In its formal response to the Government's consultation, the Chartered Institute of Taxation (CIOT) said that the assertion by both the Treasury and HMRC that those who are caught by these provisions will know who they are and will readily be able to compute the income affected, is 'naïve'.
The CIOT said that its key concerns with the proposals are that:
- There would be a significant increase in administrative burdens for owner managed businesses - each business would need to record the contribution made by each partner or shareholder to the business, to enable them to justify to HMRC their respective extraction of business income.
- Each business would need to be able to prove to HMRC that there was no intention to avoid tax when deciding upon their business structure, to benefit from the exemption from the rules. This would be very difficult for a small business.
- The legislation proceeds on the basis that an income shift can be proven on a 'one sided' basis, ie if Individual one takes action. We think that if this legislation is to proceed it must target mutual actions, ie when Individuals one and two act in concert to achieve a tax advantage.
- There are confidentiality and data sharing concerns - business owners potentially caught by the legislation would need access to confidential tax information about their fellow business owners to be able to self assess properly yet without, it seems, the right to such information.
- Coupled with this, the recent proposal to introduce legislation to cover an error in a taxpayer’s document attributable to another person is of concern to us. It means that a taxpayer who provides incomplete or incorrect information to someone else (eg the ‘shiftee’ to the income ‘shifter’), even where there was no power to request nor duty to provide that information, could be subjected to penalties.
- The objectives of the legislation would not be achieved with a very low increase in tax revenue, which would be borne by those in the business community least able to bear it. The assertion that we have heard voiced by both HM Treasury (HMT) and HMRC, that those who are caught by these provisions will know who they are and will readily be able to compute the income affected, is naïve. It also seems to miss the point that, in an era of self assessment, taxpayers have to consider all the legislation, assess accordingly and be aware that an HMRC enquiry may follow one day.
- A risk of non-compliance due to ignorance or lack of understanding or an inability to devote sufficient time to maintain sufficient records to justify a stance taken – which could spill over into other areas of tax compliance – and HMRC will be the loser.
- Retroactive additional taxation of prior years’ business income. Whilst only applying to tax years after 5 April 2008, the legislation will be taxing income generated as a result of actions that have already occurred and which cannot be changed (as opposed to retrospective which looks back and taxes income in previous periods).
- The risk of reallocation of current year income which arose as a result of intellectual property generated in earlier years.
- Unintended consequences, such as problems for couples going through separation or divorce.
- Problems for business succession – especially for farming businesses or others where, traditionally, there is a gradual transfer to the next generation.
- A surge in bespoke insurance policies to minimise the risk of being ‘caught’ by the legislation.
- An increase in work for employment bureaux selling advice on a ‘commercial rate’ for an owner manager’s job – taking into account the myriad roles which such a person carries out.
- A perceived unfairness in that these proposals are generally levied at small businesses with modest incomes.
The CIOT concluded that the proposals be dropped or at least delayed. It said: "We recommend that HMT reconsider how small businesses are taxed, to reflect the 21st century business community.
"Structures and the business community have evolved over time and the tax system has not been modernised to keep track of this. These proposals are not a good way to sort out the problem. We consider that the proposals should be dropped or, as a minimum, be deferred for a year whilst a proper review is carried out."
The Government introduced its income shifting proposals after it was defeated in the Arctic Systems House of Lords case. Income shifting is the process by which a business is owned by a two connected people, usually husband and wife.
The Government claims that the dividends received by a person who is subject to a lower rate of tax and makes less contribution to the income of the business should be treated as 'shifted income' and taxed as if they had been received by the higher tax payer.
The new rules will come into effect in April 2008. They have been criticised by many parties as being too complex, unworkable and leave significant areas of uncertainty. There has been media speculation that they could be some degree of climbdown in the Budget as a result of the widespread condemnation of the proposals.
Shout99 has followed the events relating to Section 660 and income shifting. You can also read more about the background to this case and the issues at stake in Shout99's Section 660/Income shifting resource centre.
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