Controlled foreign companies reform
It has previously been announced that the Government will introduce a new controlled foreign company (CFC) regime in Finance Bill 2012. Draft legislation has already been circulated for consultation, most recently in February 2012.
The new CFC rules are intended to be more closely targeted at profits that are artificially diverted from the UK and a 'gateway' test has been developed which seeks to identify such profits. The February 2012 version of the draft legislation included refinements to the gateway test and in particular set out a number of scenarios where a CFC's business profits, other than financial and insurance profits, will be outside the scope of the CFC charge. These include:
- CFCs that have no assets or risks that are managed to a significant extent in the UK;
- CFCs that have capability to operate commercially without any such UK-managed assets and risks; and
- CFCs not involved in certain arrangements designed to avoid tax.
Another key part of the proposals is the introduction of a finance company partial exemption which will provide for a CFC charge on only one-quarter of the profits from financing of overseas group companies, and a full exemption for such profits in certain limited circumstances.
Today the Government re-affirmed that the measure will be included in Finance Bill 2012 but did not give any additional technical detail. It is expected that the Finance Bill will be published on 29 March and that this will reflect any further refinements made in response to comments on the draft legislation.
Who will be affected?
The CFC rules apply to overseas subsidiaries of UK companies, so are especially important to UK-headed multinational groups, but are also relevant to foreign-parented groups that use the UK as a holding company location.
The Government has confirmed its previous intention that the new rules will apply for accounting periods of CFCs beginning on or after 1 January 2013.
We welcome the proposed CFC reform and are pleased that delivery of reform is still on track following a consultation and discussion process over a number of years.
When it comes to applying the new rules to real world scenarios the detailed drafting of the provisions, and especially the gateway test which uses concepts which are unfamiliar to many taxpayers, will be crucial. We hope that the Finance Bill clauses will be as clear as possible and reflect comments made in relation to the draft versions, and that the guidance that HMRC intends to produce will offer examples to taxpayers as to how it expects the rules to apply in practice.
The finance company partial exemption should result in an effective UK tax rate of 5.5% on overseas financing profits once the corporation tax rate is reduced to 22%, and will be particularly welcomed by many international businesses and will enhance the UK's position as a holding company location.
It is interesting to note that the estimated costing of the CFC reform proposals to the Exchequer has been reduced since the 2011 Budget, especially as the provisions have in a number of respects become more generous. The package is still forecast to cost £910 million by 2018/19 with the largest elements being the more beneficial application to finance companies and insurance activities.
The hope is that the new regime will enhance the economy by preventing any further UK groups from moving their headquarter's tax residence overseas and encouraging foreign headquartered groups to move operations to or back to the UK.