The new 25% Diverted Profits Tax (DPT), a big surprise in the 2014 Autumn Statement, is a disappointing and worrying development. Designed to counter aggressive tax planning by multinationals, the DPT rules are subjective, draconian and out of step with UK tax treaties.
Recent detail released on the DPT shows it is designed to tackle two different situations. The first involves the Google situation – a foreign company making substantial sales in the UK, but which deliberately structures its UK activities so that it is not treated as trading through a UK permanent establishment (PE). In the second targeted situation, a UK or foreign company with an acknowledged UK PE tries to reduce its UK taxable profits by means of transactions or entities that ‘lack economic substance’. This typically involves making payments to other group companies outside the UK in lower-tax jurisdictions. The DPT rules set out tests for both these situations to establish when a multinational’s structures might be caught.
The DPT rules are far reaching, complex and raise a number of significant issues. Firstly, how does the UK aim to reconcile these new rules with its obligations under its wide network of double tax treaties? In every treaty the UK agrees not to tax the business profits of a company resident in the other country, unless it has a PE here. Yet these new rules say that where a foreign company has no UK PE, but certain conditions are met, the UK will tax the foreign company as if it does. This appears to be in blatant contravention of the treaties and simply calling the new tax ‘DPT’ doesn’t overcome that.
Turning to the detail of the rules themselves, the legislation is littered with a worrying number of references to “it is reasonable to assume”. This introduces a significant degree of subjectivity into the tests, making it difficult for a company to determine objectively whether or not it is caught by them.
Finally, the mechanics of assessing the new tax and appealing against it are quite draconian. Companies are required to notify HMRC whether they consider that they fall within the new rules, on pain of a penalty. If HMRC then decides to assess the company to DPT, there are just 30 days to object, and the grounds on which the company can do so are extremely limited. It is then required to pay the tax charged in full within 30 days, with no grounds to appeal or postpone payment. Only after a year has passed, if the company has been unable to reach agreement with HMRC, does it finally have the right to appeal. There seems no justification for singling companies out for this kind of treatment and the balance of power appears tilted hugely in favour of HMRC.
UK out of step
It is surprising and disappointing that the government has chosen to take unilateral action in this way when previously the UK has been a champion of the multilateral, consensual approach adopted by the G20 and the Organisation for Economic Co-operation and Development. The areas tackled by the DPT were already squarely within the sights of the OECD’s Action Plan on Base Erosion and Profit Shifting, elements of which the government plans to introduce into legislation as early as 2017. Given that the DPT is only forecast to raise £25m in 2015-16, and the OECD’s final recommendations are due to be published next year, couldn’t the government have waited for these before acting? It is only to be hoped that this breaking of rank does not encourage other territories to adopt unilateral measures into their domestic law – that way lies chaos. Worryingly, Australia has already indicated that it will follow suit, which could represent the beginning of a domino effect.
for more detail on the tests and approach of the new DPT.
Business tax team