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PBR: Groups to get discretionary clearance under new CFC rules

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6th Dec 2006
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The Treasury announced as part of the pre-budget report that changes had been made to the tax rules governing controlled foreign companies (CFCs).

As the Treasury made clear, alterations to the CFC rules were made necessary by the September European Court of Justice Cadbury Schweppes ruling that the UK controlled foreign company rules breach EU legislation except where “wholly artificial arrangements” were concerned.

The EU's advocate-general decided that a parent company establishing a subsidiary in another member state to benefit from a more favourable tax regime does not, in itself, represent an abuse of the freedom of establishment, a view which HMRC contested.

To accommodate the new ruling, draft clauses changing the CFC rules will be included in the Finance Bill, but will be effective from 6 December 2006. The changes will relax the CFC rules by enabling companies to apply to HMRC to disregard the profits that arise from genuine business activities in other EU member states and "certain other" states in the European Economic Area.

A new right of appeal has been introduced should a company wish to challenge a refusal under the new rules. There will also be a new definition of "effectively managed" which will require companies to have sufficient numbers of people working in the foreign territory and the individuals will need to have appropraite competence and authority to undertake the company’s business.

The "public quotation" exemption will be repealed to close off an avoidance scheme which exploited this exemption.

"These European decisions are highlighting the restrictiveness of our legislation. The concern is that by trying to stop people saving tax within the letter of the law, the Treasury is even more likely to fall foul of European legislation," commented Chiltern senior tax consultant Paul Howard.

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