This article should be read by those of you who are sitting Paper P6 (UK) at either the June or December 2014 sitting. Please note that if you are sitting the exam in December 2013, you will be examined on the Finance Act 2012, which is the legislation as it relates to the tax year 2012–13. Accordingly, this article is not relevant to you, and you should instead refer to the Finance Act 2012 article published on the ACCA website.
This article summarises the additional changes introduced by the Finance Act 2013 that have an effect on the Paper P6 (UK) syllabus.
All of the changes set out in the Paper F6 (UK) article (see 'Related links') are relevant to Paper P6 (UK). In addition, all of the exclusions set out in the Paper F6 (UK) article apply equally to Paper P6 (UK) unless they are referred to below.
THE UK TAX SYSTEM
General anti-abuse rule (GAAR)
As noted in the Paper F6 (UK) article, the new GAAR counteracts tax advantages arising from abusive tax arrangements. The meanings of the relevant terms are:
- ‘Tax advantages’ include increased tax deductions, reduced tax liabilities, deferral of tax payments and advancement of tax repayments.
- ‘Tax arrangements’ are arrangements with a main purpose of obtaining a tax advantage.
- Arrangements are 'abusive' where they cannot be regarded as a reasonable course of action, for example, where they include contrived steps or are intended to take advantage of shortcomings in the tax legislation.
Where the GAAR applies, HM Revenue & Customs may counteract the advantages arising by, for example, increasing the taxpayer’s liability by an appropriate amount.
The scope of income tax
The new statutory test of residence is explained above in the Paper F6 (UK) section. Under these rules, an individual is either UK resident or non-UK resident for the whole of the tax year.
The rules set out in the Paper F6 (UK) article have been expanded slightly for the purposes of Paper P6 (UK).
The following people are automatically treated as not resident in the UK.
- A person who is in the UK for less than 16 days during a tax year, and who has been UK resident for one or more of the previous three tax years.
- A person who is in the UK for less than 46 days during a tax year, and who has not been resident during the previous three tax years.
- A person who works full-time overseas, subject to them not being in the UK for more than 90 days during a tax year.
The following people are automatically treated as resident in the UK.
- A person who is in the UK for 183 days or more during a tax year.
- A person who is in the UK for 30 days in the tax year and whose only home is in the UK.
- A person who carries out full-time work in the UK during a 365-day period, some of which falls within the tax year.
Where a person’s residence status cannot be determined according to any of the automatic tests, their status will be based on the number of ties they have with the UK. For the purposes of Paper P6 (UK), the five ties are:
- Having close family (a spouse/civil partner or minor child) in the UK.
- Having a house in the UK which is available for at least 91 days in the tax year and is made use of during the tax year.
- Doing substantive work in the UK where 40 days or more is regarded as substantive.
- Being in the UK for more than 90 days during either of the two previous tax years.
- Spending more time in the UK than in any other country in the tax year.
The table indicating the number of relevant ties by reference to the number of days in the UK will be provided in the exam.
Additional rules, known as the split year treatment, apply in a year where an individual leaves the UK to live or work overseas or comes from overseas to live or work in the UK. The split year treatment can only apply in a year in which an individual is UK resident. An individual leaving the UK must also be UK resident in the previous year and non-UK resident in the following year. An individual coming to the UK must be non-UK resident in the year prior to the split year.
Under the split year treatment, the year is split into a UK part and an overseas part. The individual is taxed as a UK resident for the UK part and as a non-UK resident for the overseas part. This applies to both income tax and capital gains tax.
For individuals leaving the UK, the split year treatment applies in the following situations.
- The individual leaves the UK to begin full-time work overseas. The overseas part begins when the individual starts the overseas work.
- The individual’s partner (spouse, civil partner or someone with whom the individual lives) leaves the UK to begin full-time work overseas and the individual leaves the UK in order to continue living with them. The overseas part begins on the later of the partner starting work overseas and the individual joining the partner overseas.
- The individual leaves the UK in order to live abroad, sells their UK home, spends a minimal amount of time in the UK and establishes ties with the overseas country by, for example, becoming resident there. The overseas part begins when the individual ceases to have a home in the UK.
For individuals coming to the UK, the split year treatment applies in the following situations.
- The individual comes to the UK, acquires a home in the UK, and the individual does not have sufficient ties to the UK in order to be UK resident prior to obtaining the UK home. The UK part begins when the individual acquires the UK home.
- The individual comes to the UK to work full-time for a period of at least a year and the individual does not have sufficient ties to the UK in order to be UK resident prior to coming to the UK. The UK part begins when the individual starts the UK work.
- The individual returns to the UK following a period of working full-time overseas. The UK part begins when the individual stops working overseas.
- The individual returns to the UK following a period where the individual’s partner has worked full-time overseas. The UK part begins on the later of the partner stopping work overseas and the individual joining the partner in the UK.
The remittance basis
Qualifying individuals who choose to be taxed on the remittance basis are taxed on their overseas income and chargeable gains by reference to the amounts remitted to the UK. Following the abolition of the status of ordinary resident (as set out in the Paper F6 (UK) article) the remittance basis is available to individuals who are resident but not domiciled in the UK.
Cap on income tax reliefs
Cap on loss relief
In the Paper P6 (UK) exam the cap on income tax reliefs, as set out in the Paper F6 (UK) article, also applies in the following circumstances.
- The offset of qualifying loan interest against total income.
- The offset of losses arising in the first four tax years of a business against general income in the three preceding years.
- The offset of capital losses on the disposal of qualifying unquoted shares against general income.
Income from employment
The tax treatment of share option and share incentive schemes
There have been a number of changes to the rules for share option schemes and share incentive schemes. In particular:
- SAYE share option scheme
Shareholders owning more than 25% of the company are no longer excluded.
- Share incentive plan
Shareholders owning more than 25% of the company are no longer excluded.
The £1,500 annual limit in respect of dividend shares has been removed.
- Company share option plan
Shareholders owning more than 30% (formerly 25%) are excluded.
Taxable total profits
Research and development (R&D) expenditure
Where a large company incurs qualifying expenditure on R&D, it can claim a tax deduction of 130% of the costs incurred. A new, alternative relief has been introduced whereby, instead of the additional 30% tax deduction, the company can claim a tax credit equal to 10% of the costs incurred.
This 10% tax credit reduces the company’s corporation tax liability. Any excess can be paid to the company up to a maximum of the company’s PAYE/NIC liability in respect of those employees involved in R&D activities for the relevant accounting period. Any remaining credit balance can be carried forward and offset against the company’s corporation tax liability for the next accounting period or any other accounting period or in the case of a group company, surrendered to another member of the group.
The 10% tax credit is also treated as taxable income, such that it increases the company’s taxable income. For a company that has incurred R&D expenditure of £100,000, the overall effect of the rules is as follows:
|Corporation tax on additional income (£100,000 x 10% x 23%)||2,300|
|Tax credit deducted from corporation tax liability (£100,000 x 10%)||(10,000)
|Corporation tax saved (7.7% of the expenditure)||7,700
This compares to a saving of £6,900 (£100,000 x 30% x 23%) where the additional 30% deduction is claimed.
A new scheme has been introduced in relation to patent profits in order to encourage companies to develop and exploit patents. The broad effect of the scheme is to tax profits arising in respect of patents at a lower rate of corporation tax. This scheme is available to companies that carry on qualifying development in relation to a patent and is optional.
The scheme applies to all profits relating to the exploitation of patents and not just to royalty income arising directly from the patents. This means, for example, that it applies to a proportion of the profit on the sale of products where a patent has been exploited within the production process.
The first task is to determine the patent profit. This figure is then subject to a number of adjustments in order to arrive at the net patent profit. You will not be required to calculate the patent profit or to apply the necessary deductions: the net patent profit will be provided in the exam question.
The reduced rate of tax is arrived at by deducting an amount from the net patent profit, such that when the corporation tax rate is applied to the reduced figure, the effective rate is 10%. The scheme is being phased in over a number of years. In the year ending 31 March 2014 only 60% of the net patent profit is subject to the reduced rate.
For the year ending 31 March 2014, the deduction is calculated as follows:
Net patent profit x 60% x ((MR – 10%) / MR)
where MR is the main rate of corporation tax.
This formula will be provided in the tax rates and allowances section of the exam paper.
For the year ended 31 March 2014 Blu Ltd has taxable profits of £1,800,000, of which the net patent profit is £220,000. The corporation tax liability of Blu Ltd will be calculated as follows:
|Deduction in respect of patent profit:|
(£220,000 x 60% x ((23% – 10%) / 23%))
|Taxable total profits||1,725,391
|UK corporation tax at 23%||396,840
|Net patent profit at 10%: |
£132,000 (£220,000 x 60%) at 10%
|Balance of the taxable profit at 23%:|
£1,668,000 (£1,800,000 – £132,000) at 23%
The restriction on the availability of group relief in respect of the losses attributable to the UK permanent establishment of a company resident in the European Economic Area (EEA) has changed. Group relief is now available provided the losses have not been relieved in another country. Prior to the change, group relief was not available if it was merely possible to relieve the losses in another country. The old, stricter rule continues to apply to UK permanent establishments of companies resident outside the EEA.
The use of exemptions and reliefs
A relief has been introduced to enable relatively small companies to transfer their assets to their shareholders without giving rise to taxable profits. This relief removes tax liabilities that would otherwise arise where the owners of an incorporated business wish to assume direct ownership of the business assets in order to trade as an unincorporated entity, ie as a sole trader or partnership.
All of the following conditions must be satisfied in order for the relief to be available.
- The business must be transferred as a going concern.
- All of the assets of the business (apart from cash) must be transferred to the shareholders.
- The total market value of land and buildings and goodwill must not exceed £100,000.
- All of the shareholders to whom the business is transferred must be individuals who have held their shares in the company for the 12 months prior to the date of transfer.
The relief must be claimed within two years of the date on which the business was transferred. The claim must be made jointly by the company and all of the shareholders to whom the business was transferred.
The relief operates by deeming the sales proceeds received by the company, and the amount paid by the shareholders, to be equal to:
- for land and buildings, the lower of cost and market value, and
- for goodwill, the lower of tax written down value and market value.
Controlled foreign companies (CFCs)
A new CFC regime has been introduced. This regime imposes a UK corporation tax liability, a ‘CFC charge’, on the owners of non-UK resident companies where UK profits have been artificially diverted from the UK.
For the purposes of the exam, a CFC is a non-UK resident company that is controlled by UK resident companies and/or individuals.
In determining whether or not there will be a CFC charge there are two matters to consider:
- for there to be a CFC charge the CFC must have ‘chargeable profits’, and
- there will not be a CFC charge if the CFC is covered by one or more of the exemptions.
Chargeable profits are those income profits (not chargeable gains) of the CFC, calculated using UK tax rules, which have been artificially diverted from the UK.
Broadly, a CFC will be regarded as having no chargeable profits if any of the following conditions are satisfied.
- The CFC does not hold any assets or bear any risks under arrangements intended to reduce UK tax, ie under tax planning schemes.
- The CFC does not hold any assets or bear any risks that are managed in the UK.
- The CFC would be able to continue its business if the UK management of its assets and risks were to cease.
There are further rules in relation to, among other things, finance companies and companies in the financial services industry. These rules are not examinable.
Even though a CFC may have chargeable profits, there is no CFC charge if one of the following exemptions applies.
- Exempt period exemption – where a non-UK resident company is acquired by UK resident persons, such that it becomes a CFC, there is a 12-month exemption from the CFC rules. For this exemption to be available the company must continue to be a CFC for the accounting period following the exempt period but not be subject to a CFC charge.
- Tax exemption – the local tax paid by the CFC is at least 75% of the amount of tax the CFC would have paid in the UK if it were UK resident. This exemption was part of the definition of a CFC under the old rules.
- Excluded territories exemption – the CFC is resident in one of the territories specified as being excluded and certain conditions relating to its tax treatment in that territory are satisfied. This removes the need to prepare the detailed calculations necessary in respect of the tax exemption where the CFC is located in a tax regime with similar tax rates to the UK.
- Low profits exemption – the CFC’s profits do not exceed £500,000 and its non-trading income does not exceed £50,000.
- Low profit margin exemption – the CFC’s accounting profits are no more than 10% of its expenditure.
Broadly, the new rules concerning the CFC charge are the same as the old rules. The CFC charge is levied on UK resident companies (not individuals) entitled to at least 25% of the CFC’s profits. The charge is calculated as follows:
- UK corporation tax at the main rate on the proportion of the CFC’s chargeable profits (the profits artificially diverted from the UK) to which the UK resident company is entitled;
- less a deduction for an equivalent proportion of any creditable tax.
Creditable tax consists of:
- any double tax relief that would be available to the CFC if it were UK resident
- any income tax suffered by the CFC on its income, and
- any UK corporation tax on the income of the CFC that is taxable in the UK.
There is a clearance procedure whereby HMRC will confirm how the rules will apply in a company’s particular circumstances.
Hul plc, a UK resident company, owns 80% of the ordinary share capital of Gra Co. Gra Co is non-UK resident such that it is a CFC.
For the year ended 31 March 2014 Gra Co has profits, calculated in accordance with UK tax rules, of £900,000, of which 70% are regarded as having been artificially diverted from the UK. None of the CFC exemptions is available to Gra Co.
Gra Co has suffered income tax in its country of residence of £40,000.
The CFC charge levied on Hul plc will be calculated as follows:
|Chargeable profits of Gra Co (£900,000 x 70%)||630,000
|Chargeable profits attributable to Hul plc (£630,000 x 80%)||504,000
|UK corporation tax (£504,000 x 23%)||115,920|
|Less creditable tax (£40,000 x 70% x 80%)||(22,400)
CAPITAL GAINS TAX
The scope of the taxation of capital gains
Individuals coming to and leaving the UK
Temporary non-residents are taxed on chargeable gains realised whilst they are overseas where certain conditions are satisfied. A temporary non-resident is an individual who is overseas for a period of five years or less. Prior to the Finance Act 2013 the period in all situations was five tax years commencing from the start of the tax year when the individual became non-resident. Following the Finance Act 2013 this rule has been changed where the split year basis applies, such that the relevant period is the five years commencing with the date in the split year from when the overseas part starts.
The use of exemptions and reliefs
Entrepreneurs’ relief is only available if the relevant conditions have been satisfied. These conditions have been relaxed where an individual disposes of shares acquired under an enterprise management incentive scheme.
There are two changes:
- the ownership period begins when the option is granted as opposed to when the shares are acquired, and
- there is no need for the individual to own at least 5% of the company’s ordinary share capital.
The scope of inheritance tax
A rule has been introduced that enables a non-UK domiciled individual to elect to be treated as UK domiciled for the purposes of inheritance tax. This election is only available where the individual’s spouse or civil partner is, or was, domiciled in the UK. Where the individual’s spouse or civil partner is still alive, the election can specify that it should apply from a date up to seven years prior to the date of the election (but not prior to 6 April 2013).
An election can also be made following the death of the UK domiciled spouse or civil partner. In this situation, the election must be made within two years of the date of the spouse or civil partner’s death and can specify that it should apply from a date up to seven years prior to that date.
The advantage of such an election would be that there would no longer be an upper limit on the amount that could be transferred to the individual under the spouse exemption. The disadvantage, of course, would be that the individual’s overseas assets would be brought within the charge to UK inheritance tax.
This election does not apply to any taxes other than inheritance tax. It is irrevocable, although it will lapse where the individual is non-UK resident for four consecutive tax years.
The use of exemptions and reliefs
The spouse exemption
Transfers between spouses are exempt from inheritance tax provided the transferee spouse is domiciled in the UK. Where the transferee spouse is non-UK domiciled, there is a financial limit on the cumulative total of exempt transfers. This limit has been increased from £55,000 to an amount equal to the nil rate band, ie £325,000 for the tax year 2013–14.
Written by a member of the Paper P6 examining team
The following articles are available on the Paper P6 technical articles web page.
- Taxation of the unincorporated business – part 1 (the new business) and part 2 (the existing business)
- International aspects of personal taxation
- Capital gains tax and inheritance tax
- Trusts and tax
- Corporation tax
- Corporation tax and groups – parts 1 and 2