A Budget for Stability?

Chancellor Gordon Brown introduced his eigth Budget with a public statement of an intention to "lock in stability for a generation".

In possibly his most highly politicised speech to date, he outlined Government plans to increase spending in most key areas while avoiding tax cuts.

He was also keen to emphasise his concentration on fiscal discipline, particularly in the areas of unemployment, pensions and healthcare.

From a tax viewpoint, he introduced two measures that could have wide reaching effects.

First, he stepped back from introducing a General Anti-Avoidance Rule that is the bane of the lives of taxpayers in some other countries. As a compromise, in future, there will be a requirement for those introducing tax avoidance schemes to register them with the Inland Revenue. To date, there is no great detail and therefore it is necessary to fear the worst. The Inland Revenue may well find themselves inundated with minor schemes as those that specialise in this area attempt to filibuster and clog the system.

The second measure that had been widely flagged in advance of the Budget is the introduction of a minimum tax rate for smaller companies. The impact of this applies where those companies distribute profits, presumably by way of dividend. Now, they will face a minimum tax rate of 19% on those distributed profits. This has been introduced as a means of preventing small businesses from incorporating in order to take advantage of the £10,000 zero tax band.

The measure that may be welcomed by most, apart from those working for the civil service, is the Chancellor’s determination to cut administrative posts and what is in more common parlance, Red Tape.

The best example of this is in the proposed merger between the Inland Revenue and Customs and Excise. While it may take several years to completely fulfil, the Chancellor has committed to this measure and regretably, as a consequence, 10,500 tax men and women will be out of jobs.

As so often, the devil will be in the detail in some of the proposed measures and the full impact will not be known until the Finance Bill is enacted.

The overall impression is that this is a mildly positive, holding Budget that is preparing for the full pre-election onslaught next year.

Income Tax
Capital Gains Tax
Corporation & business tax
Indirect Taxes
Stamp Duty Land Tax
Miscellaneous

INCOME TAX ALLOWANCES AND RATES

For 2004/05, the 10% starting rate band has been extended to the first £2,020 of taxable income. The basic rate band covers income from £2,021 to £31,400.

The personal allowance for those aged under 65 has been increased to £4,745. The personal allowances for individuals aged between 65 and 74, and aged 75 and over have been increased to £6,830 and £6,950 respectively.

The married couples’ allowance, which is only available in the tax year 2004/05 where at least one spouse was aged 65 or over at 5 April 2000, has increased to £5,725. Where one of the spouses is aged 75 or over the allowance has been increased to £5,795. The relief is only available at 10%.

The rate applicable to the income of discretionary and accumulation trusts has increased from 34% to 40% and the corresponding trust dividend rate has increased from 25% to 32.5%.

Full details of allowance, rates and thresholds applicable in 2003/04 and 2004/05 are set out in Tables A and B.

Pension Scheme Earnings Cap

The present earnings limit of £99,000 for occupational or personal pension scheme contributions is to be increased for 2004/05 to £102,000.

Pensions Taxation

The much-heralded simplification of the tax regime that presently applies to pension savings has been introduced but the operative date has been put back to 6 April 2006. There are currently eight different tax regimes that govern different types of pension savings, each with its own complex rules. The simplification will replace these with a single regime having just two key controls:

• The lifetime allowance - being the amount of pension savings that can benefit from tax relief will be set at £1.5m on introduction; and
• The annual allowance - being the maximum amount of annual contributions that can attract tax relief will be set at £215,000.

Both the lifetime and annual allowances will have annual increments rising to £1.8m and £255,000 respectively by April 2010 and will be reviewed every five years.

Other key elements are:

• The present complex approval process for pension schemes will be replaced by a simplified regime merely requiring registration;
• A lifetime allowance tax charge of 25% on funds in excess of the lifetime allowance;
• The tax-free lump sum will be set at 25% of the fund up to a maximum of 25% of the lifetime allowance, with a tax charge of 55% if funds in excess of the lifetime allowance are taken as additional lump sums;
• Occupational pension schemes will be able to offer flexible retirement to members if they wish, enabling employees to continue to work for the same employer whilst drawing benefits;
• There will be one set of investment rules enabling all pension schemes to invest in all types of property, including residential property.

Simplified Self Assessment Tax Return

A shorter 4-page Tax Return will be sent to over 400,000 taxpayers in April 2004. The form will allow taxpayers to submit details of their income such as:

• straightforward investment income;
• modest rental income;
• employment income for non-directors;
• businesses with turnover below £15,000; and
• pensions income.

Anyone who receives the Simplified Return will have a responsibility to check that they are eligible. A full return will be required where their tax position has changed so that they fall outside the criteria.

Taxpayers will be encouraged to file by 30 September to allow time for the Inland Revenue to calculate their tax liability, though a 2-page simple tax calculation guide will also be provided.

Electronic filing will be available through the Inland Revenue’s website and the return is designed for use with automated data capture technology to aid efficient processing.

The new form will be rolled out nationally from April 2005, when 1.5 million taxpayers should receive the shorter return.

Trust Tax Rates

As announced in December’s Pre-Budget Report, the tax rate applicable to trusts is to increase from 34% to 40% and the corresponding trust dividend rate from 25% to 32.5% with effect from 6 April 2004.

These rates apply to the income of discretionary and accumulation trusts, the capital gains of all trusts and the estates of deceased persons in administration, together with certain amounts (e.g. gains from offshore funds) received by trusts generally.

People who receive income from trusts will still be able to reclaim any excess tax paid by the trustees on their behalf and those liable at higher rates will still get credit for tax paid by the trustees.

Trust Tax Modernisation

Following on from proposals in the Pre-Budget Report and a period of consultation, a number of changes have been announced to take effect from 6 April 2005.

There will be a basic rate band applying to the first £500 of income for all trusts liable at the rate applicable to trusts.

Those that receive all of their income up to the basic rate band either net of tax or with an associated tax credit will have no further tax to pay. The consequence is that around 30,000 of the smallest trusts will be taken out of the full Self Assessment system.

A set of common definitions and tests will be introduced for Income Tax and Capital Gains Tax and the Inland Revenue will be working with the main representative bodies to develop better guidance on the treatment of trust management expenses. A number of other issues are still under consideration but it is intended to publish draft legislation before the end of 2004.

Measures to protect trusts for "the vulnerable" (likely to be defined as the disabled and orphaned minor children) will be backdated to 6 April 2004. These trusts will be subject to a new tax regime, allowing them to be taxed on the basis of the vulnerable individual’s circumstances (and to benefit from personal allowances etc) for both Income Tax and Capital Gains Tax.

Close Companies and Married Couples

Distributions (usually dividends) from jointly owned shares in close companies will no longer be automatically split 50/50 between husband and wife. From 6 April 2004, they will be taxed according to the actual proportions of ownership and entitlement to income. This removes a tax avoidance opportunity utilising lower tax rate bands.

Close companies are, broadly, small companies controlled by five or fewer people or by directors.

Avoidance Using Life Insurance Policies

Changes apply to life insurance policies, capital redemption policies and life annuity contracts made on or after 3 March 2004 and, in certain circumstances, those already existing on that date.

In future, the amount of "deficiency relief" allowable against an individual’s income will be subject to an additional restriction in that it will be capped at the amount of gains which formed part of that same individual’s total income in an earlier year of assessment.

This measure was first announced on 3 March 2004 and will affect individuals who own such policies and contracts only where there has been a change of ownership and there have been earlier gains on the policy or contract.

Government Bonds Tax Avoidance

Individuals can avoid Income Tax using strips of government bonds by entering into arrangements usually involving options to manipulate either the cost or disposal proceeds of such bonds.

Changes mean that any loss arising on the actual or deemed disposal of a strip will be disallowed to the extent that the disposal proceeds are less than the original cost of acquisition. This change was announced in January 2004 and will apply to disposals on or after 15 January 2004.

Employer Supported Childcare

The Income Tax and National Insurance Contributions ("NIC") exemptions for employer provided childcare will widen from 6 April 2005. Employees will then be able to receive up to £50 per week of childcare or childcare vouchers provided by an employer free of both Income Tax and NIC.

Certain conditions will need to be fulfilled and the main ones are:

• childcare benefit is made available to all employees; and
• where vouchers are not provided, the employer must contract directly with the provider of the childcare; and
• the childcarer is registered/approved.

Pre-Owned Assets

From 6 April 2005, UK resident taxpayers will face an Income Tax charge where they continue to enjoy the use or benefit of assets that they formerly owned, or provided the funds to purchase.

The rules, which broadly follow the benefit-in-kind charge on employees, will quantify a cash value for the benefit. This will be added to their taxable income, subject to a set-off for amounts paid for the benefit and a de minimis threshold.

The charge will not apply where:

• The property in question ceased to be owned before 18 March 1986’
• The pre-owned property is currently owned by their spouse;
• Assets are still within the taxpayer’s estate for Inheritance Tax (IHT) purposes due to the ’Gift With Reservation’ rules;
• The asset was sold at an arm’s length price for cash;
• The transfer of the property from the taxpayer’s ownership was by virtue of a variation of a will or intestacy;
• Any enjoyment of the property by the taxpayer is merely incidental;
• The cash value of benefits in a year is less than the de minimis limit of £2,500;
• The benefit enjoyed in respect of intangible assets does not diminish the benefits potentially available to others.

The charge will apply to worldwide assets for taxpayers domiciled in the UK, but only to UK assets for other taxpayers.

Taxpayers who would be chargeable in respect of existing schemes can elect, by 31 January 2007, that the Income Tax charge will not apply. Then, the relevant property will be treated as part of their estate for IHT purposes.

It is also proposed that following consultation, the cash values to be taxed should be determined by reference to market rentals for land and by reference to imputed percentages of capital value for chattels and intangible assets.

Immediate Needs Annuities

Policies taken out to cover the immediate costs of long-term care are known as "immediate needs annuities". From 1 October 2004, payments received by individuals from these policies will be specifically exempt from tax. This exemption applies to both existing and new policies.

Under the current legislation there has been doubt as to whether the payments were exempt from tax. This change will clarify the situation.

From 1 October 2004, insurance companies’ taxable profits from writing such policies will be taxed in line with the normal rules that apply to Permanent Health Insurance businesses and not the special rules applying to life assurance businesses.

Lloyd’s Underwriters

Lloyd’s Names who convert to underwriting through a corporate member of Lloyd’s will, subject to certain conditions, now be able to carry forward Income Tax losses and defer capital gains. This applies to transfers of underwriting taking place on or after 6 April 2004.

Manufactured Dividends

New legislation is to be introduced to counter schemes that exploited the mismatch of tax and tax relief for manufactured dividends under a repo or stock lending arrangement. Legislation is also to be introduced to counter schemes that effectively convert capital into Income Tax losses through use of manufactured dividends. These new clauses which were heralded in the Pre-Budget Report last year, apply to individuals and trustees and take effect after 5 November 2003.

CAPITAL GAINS TAX

The annual exemption for 2004/05 will be increased to £8,200 for individuals and £4,100 for the majority of trusts.

For individuals, the amount chargeable to Capital Gains Tax is added to the income liable to Income Tax and treated as the top part of that total.

For 2004/05, capital gains will be taxed at 10% if below the starting rate limit for Income Tax, at 20% if within the basic rate limit and at 40% if above the basic rate limit.

CORPORATION & BUSINESS TAX

For the year to 31 March 2005, the main rate for Corporation Tax remains at 30% and the Small Companies’ Rate is 19%. The marginal rate is 32.75%.

The starting rate of Corporation Tax is nil for those companies whose profits fall below £10,000. A marginal rate of 23.75% applies to companies whose taxable profits fall between £10,000 and £50,000. These rates are subject to the new anti-avoidance provisions that provide a minimum rate of 19% on distributed profits for small, incorporated businesses.

The thresholds for Small Companies Rate and Full Rate remain at £300,000 and £1,500,000 respectively.

Research and Development ("R&D")Tax Credits

As announced in the Pre-Budget Report, it is proposed to simplify the definition of Research and Development for large companies with effect from 1 April 2004 and for small and medium-sized companies ("SMEs") when state aids approval has been received.

The Department of Trade and Industry ("DTI") issued guidelines in July 2000, which governed claims for R&D expenditure. In March 2004, new guidelines were issued by the DTI that should make the R&D definition easier to understand and use. These guidelines will apply to accounting periods ending on or after 1 April 2004 and may also be used to interpret the earlier guidelines.

Additionally, expenditure qualifying for R&D credits as been broadened to include expenditure on software, power, fuel and water. Consumable stores has also been redefined.

Enterprise Investment Schemes ("EIS") and Venture Capital Trust ("VCT") Changes
Relief for investors under both EIS and VCT Schemes has been subject to restrictions and conditions. To make it easier to invest and to attract greater investment, the Chancellor has introduced improved incentives and reduced the conditions.

However, one of the principal attractions for investments in VCTs, Capital Gains Tax deferral, has been removed with effect from 6 April 2004. It is not clear why this important relief has been withdrawn.

The changes are as follows:

VCTs

Income Tax relief will increase from 20% to 40% for shares issued by VCTs in 2004/05 and 2005/06.

Annual investment limits will increase from £100,000 to £200,000 from 6 April 2004.

Capital Gains Tax deferral will not be available for VCT shares issued on or after 6 April 2004.

EIS

Annual investment limits will increase from £150,000 to £200,000 from 6 April 2004.

For shares issued after 16 March 2004, the "same day rule" has been relaxed. This rule subjected all of the funds raised by an issue of shares to the EIS rules if EIS relief was being claimed on any of the shares. This meant that to avoid the condition, shares not subject to EIS relief had to be issued on a different day to the EIS shares.

Investors who had previously had loans repaid by companies were precluded from EIS relief on subsequent share investments. This is now relaxed for shares issued after 16 March 2004.

EIS and VCTs

The rules on "active companies" are to be relaxed to make it easier for groups to arrange which company carries on the activity for which the money is raised.

EIS, VCTs and Corporate Venturing Scheme ("CVS")

CVS companies will now have to comply with the EIS and VCT requirements that the company benefitting from the money raised must be the company whose shares have been issued or a 90% subsidiary of that company. This applies to shares issued after 16 March 2004.

EIS, VCTs CVS and Venture Capital Loss Relief

Subsidiaries of EIS companies, other than those benefitting from the EIS money or property management subsidiaries, will in future only need to be 51% subsidiaries rather than 75% subsidiaries.

Similar rules will apply to CVS companies, companies forming part of a VCT’s qualifying holdings and subsidiaries of companies qualifying for venture capital loss relief.

These rules will apply to shares issued after 16 March 2004.

Enterprise Management Incentives ("EMI") - Qualifying Subsidiaries

In the past, the legislation relating to EMI Share Options prevented companies from qualifying if they had subsidiaries where the shareholding was between 50% and 75%. With effect from 17 March 2004, this rule has been dropped.

In future, provided that the other qualifying rules are complied with, EMI will apply for companies that have subsidiaries whatever the shareholding in the subsidiary.

Transfer Pricing - UK Companies

From 1 April 2004, UK companies will be required to justify and document the pricing structure adopted with other "related" UK companies. It is assumed for the moment that this will apply where there is a 40% common ownership.

The new regulations apply to the provision of loan finance as well as to the provision of goods and services.

In completing company tax returns from 1 April 2004, the self-certification rules that require that transactions with associates are at arm’s length, or else an adjustment has been made in the computation, will now apply to this further area.

In addition, with effect from 1 April 2006, the obligation to maintain detailed supporting documentation will also apply, under threat of a £3,000 fixed penalty.

Small and medium-sized companies are to be exempted from these provisions, except in certain specific areas.

The Inland Revenue retains the right to impose an adjustment in the case of medium-sized companies "to protect revenues" but small companies escape this provision. Although draft legislation was published after the 2003 Pre-Budget Report, this section was left blank and proposals are awaited.

The exemption for both small and medium-sized companies will be available in respect of transactions with other "related" companies either based in the UK or based outside the UK where the relevant double tax treaty between the UK and that territory contains a "suitable" non-discrimination Article.

Where an adjustment is made to bring a transaction back to an "arm’s length" basis, a non-taxable payment can be made between the two companies to bring them back to the same cash position that they would have been in had the adjustment not been made.

Companies in Partnerships

Measures will be introduced from 17 March 2004 to close a tax loophole where profits are allocated between groups of partners including at least one corporate partner in order to secure a tax advantage.

Such schemes involved allocating all of the income to a partner that was not liable to UK tax and all of the capital to a UK partner. The result was that the UK partner could pay tax at a reduced rate or even avoid it completely.

Now, a charge to Corporation Tax will apply to a company which realises capital from a partnership, where the capital realised represents profits that would have been taxable on the company if the UK profits had been allocated in proportion to shares of partnership capital.

For this to apply two conditions must be met:

• The company must realise some or all of its capital from the partnership over and above the amount that it has contributed to and invested in the partnership; and
• Some or all of the increase in the partnership’s capital is derived from profits arising after 16 March 2004 that would have been taxable in the UK had they been allocated to the company in proportion to its share of partnership capital. 

Where these two conditions are met, the company will face a charge to Corporation Tax on an amount equal to the lower of the amount withdrawn or the amount of profit calculated under the second condition.

Management Expenses

The opportunity for companies to claim management expenses as tax deductible expenditure will be extended from 1 April 2004.

Companies that carry on an investment business within a trading company will be able to claim this relief despite the fact that they may not be investment companies. At present relief is only available to such investment companies (i.e. those companies whose business is mainly one of making investments.)

The Finance Bill will specifically exclude capital expenditure from deduction as a management expense.

The requirement for a company to be UK resident will also be removed, so that UK permanent establishments of non-resident companies will also be able to obtain relief for the costs of managing their investments.

The rule governing the timing of the relief will also change to align it with the accounting treatment.

Adoption of International Accounting Standards

UK tax law requires the use of accounts drawn up under UK GAAP as the starting point for tax returns of trading profits. Legislation is to be introduced whereby, for accounting periods commencing on or after 1 January 2005, accounts drawn up using International Accounting Standards will be equally acceptable. This is subject to a number of specific adjustments for tax purposes broadly designed to maintain the current tax base.

Landlord’s Energy Saving Allowance

From 6 April 2004 landlords, within the scope of income tax who let residential properties, will be able to claim an Income Tax deduction of up to £1,500 when loft or cavity wall insulation is installed.

Small Incorporated Businesses

The Chancellor has announced measures to prevent the abuse of the Corporation Tax starting rate. Where a company’s profits are £10,000 or less, no Corporation Tax is currently charged.

There is also marginal relief where profits are between £10,001 and £50,000. It is thus possible for a dividend to be paid to a basic rate taxpayer out of company profits of up to £10,000 without suffering any taxation whatsoever.

The proposal is that, for distributions made on or after 1 April 2004 to non-corporate shareholders, the profits out of which they are paid will suffer a minimum rate of Corporation Tax of 19%. If profits are retained they will continue to enjoy the present lower rates of Corporation Tax.

Additionally, there will be rules where distributions exceed profits for the relevant periods.

Further details of exactly how the proposed legislation will operate are awaited.

There are also likely to be new requirements for companies to notify the Inland Revenue when they commence trading. Currently, they are only obliged to notify chargeability to Corporation Tax.

Capital Allowances for Small Businesses

Currently, small businesses benefit from a first year allowance of 40% on plant and machinery. For one year only, this rate is to be increased to 50% with effect for expenditure incurred on or after 1 April 2004.

This increase will not be available to medium-sized businesses, which will continue to be restricted to a first year allowance of 40%.

Company Car Tax

The benefit arising on company cars is calculated by applying a percentage to the list price of the car. The percentage is related to the CO2 emissions of the vehicle and ranges from 15% to 35%.

As in previous years, the CO2 emissions qualifying for the minimum petrol percentage charge have been lowered to 145 grams per km of CO2 for 2004/05
and 140 grams per km of CO2 for the following two years.

The company car fuel benefit is based on the appropriate percentage of the "set figure", which for 2004/05 remains unchanged at £14,400.

Employer Provided Vans

From 6 April 2005, there will be changes to the rules where an employee is provided with a van and it is available for private use.

In particular, there will be no benefit charge where employees have to take their van home but are not allowed any other private use.

Currently the benefit charge is £500 (or £350 if the van is more than 4 years old) including private fuel. The new benefit in kind will be based on scale charges depending on the type of private use with a separate charge for private fuel. Details will be available in due course.

From 6 April 2007 the discount for older vans will be removed and the scale charge for unrestricted private use will be increased to £3,000, with an additional benefit of £500 if private fuel is provided.

Emergency Service Vehicles

From 6 April 2004, employees of the fire, police and ambulance services will no longer be subject to Income Tax and National Insurance Contributions ("NIC") when emergency vehicles are taken home whilst on call.

Currently an Income Tax and NIC charge arises as the journey is considered to be home to work travelling. The new legislation will ensure that no charge is applicable if there is an operational requirement for emergency vehicles to be kept at home.

NHS Foundation Trusts - Ancillary Trading

Regulations will be passed that specify the tax treatment of profits arising from non-health care trading activities of NHS Foundation Trusts.

Profits arising from such activities will become liable to Corporation Tax. The new regulations will not apply to activities that are carried on by a separate company, which remain liable to Corporation Tax in the normal way.

The measure will not affect the position of core health care provision provided by such trusts. Such activities will continue to be exempt from tax. They will, however affect ancillary trading activities carried out by NHS Foundation Trusts.

It is likely that the above change will encourage NHS Foundation Trusts to apply for charitable status and operate their trading activities through a trading subsidiary and then Gift Aid all taxable profits up to the charity thereby saving tax.

The regulations will come into effect from Royal Assent.

Community Amateur Sports Clubs

The tax thresholds, below which registered Community Amateur Sports Clubs (CASCs) will pay no Corporation Tax will be doubled from 1 April 2004.

The CASC scheme was introduced in 2002 and provides such organisations with some of the benefits of having charitable status but with a less stringent application process.

Registered clubs pay no tax on bank or building society interest and no Corporation Tax on chargeable gains reinvested in the club. Trading income and income from property below certain thresholds are also not taxable.

As a result of the change, CASCs will be exempt from Corporation Tax on profits arising from trading income if the trading income is less than £30,000 and also on profits from property income, if their gross property income is less than £20,000. CASCs that do not exceed these thresholds will not need to complete a tax return.

Loan Relationships and Derivative Contracts

Various measures have been announced in relation to loan relationships and derivative contracts to ensure that the regimes introduced by Finance Acts 1996 and 2002 operate as intended.

Where companies are in administration or liquidation, the release of debt between group companies will no longer be subject to a tax charge solely because of the appointment of an Administrator, Administrative Receiver or Liquidator. This applies to the release of debts after 10 December 2003.

Connected party rules deferring the deduction for discount and interest accrued by a close company will no longer apply simply because a limited partnership Venture Capital Fund is an investor. This applies to accounting periods ending on or after 10 December 2003.

An amendment will be made to ensure that recommended accounting practices for Open Ended Investment Companies will continue to apply when calculating the capital element of their profits or losses on derivative contracts. This applies to accounting periods beginning on or after 1 February 2004.

Certain other technical requirements for the purposes of restricting deductions to connected persons for late paid interest will be removed.

An amendment will be made to ensure that provisions restricting losses on derivative contracts with "unallowable purposes" operate as intended. This applies to accounting periods ending on or after 17 March 2004 to ensure that the same tax treatment applies to profits and losses accruing on loan relationships and derivative contracts regardless of which accounting method is used.

Life Insurance Companies

Measures are to be introduced which will have two effects.

First, they will counter tax avoidance by life assurance companies that use certain types of financial reinsurance.

Secondly, they will remove a tax disincentive to company reorganisations where life insurance business is transferred to another company but some assets are retained to match certain retained liabilities.

Property Derivatives

Provision has been made for enabling legislation, which would bring derivatives that derive their value from property or equities into line with the derivatives regime introduced in the Finance Act 2002.

New legislation will be introduced after a period of consultation. The current proposal is that tax on these types of derivatives would be based on a distinction between trade and non-trade items.

Non-trade gains and losses will be taxed as chargeable gains or losses, while trading gains and losses will be treated in the same way as amounts from derivative contracts under current legislation.

The New European Company

On 8 October 2004, new regulations come into force allowing the formation of European Companies. The European Company ("SOCIETAS EUROPAEA" or "SE") will be subject to the tax law of the country in which the SE is resident.

New tax regulations for SEs will be introduced in the Finance Bill 2005. They will however be able to operate within the UK from 8 October 2004 under existing tax legislation.

National Insurance Contributions ("NIC") on Restricted Shares

Where employees agree to bear the employer’s NIC liability arising on employment-related restricted or convertible securities (usually shares), they will be permitted an Income Tax deduction for the amount suffered.

The liability to NIC arises when a chargeable event such as the lifting of restrictions or the conversion of securities into another form of security occurs.

The changes will ensure that this Income Tax relief will not affect the Capital Gains Tax liability on a subsequent disposal or the Corporation Tax relief for employee share acquisition.

These changes will come into effect when the National Insurance Contributions and Statutory Payments Bill 2004 comes into force.

Offshore Funds

The tests governing "distributor status" for offshore funds are to be relaxed slightly. In particular, the calculation of "equivalent profits" is to follow UK Corporation Tax rules more closely. Further, certain investment restrictions will be abolished and separate sub-funds and share classes within funds will be able to qualify on their own.

Double Benefit Leasing

New provisions apply from 17 March 2004 regarding rental payments which fall due on or after that date under both new and existing arrangements. They will affect businesses that gain a double benefit from the sale and leaseback or lease and leaseback of plant or machinery.

The new measures will remove this unintended benefit for lessees by limiting the relief for lease rental payments.

Lessees will get relief for the finance charge element of the lease rentals plus an amount equivalent to the disposal proceeds amount brought into account for capital allowances. This will be spread over the life of the lease in proportion to the depreciation of the leased asset.

Lessors will be taxed on the finance charge element of the rentals plus that part of the rental income that recovers the capital expenditure on which capital allowances are available.

Transitional relief will apply where lease rentals are payable under existing arrangements.

INDIRECT TAXES

VAT Turnover Limits

The registration threshold will rise by £2,000 to £58,000 from 1 April 2004. The de-registration limit rises similarly to £56,000.

The limit for de-registration arising from the acquisition of goods from other EU States rises from £56,000 to £58,000.

VAT - Cash Accounting and Annual Accounting for Small Businesses

With effect from 1 April 2004, the annual taxable turnover limit for entitlement to join the cash and annual accounting schemes will increase from £600,000 to £660,000. The limit for being required to withdraw from the schemes will increase to £825,000.

VAT Group Rules

Two new tests have been introduced in the rules which apply to determine whether companies are able to form a VAT group. The new rules are designed to prevent companies that make supplies to partially exempt businesses from grouping for VAT and thereby avoiding irrecoverable VAT.

Customs have not completely abolished the existing tests for VAT grouping, as they had originally proposed in their pre-budget consultation paper.

Tax Avoidance Disclosure

New measures will be introduced which will require VAT registered businesses with supplies of £600,000 or more to disclose tax avoidance schemes. Customs will publish a list of ’disclosure’ schemes. Failure to disclose will result in a 15% penalty.

Large businesses turning over £10 million a year or more, will be required to report ’schemes’ that have ’hallmarks of avoidance’. This is to allow Customs to spot new schemes. There will be a penalty of £5,000 for failing to disclose.

A third measure is the introduction of a voluntary facility for those that market VAT avoidance schemes to ’register the scheme’.

Unfortunately, it is unclear exactly what is meant by ’avoidance’ or ’hallmarks of avoidance’. It is therefore hard to predict exactly what the impact of the new rules will be.

The measure is timetabled to come in after Royal Assent and to an extent mirrors new legislation relating to direct tax avoidance schemes.

VAT on Commercial Buildings

Measures are being introduced to prevent opted property from being transferred as a VAT-free Transfer of a Going Concern in certain circumstances. The measure is apparently targetted at certain ’complete’ schemes and adds to provisions introduced in 1997 which disapply the VAT option to tax in some circumstances.

VAT Fuel Scale Charges

Whenever a business funds private motoring by subsidising fuel, it must account for VAT fuel scale charges, that is, output tax.

The scale charges have been revised and are shown at Appendix C.

Businesses must use the new scales from the start of their first accounting period beginning on or after 1 May 2004.

VAT on Energy Saving Materials

The reduced VAT rate of 5% currently applies to the installation of a specific list of energy saving materials. As of 1 June 2004, this list will be extended to include ground source heat pumps.

Motor Dealers

Motor dealers who provide demonstrator cars to their employees for a nominal charge will now need to account for more output VAT. The new rules will require permission from the European Community, which has been applied for.

Landfill Tax

From 1 April 2004, the standard rate of landfill tax will be increased from £14 per tonne to £15 per tonne.

From the same date, the maximum credit that landfill site operators may claim against their annual landfill tax liability is to be increased from 6.5% to 6.8%.

Duty Stamps for Spirits

From the date of Royal Assent, retail containers of spirits will, subject to certain exceptions, be required to bear a duty stamp. This must indicate that UK duty has been paid. Retail containers of wine or made-wine with an ABV over 22% will also be subject to the same requirements.

Tobacco Duty

From 6pm on 17 March 2004, the rates of duty on tobacco products imported into, or manufactured in, the United Kingdom will be increased.

The price of a pack of 20 cigarettes will increase by 9.2p, and 5 cigars by 3.3p.

Tax on hand-rolling tobacco will increase by 9p for every 25 grams, and pipe tobacco by 5.5p for every 25 grams.

Alcohol Duty Including Small Breweries

From midnight on 21 March 2004, the duty is increased by 1p on a pint of beer and 1p on a standard 175ml glass of wine.

The reduced rates scheme for small breweries remains unchanged, except that calculations of duty liability must now be based on the new standard beer duty rate of £12.59 per hectolitre per cent of alcohol in the beer.

Small Breweries’ Relief

From 1 June 2004, reduced rates of duty will apply for beer brewed by independent breweries which produce between 30,000 and 60,000 hectolitres per year (between 5,280,000 and 10,560,000 pints).

These reduced rates will taper from the reduced rate presently paid at a production level of 30,000 hectolitres per year to the full standard rate on production exceeding 60,000 hectolitres.

Option to Tax

Customs have issued a consultation document regarding the application of rules that allow charities and providers of residential accommodation to ’disapply’ the option to tax on bulk property that they buy or lease. The document proposes formalising the certification process but seeks views on other issues such as the ’office’ exclusion that applies to charities.

STAMP DUTY LAND TAX

Partnership Transactions

Stamp Duty Land Tax ("SDLT") was introduced on 1 December 2003, replacing Stamp Duty on land transactions. However, the transfer of property assets into a partnership, the acquisition of a share in a partnership where the partnership owns the property assets, and the transfer of property out of a partnership were excluded from SDLT.

SDLT will now be charged where:

• Property is transferred into a partnership either by an existing partner or by an individual in exchange for a share in the partnership;
• Partnership assets included property and, either an existing partner transfers all or part of their partnership share to a person who is or becomes a partner for money or money’s worth, or a person becomes a partner and an existing partner reduces their partnership share and withdraws money or money’s worth from the partnership;
• A partnership transfers property to a partner or former partner. 

The proposals will only charge SDLT on the proportion of the property being transferred into a partnership, not on the whole value of the property. The proposals will apply from Royal Assent.

Further Changes

A number of anti-avoidance measures are to be introduced to prevent SDLT avoidance on sub-sales, group relief and sale and lease back transactions. There are also a number of clarifications. These changes will generally take effect from 17 March 2004.

SDLT is currently charged on uncompleted contracts where they are "substantially performed" i.e. when the purchaser either pays for or takes possession of property or land. Clarification will be issued to make clear how the SDLT charge works for agreements where the purchaser has a right to direct a conveyance to a third party.

Changes will be introduced to prevent an unintended charge to SDLT when a contract is completed by conveyance and works have been carried out on the property after it was purchased.

Clarification will be introduced on the treatment of "agreements for leases" which are "substantially performed" so that they are treated as actual leases. Similar changes will be made to "missives of let" in Scotland.

All variations that extend the lease or increase the rent will be treated as a grant of a new lease.

Relief has been introduced for "Chain-breaking" transactions where many people move house. Relief is not currently provided when people buy new houses but cannot move into them immediately and stay on in their own house. New measures, which will apply from Royal Assent, will extend the relief, provided that people do not stay in their old home for more than 6 months.

The relief for "Sale and Leaseback" transactions will be extended to residential properties in order to help people entering into "Home Reversion Plans" to raise capital from their homes. The relief will also be extended to include "Lease and Leaseback" transactions and transactions where only part of a property is leased back. These changes will apply from Royal Assent.

With effect from 1 December 2003, certainty will be provided that no charge to SDLT arises where property passes to a beneficiary under a will or intestacy.

The SDLT compliance burden is also to be reduced in various ways with effect from Royal Assent.

At present, all purchases of freehold property must be notified to the Inland Revenue, however small the value. This includes the reversion of freehold residential property which might have a price of a few hundred pounds. In future, notification will not be required where the consideration is less than £1,000. Such transactions may be self-certified.

The grant of a lease for seven years or less (short lease) only has to be notified to the Inland Revenue if there is tax to pay or relief to be claimed. However assignments of short leases by tenants have to be notified whether or not there is tax to pay. In future, an assignment of a short lease need only be notified if there is tax to pay or relief to be claimed. Other assignments of short leases may be self-certified.

There will be changes to make clear that double penalties cannot be charged on the same SDLT.

MISCELLANEOUS

Inheritance Tax Rates

The Inheritance Tax threshold ("the nil rate band") is being increased by statutory indexation to £263,000 from 6 April 2004. The value of estates in excess of this figure will continue to be taxed at 40% on death and 20% on lifetime transfers.

Inheritance Tax Simplification

Although the operative date has yet to be announced, a number of proposed changes are expected to bring a further 30,000 estates within the simpler reporting regime for Inheritance Tax (IHT). The result will be that, other than in respect of the largest estates and a few other exceptional cases, a formal IHT return will be required only where there is tax to pay.

As a corollary to this, the existing penalty rules will apply to the delivery of incorrect information under the simplified reporting regime. Further, information delivered via the Probate Service will be treated as having been furnished direct to the Inland Revenue.

The IHT penalty rules will also be brought more into line with those for other taxes such that:

• A penalty of up to £3,000 will be charged for failure to submit an IHT account, or to notify the variation of a disposition on death, within 12 months of the account or notification being due;
• Where negligent or fraudulent material has been submitted, the penalty charge will be removed where no additional IHT is due;
• The penalty charge in respect of the late delivery of an IHT account will be fixed at £100 unless the tax involved is less than that amount or there is a reasonable excuse. 

Targetting Tax Avoidance

Additional resources are to be allocated to the Inland Revenue to target those who are not paying their fair share of tax or National Insurance and will cover both tax evasion and legal tax avoidance which exploits loopholes.

The new measures will include:

• Better publicity to raise awareness of tax obligations, the assistance that the Inland Revenue can provide to help meet those obligations, and the implications of non-compliance;
• New data systems to improve analysis of tax compliance issues;
• More specialist staff to deal with high-risk areas involving large businesses and individuals with complex tax affairs;
• Identifying people who work in the shadow economy.

Tax Avoidance Schemes

Firms of Accountants and Solicitors who devise tax schemes and promote them to clients will have to disclose them to the Inland Revenue in future.

The Inland Revenue will have to be notified of tax schemes shortly after the scheme is sold. The notification will comprise a description of the scheme, including details of the types of transactions planned and the tax consequences of the arrangements and statutory provisions relied upon. The Inland Revenue will log such schemes and allocate a reference number.

Taxpayers who use these schemes will then need to include the reference number on their tax return.

Where the scheme is purchased from an offshore provider or the scheme is devised in-house, taxpayers themselves will be required to disclose details of the scheme to the Inland Revenue.

There will be a further notification obligation on taxpayers to disclose details of schemes shortly after they have purchased the scheme or first implemented it.

This measure is designed to target schemes based on financial products and employment-based products. Penalties will be levied for failing to comply with the disclosure requirements.

Details of when the rules will come into effect will be included in the Finance Bill.

Inland Revenue and Customs & Excise Merger
Customs & Excise and the Inland Revenue are to merge. The practicalities of how to merge two of the oldest government departments have not yet been announced.

Any merger process is likely to take a number of years to achieve in full.

Property Investment Funds ("PIF")

A Consultation Document has been issued by the Treasury on "Promoting More Flexible Investment in Property", requesting responses by 16 July 2004.

The UK PIF would be comparable to the US Real Estate Investment Trust (REIT).

It will be a savings and investment vehicle, providing a liquid market in property investment and will be widely accessible to the private investor.

The key characteristics of the proposed PIF are that it:

• Would be required to distribute a high level of income to investors which would be taxed in their hands;
• Would be listed on the Stock Exchange;
• May be required to have a minimum number of investors to ensure liquidity;
• Will only be allowed to have limited borrowings;
• Will be able to invest only in commercial, industrial, office and residential buildings.
• Hotels, golf courses, hospitals and similar properties will be excluded;
• May be required to hold property for a set minimum period;
• May be required to have a set minimum percentage invested in residential property. 

Taxation

• A PIF would pay no tax on rental income;
• Capital Allowances would not be available;
• Other income would be taxable;
• Capital gains in a PIF would not be taxable until distributed to investors.
• Distribution of rental income and capital gains would be taxed at normal tax rates in the hands of investors, as "income from property";
• Tax may be withheld at source on distributions from a PIF;
• SDLT would be charged in the normal way on the purchase and sale of property;
• A property company converting to a PIF would face a "conversion charge".