Loan schemes ruled ‘abusive’

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Andrew Robins explains why two recent GAAR rulings are important for users and promoters of loan schemes designed to be used by contractors and employees.

What is GAAR?

In July 2013, the government introduced a new ‘general anti-abuse rule’ (GAAR) to attack ‘abusive’ tax arrangements aiming to take advantage of loopholes in the tax law by, for example, inserting artificial steps into a commercial arrangement. The GAAR only applies to actions undertaken after its commencement.

Its application is overseen by an independent ‘GAAR Advisory Panel’ which can determine whether arrangements are abusive, in which case HMRC may impose penalties and issue accelerated payment notices (APN) to demand payment of the tax avoided by using the scheme.

GAAR opinions

The GAAR panel has published two rulings affecting arrangements concerning loans provided in place of salary, which were designed to get around the ‘disguised remuneration’ rules. In both cases, the taxpayer lost.

Neither decision was a surprise and the GAAR panel is expected to review other structures designed to stop disguised remuneration rules from applying in the near future. It is therefore worth understanding its approach to these arrangements.

Contractor loans

The first case concerned Mr N, who was employed by agency ABC to provide his services to E Ltd. ABC was paid £110,000 by E Ltd and paid N a salary of £8,000, plus a loan of £83,000. ABC subsequently transferred the loan to an employer-financed retirement benefit scheme (EFRBS – a form of pension scheme) of which N was the beneficiary and thus was entitled to received payments.

HMRC argued that the loan would in reality never be repaid and was really employment income. Alternatively, the whole cash payment of £91,000 was made as a result of N’s employment and was therefore liable to income tax and NIC.

N argued that the loan was fully repayable and, because the loan arrangements did not constitute remuneration under s62 ITEPA 2003 or meet the definition of relevant steps under the disguised remuneration rules, the loan capital fell outside any taxing provisions.

In its ruling, the GAAR panel ignored HMRC’s attempt to recharacterise the loan as earnings and treated it as real. However, the panel was not impressed by the argument put by N that the steps taken via ABC were a legitimate way to avoid what the GAAR guidance calls a ‘bear trap’ – a negative tax effect not intended by parliament that requires the taxpayer to take artificial steps to escape.

The panel decided that the arrangements were artificially designed to avoid the clear intention of parliament and concluded that a loan made directly to N by the EFRBS would have been taxed as earnings, so routing it through ABC, which then transferred it to the EFRBS, was just an artificial way to try to escape parliament’s intended outcome.

Employee loans

The second case concerned Mr B who was a director of A Ltd. He terminated his employment contract on 17 August 2014 and was instead employed by an agency, XYZ. He remained as a non-executive director of A Ltd. As with Mr N, A Ltd then paid XYZ, and XYZ paid Mr B a much-reduced salary and made monthly loans to him. XYZ later transferred its loans to an EFRBS for B’s benefit.

The arrangement aimed to avoid B being taxed on the funds loaned to him as employment income. HMRC’s arguments were the same as with Mr N in the first case. B did not put forward any defence of the transactions, which resulted in the GAAR panel assuming that they were entirely tax-driven. The panel nevertheless did not automatically rule in favour of HMRC but considered the arrangements overall.

The key findings of the panel were that A Ltd continued to enjoy the benefit of B’s services, and B continued to receive payments for those services. As a result of the new structure, B received more funds than he did under his previous direct employment.

This was a fairly straightforward case for the Panel to decide. In the absence of any evidence from B, and since the arrangements had very little commercial impact, the only realistic conclusion was that B undertook a series of artificial steps designed solely to reduce his tax liabilities when compared with the position had he continued to be employed by A Ltd throughout.

How the GAAR works

Both of these cases involved marketed tax avoidance schemes designed to defeat the effects of the disguised remuneration rules. In both cases, the GAAR Advisory Panel stood back from the taxpayer’s reliance on a narrow technical reading of the legislation and concentrated on the overall tax and economic effects.

Like it or not, this is exactly how the GAAR is intended to work, and these decisions demonstrate how difficult it is for avoidance schemes to succeed in keeping taxpayers out of the clutches of widely drawn anti-avoidance measures. The rulings provide a clear warning to taxpayers that it is no longer enough for tax planning to be effective based on the letter of the law: in order to work, it must also be consistent with the intention of parliament and not be intended to reduce tax charges artificially.

About Andrew Robins

Andrew Robins

Andrew Robins is a partner in RSM’s London private client tax team, advising on all areas of UK personal taxation. He specialises particularly in advising high net worth individuals, non-UK domiciled individuals, non-UK trusts, and members of corporate remuneration plans such as employee benefit trusts and international pension plans.

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23rd Nov 2018 12:18

What’s more interesting is that this further confirms that the GAAR panel (all having full time jobs elsewhere, so with limited time to make such pronouncements) is in practice only there to clamp down on mass-marketed tax avoidance schemes and not "bespoke" tax avoidance planning (unless perhaps it’s very high value bespoke planning), thus the GAAR has no practical application for most tax professionals and their clients.

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to Justin Bryant
24th Nov 2018 16:11

FYI: Martin Benson, the GAAR panel's specialist employment taxes member, retired from practice about two years ago. And he and I looked at these schemes together several times before we both retired. You might like to rethink your assertion about what this decision "confirms".

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to David Heaton
26th Nov 2018 10:10

Point taken David and what I obviously mean is that the GAAR panel cannot possibly police the 100s of bespoke tax planning solutions advised on and implemented each day in the UK. I would be truly amazed if there was ever a GAAR panel pronouncement on any such instance of bespoke tax planning (as even if there were enough hours in the day for them to do that, HMRC and the GAAR panel will always have much bigger fish to fry).

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By xyz123
to Justin Bryant
25th Nov 2018 21:15

Of course it will have no practical application for most tax professionals. Doing normal tax planning and compliance is so, so, so far from GAAR.

But what about the changes to the Budget changes to the definition of a personal company for entrepreneurs' relief? People are already talking of ideas designed to side-step them. How many of them will be within the scope of the financial products hallmark? How many will not work when you look at the shares' rights purposively? How many will be within GAAR?

Will the GAAR panel ever look at them? Who knows. But these ideas won't be mass-marketed schemes.

HMRC also has a reason for getting the DR schemes through the GAAR panel. And its not just these two, there were "tripartite" one too. The GAAR panel gives HMRC a second, independent view of the DR legislation. Yes, it would be nice to get the Supreme Court to give a view as quickly as the GAAR panel can. But that's not going to happen in a month of Sundays. It also gives HMRC an in with the dodgy promoters (GAAR and POTAS fit nicely together).

I've just looked at who is on the GAAR panel and am surprised about how many of them I know well (all of whom have retired).

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to xyz123
04th Dec 2018 15:37

As it goes, for a while there have been comments in the DOTAS guidance about shares with special rights aimed at securing ER unduly.

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26th Nov 2018 10:59

So, we have the Supreme Court who say that loans are within section 62 and should be treated as remuneration and should be taxed under PAYE rules.
We have HMRC claiming that the loans are remuneration but are taxable on the individuals.
Now we have the GAAR panel saying that (bizarrely), they are loans but are taxable as remuneration anyway.

Confused?

You should be.

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to G Webber CTA
26th Nov 2018 12:14

It will be interesting to see the fourth option when the Tax Simplification mob join in.

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27th Nov 2018 09:25

Extract above
'The GAAR panel has published two rulings affecting arrangements concerning loans provided in place of salary'

Okay they gave it a go, but did they really think they were going to fool anyone, who are these people that dream up such transparent nonsense.

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