Cup final victory in 2005 over AC Milan in Istanbul.
The financing for the film, One Night in Istanbul, involved Big Ears Entertainment, of which Owadally is one of the directors, in association with Stray Dog Films and nearly 30 other investors, including Liverpool FC players. The use of the enterprise incentive scheme (EIS) made it possible to bring in a wider number of investors, Owadally said he chose EIS because it enabled the investor to claim EIS tax relief of 30% on their investment.
Will there be a sequel to film avoidance schemes? Tax breaks for investment in deprived areas could be a contender, although HMRC is consulting on tightening rules for the business premises renovation allowance (BPRA) amid reports that some wealthy investors are exploiting it.
HMRC is also reviewing tax rules for limited liability partnerships, which means that accountants could have their self-employment status challenged.
These and other tax schemes may be caught by the new general anti-abuse rule (GAAR) enacted to counter tax avoidance. The legislation, which comes into effect in July, would differentiate between what counts as responsible tax planning and what is abusive tax avoidance.
This new law should save HMRC time and money because it won’t need to legislate against each individual tax avoidance scheme deemed to be aggressive.