Key announcements of interest to finance lawyers arising from the 2011 Budget.
The Chancellor, George Osborne, delivered his 2011 Budget Report on 23 March 2011. This update summarises the key announcements for finance lawyers.
For details of PLC's comprehensive coverage of the 2011 Budget, including tailored practice area updates, see PLC 2011 Budget.
References in this note to "Overview" are to the HM Revenue & Customs and HM Treasury Overview of Tax Legislation and Rates, published on 23 March 2011.
Asset purchase facility remains in place
The government confirmed that the asset purchase facility will remain in place for the 2011-12 financial year. Pursuant to the asset purchase facility, a wholly owned subsidiary of the Bank of England has, since 2 February 2009, been authorised by the government to purchase from banks, other financial institutions and financial markets "high quality private sector assets", including corporate bonds, commercial paper, syndicated loans and certain asset-backed securities created in "viable securitisation structures".
The government has confirmed that the bank levy will be introduced in the Finance Bill 2011. For details of the bank levy including rates for 2011, see Practice note, Bank levy.
However, the government announced in the 2011 Budget that the rates of the bank levy from 1 January 2012 will be higher than previously announced; this is to offset the benefit to banks of the cut in corporation tax (see Corporation tax rates reduced). The bank levy rates from that date will be:
For more on the bank levy in the context of tax indemnity and increased cost clauses in facility agreements, see Drafting note, Facility agreement: Bank levy and Increased costs: Part 2, Schedule 5.
The main rate of corporation tax will be reduced by a further 1%, following the four annual reductions announced in the June Budget 2010 (see Legal update, June 2010 Budget: key business tax announcements: Corporation tax rates reduced from 2011-12). From April 2011, the rate will be reduced from 28% to 26% and, by 2014, it will reach 23%. The main rate applies to companies and groups whose annual profits exceed £1.5 million.
Entrepreneurs' relief is relevant to the tax treatment of loan notes where these are issued by a buyer to a seller (or sellers) as an alternative to cash in a share purchase transaction. The government announced that, effective from 6 April 2011, the lifetime limit on capital gains qualifying for entrepreneurs' relief (where eligible gains are taxed at a 10% rate of capital gains tax) will be doubled to £10 million.
For more on the tax treatment of loan notes issued as share consideration, see Drafting note, Loan note instrument (share consideration): Tax treatment of loan notes: individual sellers.
Taxation of new bank capital instruments to be explored
The government announced that it will set up an industry working group from April 2011 to look at any tax issues associated with new bank capital instruments developed in the light of the Basel III proposals and, if necessary, will legislate in the Finance Bill 2012.
Sharia-compliant variable loan arrangements: direct tax rules
The government will make regulations introducing direct tax rules for Sharia-compliant variable loan arrangements and derivatives in 2011, following formal consultation with industry. For more information on Sharia-compliant financing and derivatives, and tax issues in relation to them, see:
No further details of this measure were provided as part of the 2011 Budget. However, this does signify that the government is continuing to seek to tax Sharia-compliant transactions in the same way as their "conventional" counterparts.
Securitisation: remedying adverse effects of amended "specified investment" definition
The government announced that the Finance Bill 2011 is to include legislation providing a further remedy for the potential adverse tax and regulatory consequences for some types of debt securities that resulted from amendments made to article 77 of the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 (SI 2001/544) by the Financial Services and Markets Act 2000 (Regulated Activities) (Amendment) Order 2010 (SI 2010/86).
The government has announced further possible changes to the debt cap rules (that is, what finance expenses may be deducted by corporate taxpayers when calculating their tax liability).
In the 2011 Budget, the government stated that ongoing consultation on the rules had identified practical issues with their application that need to be addressed. The government is to hold a consultation in June 2011, followed by draft legislation in autumn 2011 with a view to including the legislation in the Finance Bill 2012. The stated aim of this exercise is to allow businesses to apply the debt cap more easily.
Loan relationships and derivatives: reducing foreign exchange exposure
The rules on taxing loan relationships and derivatives in accordance with economic reality, rather than in accordance with their accounting treatment, are to be expanded.
Under the Loan Relationships and Derivative Contracts (Disregard and Bringing into Account of Profits and Losses) Regulations 2004 (SI 2004/3256) (Disregard Regulations), in certain circumstances, companies may be taxed in relation to financial instruments hedging assets or liabilities in accordance with the economic reality rather than (as is usually the case) in accordance with the accounting treatment. This can be useful if, for example, a derivative is accounted for on a fair value basis (giving rise to credits and debits for foreign exchange movements) but the hedged item is not.
The government is to hold an informal consultation on its proposals in May 2011 before producing the enacting secondary legislation for comment "in the first half of 2011".
Reduce the capital allowances main rate for expenditure on plant and machinery to 18% (from 20%) (although reduction of the special rate for pool expenditure to 8% (from 10%) is not mentioned as it was in the June 2010 Budget).
Reduce the annual investment allowance to £25,000.
The legislation for these measures will be included in the Finance Bill 2011.
These changes may be of interest to finance lawyers involved in leasing transactions, as the nature and extent of capital allowances available to a lessor (against the acquisition cost of an asset) may be a factor in determining whether that lessor enters into a finance lease.
Finance and operating leases: changes to accounting standards
In the 2011 Budget, the government confirmed its previous announcement, made on 9 December 2010, that it will introduce legislation to ensure that the tax treatment of leases is not affected by future changes to lease accounting standards.
New accounting standards are expected to be introduced from 2011, broadly removing the accounting distinction between operating and finance leases (by bringing operating leases onto the balance sheet). For more information on the proposed changes to accounting standards and their impact, see Legal update, IASB and US FASB proposals on lease accounting.
The government has announced or confirmed the introduction of anti-avoidance legislation and announced a number of consultation proposals. These include:
Finance leasing: double tax deduction. The government confirmed that the Finance Bill 2011 will contain legislation to counter arrangements designed to obtain a double tax deduction for lessees of plant and machinery under long-funded finance leases. The arrangements enabled lessees to claim tax relief twice on amounts paid in relation to guarantees.
The measure was announced on 9 March 2011 and will apply after that date. Draft legislation was also published on 9 March 2011.
Loan relationships and derivatives: derecognition. The government confirmed that the Finance Bill 2011 will include provisions to block schemes that take advantage of the loan relationships and derivatives contracts rules on amounts not fully recognised for accounting purposes.
The previous draft of this legislation was published on 6 December 2010 (see, Legal update, Revised draft legislation on derecognition of loan relationships and derivatives). As part of the 2011 Budget, the government stated that the legislation would be further amended, including clarification that the legislation only applies if a company remains party to a loan relationship or derivative contract.
Disclosure of tax avoidance schemes (DOTAS): extension. The government confirmed that it will consult on changes to the description of schemes that must be disclosed to HMRC under the disclosure of tax avoidance schemes regime. The changes will address known avoidance schemes, including schemes that use offshore transactions to avoid corporation tax.
The changes will be implemented in 2011-12. This is relevant to promoters of tax avoidance schemes, including banks and other financial institutions and their clients.
Treaties: measures to combat avoidance. The government announced that it will draw up measures to combat the avoidance of UK tax using double taxation treaties (DTTs). The measures will target both UK residents (individuals, trustees and companies) who use tax avoidance schemes and overseas residents who claim benefits to which they are not entitled under the UK's DTTs.
DTTs are often used to lower the withholding tax payable in one country on dividends, interest and royalties paid to a person in the other country. A DTT may be relevant to a finance lawyer in the context of a facility agreement where the parties are located in different jurisdictions and the facility agreement contains a grossing-up obligation (for example, see Standard document, Facility agreement: Schedule 5).
Group mismatches. The government confirmed that the Finance Bill 2011 will contain measures to prevent tax losses arising through the asymmetrical tax treatment of loans and derivatives (known as group mismatches).
Draft legislation was published on 6 December 2010 (see Legal update, Draft legislation on group mismatches). As part of the 2011 Budget, the government announced a number of amendments to the draft legislation, including clarifying that only UK-to-UK transactions will be affected by the rules.
The Code of Practice on Taxation for Banks (Code) was introduced in December 2009. It aims to counter tax avoidance and is voluntary. The government announced that 200 banks have adopted the Code.
In the 2011 Budget, the government announced that the initial capitalisation of the green investment bank will be £3 billion and that it will begin operation in 2012-13, a year earlier than previously anticipated.
In the 2011 Budget, the government announced that the waiting period for new working-age SMI claimants will remain at 13 weeks and the limit on eligible mortgage capital will remain at £200,000 for one year from January 2012.
HM Treasury's Plan for Growth, published alongside the 2011 Budget Report, outlines a number of government initiatives to stimulate growth, particularly in the context of supporting UK exporters and encouraging trade and inward investment. Some of the initiatives are new, although many have been announced before the 2011 Budget. They include:
Expanding the eligibility of the Export Credit Guarantee Department's (ECGD) Export Insurance Policy, an existing short-term credit insurance for exporters.
Making the Letter of Credit Guarantee Scheme permanent and continuing to allow ECGD's guarantees to be used to raise long-term finance in capital markets for UK exports.
Implementing three new trade finance products with the ECGD: a bond support product, an export working capital product and a foreign exchange credit support scheme.
Introducing the Export Enterprise Finance Guarantee, a government guarantee of short-term export finance to help small to medium sized enterprises (SMEs).
The Project Merlin agreement with major UK banks to increase finance available for SMEs by 15% in 2011.
The Big Society Bank, providing finance for civil society organisations through social finance intermediaries.
Reviewing the UK covered bond framework to increase their appeal to investors and making it easier for banks and building societies to raise finance.
Extending the Enterprise Finance Guarantee scheme.
Encouraging equity finance programmes for both start-up enterprises and established businesses.
Working with banks and borrowers to restore bank-business relationships including reviewing the typical loan application process and the Lending Standards Board's Lending Code.
Encouraging industry-led initiatives to increase the use of debt capital markets for SMEs, such as the standardisation of bond transaction documentation.
Investigating lenders: restricting competition in the audit market
As part of its initiatives to reduce costs to businesses, the government is to call on the Office of Fair Trading to investigate claims that lending agreements frequently contain clauses that unfairly restrict competition in the audit market. In July 2010, the Organisation for Economic Co-operation and Development suggested that some banks will only lend to customers if they agree to have their audits undertaken by the top-tier firms.