An article by Mark McLaughlin
[Note – this article is based on legislation in the Finance Bill 2013, which is subject to amendment.]
The provisions imposing a 25% charge on close companies in respect of loans to participators (CTA 2010, Pt 10, ch 3) is well known to most tax advisers. The charge under CTA 2010, s 455 (commonly referred to as the ‘section 455 charge’) comes as something of a surprise to some company owners, whereas others have sought to avoid the charge using certain planning arrangements.
For some time, HM Revenue and Customs (HMRC) guidance has indicated some concern about arrangements to avoid the s 455 charge. Subsequently (and without notice or consultation it seems), the government and HMRC announced at Budget 2013 that measures would be introduced to close perceived “loopholes” in the loans to participator rules and prevent avoidance of the tax charge. In addition, in its technical note of 20 March 2013 (‘Close company loans to participators (loophole closures)’), HMRC stated the government’s intention to undertake a “wider review of the loans to participators regime”. A consultation paper on the subject will be published, but is still awaited at the time of writing.
The three types of arrangements which the government has sought to block are broadly as follows:
• Loans or advances via certain types of intermediary;
• Extractions of value to participators (directly or indirectly) other than as loans or advances of money;
• ‘Bed and breakfasting’, i.e. broadly arrangements in which a loan to a participator is repaid to the company before a s 455 charge arises, followed by the company making a new loan to the participator shortly afterwards.
Legislation to block these arrangements was subsequently published in Finance Bill 2013.
Loans via Intermediaries
HMRC guidance published before the above changes indicated that there were “doubts” about the application of ICTA 1988, s 419 (now CTA 2010, s 455) to loans to a partnership whose members include the company itself. Indeed, the guidance states (at CTM1515): “You should not contend that such loans are within the charge to [s 455] if there is a genuine partnership and you are satisfied with the bona fides of the arrangements”.
HMRC now state that they have “put beyond doubt” that loans to certain intermediaries are within the s 455 charge. This has been achieved simply by extending its scope, so that it applies if a close company makes a loan or advance to the following:
• Settlement trustees - if a trustee or beneficiary (actual or potential) is a participator (or associate) in the company; or
• A partnership (including a limited liability partnership (LLP)) - if a partner is a participator (or associate) in the company.
However, the above change only applies to loans or advances made on or after 20 March 2013. The fact that it has been necessary to introduce legislation to this effect means that some taxpayers may be encouraged to resist any HMRC challenge that a s 455 charge applies in such circumstances. It should also be remembered that there are certain (albeit limited) exceptions to the s 455 charge (in s 456), such as loans made in the ordinary course of a money lending business.
Extractions of value by participators
A new tax charge of 25% has been introduced to deal with perceived avoidance in this area. The type of arrangement envisaged by HMRC involves an intermediary.
The example given by HMRC is where an individual participator (M) and the close company (CC Ltd) form a partnership. The partnership agreement allocates the profits to CC Ltd. HMRC points out that some have previously argued that if CC Ltd leaves the profits undrawn in its capital account with the partnership, or if CC Ltd draws the profits but then pays them back to the partnership as a capital contribution, M could draw on those capital amounts without CC Ltd being subject to a s 455 charge.
The new tax charge (under s 464A) applies if there is a “tax avoidance arrangement” (i.e. broadly to avoid or reduce, or obtain relief from, a s 455 charge), and that arrangement results in a benefit being conferred (directly or indirectly) on an individual participator or associate. However, there is an exception from the 25% tax charge in s 464A if the benefit gives rise to a s 455 charge on the company, or if an income tax charge arises on the participator or associate.
Relief from a s 464A charge is claimable (under new s 464B) if a “return payment” is made to the company in respect of the benefit, for which no consideration is given. The relief must be claimed within 4 years from the end of the financial year in which the return payment is made. The new charge and relief both apply where the close company becomes a party to the arrangement on or after 20 March 2013.
Whilst this charge potentially affects (among other structures) partnerships comprising individuals and corporate partners, its scope is at least limited to tax avoidance arrangements. However, this is an “only or main purpose” test, and it may therefore be necessary for the close company to prove that there was no such avoidance motive.
'Bed and breakfasting'
HMRC has also apparently been concerned for some time that the provisions allowing relief from the s 455 charge on the repayment of a loan (in s 458) were being exploited using a practice known as 'bed and breakfasting'.
For example, the participator might repay a loan either before the end of the accounting period or within the following nine months, so that the s 455 charge is not due. The participator then withdraws a similar (or greater) amount from the company shortly thereafter. This practice was highlighted in HMRC's Enquiry Manual (at EM8565) even before the anti-avoidance provisions, and also in the Company Taxation Manual (at CTM61615). At the time of writing, the latter guidance states:
"You may find that a participator's indebtedness to the company is shown as reduced or eliminated immediately before the accounting date, or before the due date for payment of the [s 455] tax, only to be followed by a fresh loan or advance of the same or of a similar amount soon afterwards."
"The temporary reduction in indebtedness is often brought about by the participator borrowing funds on a short-term basis from a third party such as a bank. But it may come from a transfer of assets to the company, or a transfer from another account with the company. You may come across other schemes for ‘bed and breakfasting’ the debt."
A new s 464C denies (or withdraws) relief from a s 455 charge (which is given under s 458(2)), and also from the new charge under s 464A above (under s 464B(2)), broadly in two circumstances:
• A '30 day rule' - Where repayment(s) of £5,000 or more are made to the close company in respect of loans, advances, or benefits which have given rise to a charge (under s 455 or 464A), and further loans, advances or conferred benefits amounting to £5,000 or more are subsequently paid within a 30 day period.
• Amounts of £15,000 or more - Where loans, advances or benefits from the close company are outstanding amounting to at least £15,000, and at the time of a repayment there are arrangements, or there is an intention, for a subsequent loan, advance or benefit, and at any time after the repayment such a return payment is made. Note that this relief restriction is not subject to a 30 day time limit.
The effect of s 464C is that relief is denied (or withdrawn, if it has already been given) for an amount equal to the lower of the amount repaid to the company, and the amounts redrawn (in the first bullet point above) or the new amount withdrawn (in the second bullet point).
However, the above treatment does not apply in either of the above circumstances if the repayment gives rise to an income tax charge on the participator (or associate) in respect of the loan, advance or benefit. This exception is presumably intended to cover circumstances such as where a dividend has been paid to clear the amount outstanding to the company, and the participator is charged to income tax on the dividend).
The new provision applies to any repayments (for s 455 purposes) and return payments (for the purposes of new s 464A) made on or after 20 March 2013.
The HMRC technical note mentioned at the beginning of this article includes some illustrations of when the new anti-avoidance rules may apply (www.hmrc.gov.uk/budget2013/close-company-loans-loophole.pdf). The provisions are widely drawn. For example, the '30 day' test above does not require a tax avoidance motive, and therefore has the potential to catch 'innocent' loan repayments by participators unless, it seems, the repayment was of a kind (e.g. a bonus or dividend credited to the loan account) on which the participator (or associate) is liable to an income tax charge. Participators and their advisers will need to keep the anti-avoidance provisions in mind when dealing with close companies generally.
Mark McLaughlin CTA (Fellow) ATT TEP