Overview of the New Rules
HMRC has recently published draft legislation which is designed primarily to tackle perceived tax avoidance relating to employee benefit trusts ("EBT") and employer financed retirement benefit schemes ("EFRBS"). However, the draft legislation goes further than arrangements only involving EBTs and EFRBS, and applies to a number of arrangements where any third parties are used to reduce or avoid income tax and /or national insurance contributions ("NICs") on benefits received by employees or their families.
The wide scope of the draft legislation gave rise to a concern that many ordinary commercial arrangements, which are not designed to avoid tax, may be caught.
HMRC has commenced the process of limiting the operation of the draft legislation by releasing a set of "frequently asked questions ("FAQs"), which are designed to clarify and limit certain aspects of the draft legislation and to flag where amendments will be made.
Further amendments/clarification is expected shortly, as the rules take effect from 6 April 2011, although certain "anti-forestalling" rules already apply to catch certain arrangements which have been entered into after 9 December 2010.
When can a tax charge arise?
The legislation operates by imposing an income tax/NIC charge when a third party (broadly someone other than the individual's employer) provides a benefit to an employee. This may include making a loan to an employee (for example a loan from an EBT), earmarking an asset (however informally) for the benefit of an employee or transferring an asset to an employee. It can also catch certain deferred bonus arrangements.
Generally, income tax will be charged on the cash sum or the value of the relevant asset, less any amounts paid by the employee.
Somewhat surprisingly, if a loan is caught by these new rules, then an income tax charge will arise on the amount of the loan, but if the loan is subsequently repaid in whole or in part by the employee, there is no mechanism to provide a refund of the tax which has been paid.
Some specfic situations addressed by the FAQs
The FAQs have addressed the following perceived problems caused by the draft legislation:
- The new rules will not catch normal deferred cash or share bonus schemes provided that certain requirements are satisfied. These include a requirement that the deferred reward is at risk, there is no tax avoidance motive and the deferred bonus vests or lapses no later than 5 years after the date of grant.
- Where shares (or cash to acquire shares) are contributed to an EBT, and earmarked to satisfy share awards for specific employees, the new rules will not apply provided that the share award is at risk until the vesting conditions are satisfied, there is a specific vesting date which is no later than 5 years after the date of grant and there is no tax avoidance motive.
- HMRC are considering whether there should be an exemption for short term loans where there is no tax avoidance motive. This is to address a concern that if a cashless exercise facility is offered in connection with an employee share plan, a tax charge may arise.
- If an employee sells shares to a third party (such as an EBT) for not more than their market value, then a tax charge should not arise under the new rules.
- It was confirmed that the new rules would apply to arrangements with any relevant third parties – not merely EBTs and EFRBS. This could catch loans or other benefits made from a parent company to the employee of a subsidiary. However, to address this concern it is proposed that arrangements entered into by group companies will not be caught by the new rules, provided that the arrangements are entered into for wholly commercial purposes.
- The legislation will no longer catch direct employer/employee transactions where the employer holds a sum of money as part of the arrangement.
Conclusion
Although the FAQs do provide some helpful clarification of HMRC's intentions, there remain some areas of uncertainty in relation to disguised remuneration. If you are dealing with any situation where a person, other than the employer, is providing, thinking of providing or notionally allocating any value to an employee, you need to consider the application of the new rules.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.