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CLAUSE 83: DEDUCTION OF TAX: PAYMENTS BETWEEN COMPANIES

SUMMARY

1.         This clause lifts the withholding tax requirement on interest, royalties, annuities and other annual payments that are made between companies, where the recipient is within the charge to corporation tax as respects that income.  The new rules will apply to payments made on or after 1 April 2001.

DETAILS OF THE CLAUSE

2.         Subsection (1) provides for the insertion of new sections 349A - 349D ICTA 1988.   The new sections set out the exceptions which will apply to the withholding rules contained in section 349 ICTA.

New section 349A

3.         Subsection (1) sets out the basis for the new rules.  It provides that the withholding rules in s349 ICTA shall not apply to the types of payments specified in new s349A(3) ICTA, if the payments are made by a company and, at the time of the payment, the company reasonably believes that the recipient meets the required conditions. (The conditions are set out in new s349B.)

4.         Subsection (2) provides that the exceptions granted by subsection (1) are subject to any directions that may be made by virtue of new section 349C (see paragraph 10 below).

5.         Subsection (3) identifies the provisions of section 349 ICTA which will no longer apply if the conditions in this new section 349A ICTA are met. 

6.         Subsection (4) confirms that the new rules will not apply to certain payments that are treated as being within s349 (3) ICTA on the basis of other provisions in the Tax Acts.  (These are payments to which section 777(9) ICTA applies and manufactured payments which are treated as annual payments within s349 by virtue of paragraph 4(2) of Schedule 23A ICTA.)  The existing rules will therefore continue to apply to them.

7.         Subsection (5) makes clear that the payments to which the new rules apply are payments that are borne by a company. It is irrelevant whether any intermediary, for example a paying agent, is a company or not.

8.         Subsection (6) provides that, for the purposes of the new rules, a payment made by a partnership any member of which is a company is to be treated as a payment by a company.  This will enable the clause to apply if the other conditions are satisfied.

New section 349B

9.         New section 349B sets out the conditions relating to the recipient about which the paying company has to be satisfied if it is to pay gross.  The recipient must be beneficially entitled to the income in respect of which the payment is made and be either

• a UK resident company or a partnership each member of which is a UK resident company (s349B (1));  or
  
  
• a non-resident company that carries on a trade in the UK through a branch or agency, and that is chargeable to corporation tax as respects that income (s349B(2)).

The first category (at s349B (1)) includes charities that are constituted as UK resident companies, but not charities that are trusts.

New section 349C

10.       New section 349C (1) provides that the Board of Inland Revenue may give directions to override new section 349A in relation to specific cases and to specific payments.  Subsection (2) provides that any such directions can subsequently be amended or revoked; and subsection (3) confirms that the directions apply to partnerships which would otherwise

be able to pay gross under the new rules.  The ability to give directions provides a safeguard to ensure that the new rules are not abused.

New section 349D

11.       Subsection (1) sets out the recovery mechanism that will apply in case errors are made.  It provides that, if a company makes a payment without deducting tax because it believes the recipient meets the required conditions, but in fact the conditions relating to the recipient are not met, the Revenue is able to raise a charge for the tax that should have been deducted.  Subsection (2) confirms that this mechanism also applies where the payer is a partnership with a company member.

12.       Subsection (2) of clause 83 provides for penalties in the event of abuse of the new rules.  It inserts new subsection (4A), (4B) and (4C) into section 98 of the Taxes Management Act 1970, which deals with penalties for incorrect returns.    New section 98(4A) TMA specifies the amounts of penalties in the circumstances specified in new section 98(4B) TMA.  The penalties will apply where a company that makes a gross payment has either acted dishonestly (because it did not believe the requisite conditions about the recipient were met); or has acted on a belief that was manifestly unreasonable.  New section 98(4C) TMA confirms that these penalties apply equally to partnerships with company members that pay gross under the new rules.

13.       Subsection (3) ensures that, where a payment is made gross to a non-resident company satisfying the conditions in new section 349B(2), failure to deduct tax does not prevent the paying company from obtaining tax relief for the payment.

14.       Subsection (4) indicates that the new subsections (1) - (3) are to apply to payments made on or after 1 April 2001.

15.       Subsection (5) provides for the repeal of sections 247 and 248 ICTA 1988.  These sections allow gross payment of interest and other payments between companies within the same group.  As a consequence of the new rules in section 349A ICTA the special rules for groups of companies are no longer required.

16.       Subsection (6) provides that these repeals have effect in relation to payments made after the day on which Royal Assent is given.

BACKGROUND NOTE

17.       The new rules introduced in clause 83 are a deregulatory measure designed to simplify the tax system.  They build on the measures that were enacted in Finance Act 2000 to abolish withholding on international bond interest and  the proposals for reforming the taxation of intellectual property.   The new rules will help business by removing burdensome requirements to withhold tax.  In particular, they will help non-bank lenders by putting them in a similar competitive position to banks.  (Borrowers paying interest to banks which are within the charge to corporation tax on that income can already pay the interest without deduction of tax.)

18.       The inclusion of royalties, annuities and annual payments within the scope of the new rules means that the special provisions allowing gross payment on interest and other payments between group companies (at sections 247 and 248 ICTA) can be repealed.  (Further consequences of this are dealt with in clause 84.)  In addition, the exended scope makes it possible to repeal the complex rules concerning the provisional repayment of income tax for life assurance companies.  (This is dealt with in clause 85.)

19.       The new rules do not apply to payments to individuals or non-residents.  Non-residents are already entitled to receive income without deduction of tax, or under a reduced rate of deduction, if they have established their entitlement to relief under a double tax treaty by a  claim.

20.       To protect against abuse, the new rules also provide the Board with an override power.  This can be used against individual companies and ensures there is a safeguard against abuse of the new provisions.  This power is only expected to be used in rare cases of  abuse.

21.       The gross payment mechanism introduced under the new rules is intended to reflect the complexities of the financial markets. By authorising the paying company to act on what it reasonably believes, the system ensures that where there are long chains of payments, payers will be able to pay without deduction of tax by relying on instructions or assurances from an intermediary - even though they themselves are not in a position to know the ultimate beneficiary.

22.       The Revenue continues to have the right, however, to collect from the paying company any tax that should have been deducted if it turns out that the recipient was not in fact entitled to receive payments gross. 

This protects the position of the Exchequer.  Market operators will be able to insure themselves against the possibility of a tax liability by including the relevant safeguards or indemnities in their commercial contracts.

23.       The paying company will not suffer any penalties for mistakenly paying gross unless it acted unreasonably, though it will have to pay interest on the tax that should have been deducted.

24.       The Government is continuing to consult on the suggestion raised in the consultation on the new rules, which was whether, in cases where a collecting agent is involved in a chain of payments and it is necessary to seek the tax which should have been deducted, tax should be sought from the collecting agent (if resident in the UK) rather than from the payer.

25.       The Government is also consulting on whether, in addition to helping the market develop guidance on the sorts of evidence a payer might obtain in order to decide whether to pay without deducting tax, the Revenue should produce some additional guidance.  And views are being sought on the desirability of extending the system at some stage to allow payments to be made gross to UK bodies that are exempt from tax (for example, pension funds, charities constituted as trusts, and payments to ISA managers).