March 2010 Budget: measures against corporation tax avoidance schemes using share incentive plans
A legal update about the announcement in the March 2010 Budget of anti-avoidance legislation to combat the abuse of corporation tax deductions available for HM Revenue and Customs-approved share incentive plans.
The March 2010 Budget includes anti-avoidance measures relating to the availability of corporation tax (CT) deductions for contributions to an HM Revenue & Customs (HMRC) approved share incentive plan (SIP) (www.practicallaw.com/3-107-7252). The legislation will be included in Finance Bill 2010 but will have effect for contributions made on or after 24 March 2010.
This measure has been adopted to prevent companies from claiming CT deductions in relation to contributions to a SIP in circumstances where little real value is actually awarded to employees under the SIP, because the share capital or share rights are altered after the contribution is made to reduce the value of the SIP shares. The measure also gives HMRC powers to withdraw approval of a SIP where changes are made to share capital or share rights which materially affect the value of SIP shares, even if none have yet been awarded to participants.Close speedread
HM Revenue and Customs (HMRC) approved share incentive plans (SIPs) (www.practicallaw.com/3-107-7252) are a type of tax-favoured all-employee share plan under which employees can:
Purchase partnership shares worth up to £1,500 per tax year;
Be awarded free matching shares in relation to their partnership shares, on up to a 2 for 1 basis;
Be awarded free shares (possibly linked to performance) worth up to £3,000 per tax year; and
Re-invest up to £1,500 worth of dividends paid on SIP shares in the purchase of dividend shares.
For more information on the types of shares and the tax advantages available under a SIP, see Practice note, Employee share schemes: an introduction: Share incentive plans (SIPs) (www.practicallaw.com/9-107-4444).
One of the benefits for the company operating the SIP is that contributions the company makes to enable the SIP to buy shares to award to employees are generally deductible for corporation tax (CT) purposes (provided the shares are awarded to employees within a specific period after the contribution is made).
However, some companies are taking advantage of the CT relief available for contributions to a SIP to obtain a deduction in circumstances where little real value is actually awarded to employees under the SIP.
These avoidance arrangements involve the company making a CT-deductible payment to the trustees of the SIP to enable the trustees to buy shares from existing shareholders for use in the SIP. The company claims the deduction, but shareholders then approve alterations to the share capital or rights attaching to shares which strip away the value of the SIP shares.
Draft anti-avoidance legislation
The March 2010 Budget announced (in BN39) the publication of draft legislation (with explanatory notes) to disallow a SIP-related CT deduction where payments are made in connection with a SIP as part of a tax avoidance arrangement. The draft legislation also gives HMRC power to withdraw approval for a SIP in certain situations if changes are made to the share capital of a SIP company or the rights attaching to any shares in the SIP company.
The draft provisions will be included in Finance Bill 2010, but have effect for:
Contributions to a SIP; and/or
Alterations to the share capital of, or the rights attaching to any shares in, a SIP company,
made on or after 24 March 2010.
The draft legislation amends:
The provisions of Schedule 2 of the Income Tax (Earnings and Pensions) Act 2003 relating to withdrawal of HMRC approval for a SIP, allowing approval to be withdrawn if there is a change in share capital or share rights which materially affects the value of the SIP shares, even if none have then been awarded to participants.
The provisions of the Corporation Tax Act 2009 relating to the availability of CT deductions for contributions to a SIP, denying a deduction where the payment is made under tax avoidance arrangements. "Tax avoidance" in this context includes any arrangements the purpose (or main purpose) of which are to obtain a CT deduction (or an increased CT deduction).
The SIP legislation already provides that HMRC approval may be withdrawn if alterations are made to share capital or rights which materially affect the value of SIP shares awarded to participants, and part of the purpose of this legislation is to extend HMRC's powers in this area to close a loophole which allowed companies to alter share capital and rights before any SIP shares have been awarded without any negative consequences.
It seems likely that this type of tax avoidance involving SIP CT deductions has been used by a relatively limited range of companies (because they would probably need to be private companies with a limited group of shareholders, so as to be able to make the necessary changes to the company's share capital structure), but it is not surprising that HMRC is keen to clamp down on a practice which enables companies to undermine the fundamental purpose of SIPs.