Is it OK to breach transactions in securities legislation?
21st August 2023
Posted in Articles, Business Asset Disposal Relief, Capital Gains Tax, Private Client, Tax Risk and Investigations by Andrew Marr
Transactions in securities legislation (TISL) has been around for a long time and the legislation has gone through some changes, most recently from 6 April 2016. Its main aim is to allow HMRC to issue a ‘counteraction’ notice in certain circumstances which has the effect of converting capital tax treatment to income tax treatment. The circumstances are broadly where HMRC believe a shareholder has accessed company reserves in a capital form. One can understand how HMRC would want a legislative weapon in circumstances where a taxpayer extracts value at 10% (assuming the availability of Business Asset Disposal Relief (BADR)) when they would otherwise be paying tax at a rate of 39.35%, which is the additional tax rate for dividends.
Example
Roger owns two separate trading companies, Company 1 and Company 2 which are each involved in the logistics industry. Company 2 is valued at £1m including £700,000 of distributable reserves and Company 1 is valued at £3m. Roger decides that it will be a good idea to sell Company 2 to Company 1 for its market value of £1m. He duly does this, and Company 1 pays him cash for the acquisition, possibly using the £700,000 in Company 2 to do so. As an aside Company 1 will also pay £5,000 stamp duty. Roger thinks that this is a great outcome because he pays £100,000 on the £1m gain with BADR (and negligible base cost) whereas he would have paid tax of £393,500 on a £1m dividend from a combination of Company 1 and Company 2.
In the above example HMRC would have 6 years from the end of the tax year in question to counteract the tax advantage. Here, they would probably seek an extra £293,500 from Roger and would have good grounds to do so based on the TISL legislation. They would also apply late payment interest by reference to when the tax would have been payable. The strange thing about TISL is that there is no obligation for taxpayers to assess themselves to it, and in fact it is impossible for them to do so even if they did want to. Therefore, will Roger in the above example end up having the last laugh? Anecdotal evidence suggests that perhaps he will.
How often are counteraction notices issued?
RSM obtained some very interesting data under a recent freedom of information request which showed that HMRC issued 0 counteraction notices in 2017/2018 and 2018/2019; less than 10 in 2019/2020; 13 in 2020/2021 and 119 in 2021/2022 (and this spike related to taxpayers rushing to do various things before the rules changed in 2016). This does seem to suggest that Roger’s odds of ‘success’ in the above example are pretty good, although the above data does not show how many taxpayers settled before a counteraction notice was issued.
Forbes Dawson view
Therefore, is it ‘acceptable’ to enter into a transaction which falls within the scope of TISL? I think that on balance the answer here is yes, but the taxpayer should have a clear understanding about how things could play out and also ensure that they have enough funds to pay any successful ‘call’ by HMRC. Some would argue that this conclusion is unethical, but I think that they demonstrate a misunderstanding about the fundamentals of the tax self-assessment system. How can it be unethical to enter into a transaction where there is only one correct way to self-assess (as Roger has done in the above example)? Clearly the flip side of this coin is that any taxpayer who does what Roger has done will have to suffer over six years of tax uncertainty. However, TISL legislation should not be confused with ‘anti-phoenixing’ legislation for liquidations where proceeds on a liquidation can be taxed as dividend income where certain conditions apply. This latter legislation is very much within the self-assessment regime and (in contrast to TISL) hefty penalties can be incurred if taxpayers carelessly ignore it.
