Tax Bites - August 2022

Welcome to the latest edition of RPC's Tax Bites - providing monthly bite-sized updates from the tax world.

As always, if there are any areas you would like more information on (or if you have any questions or feedback), please let us know or get in touch with your usual RPC contact.

News

HMRC calls for evidence on the taxation of decentralised finance involving cryptoasset lending and staking

HMRC has published a call for evidence (CFE) on possible changes to the taxation of cryptoasset loans and staking in decentralised finance (DeFi). This is part of the first stage of the tax consultation framework, which closes on 31 August 2022.

In February of this year, HMRC updated its guidance on the taxation of DeFi transactions and subsequently committed to review the tax treatment of DeFi loans and staking.

The information requested in the CFE includes the size of the UK DeFi lending and staking sector and the extent of the disincentive provided by the current tax treatment. This will assist in deciding what (if any) changes are required to reduce taxpayer administrative burdens and costs and to align the tax treatment with the underlying economics of DeFi loans and staking. Concerns have already been expressed to HMRC about the capital gains tax treatment of these transactions where there is no change in the effective economic ownership of the cryptoassets, specifically, treating as disposals transactions such as lending, or providing as collateral, tokens to a DeFi platform. The CFE:

• Sets out relevant objectives and principles, including achieving broadly similar tax outcomes for holders of cryptoassets as for holders of shares (and other financial assets) in relation to lending or holding those assets.
• Seeks views on extending either (or both) the repo and stock lending regimes to cryptoassets as securities (alternatively, introducing a bespoke regime for DeFi lending and staking activities modelled on the rules for repos and stock lending) or introducing a no gain/no loss treatment for DeFi loans and staking.

The CFE notes HMRC's views that it normally expects a platform to be trading and that an individual holding cryptoassets and engaged in DeFi transactions is unlikely to be trading.

Aligning the taxation of lending and staking of cryptoassets with that for shares would bring DeFi further into the realm of mainstream finance, although clearly technological evolution may make defining qualifying cryptoassets a challenge.

Government consults on narrowing sovereign investor tax immunity

HM Treasury has launched a consultation on sovereign immunity from direct taxation. The consultation closes on 12 September 2022, and those wishing to attend meetings during the consultation must contact HM Treasury by email before 25 July 2022.

The proposal is to put sovereign immunity on a statutory basis from April 2024, replacing the current regime (based on case law and common practice) with a narrower statutory exemption that is limited to UK source interest income and available to a defined class of persons (including all constituent territories of federated states). Exemption will require prior approval by HMRC. Trading income and income and gains from immovable property, including dividends from REITs, would become taxable. International organisations will continue to qualify for exemptions required by the UK's treaty obligations.

The consultation is on policy design and seeks views on the proposed change, particularly the proposed approaches to:

• Identifying eligible sovereign persons, including whether government pension schemes and wholly-owned government entities should qualify for the statutory exemption.
• The income that should be exempt.The timetable, transitional considerations (such as rebasing, possibly on an optional basis, capital assets to market value and apportionment of accounting periods straddling 1 or 6 April 2024) and the tax administration processes for sovereign persons. The government proposes that existing tax reporting, payment, compliance and judicial processes should apply.

Views are also sought on the treatment of sovereign immune investors as qualifying investors for various regimes (including REITs, qualifying asset holding companies and substantial shareholdings), the scale of investment through such structures, common ownership structures that sovereign wealth funds (SWFs) and foreign pension funds use for UK property investments, and methods that might be used to mitigate any changes to the current tax treatment. A narrowing of the inheritance tax exemption is also proposed.

Sovereign immunity is a valuable tool in attracting inward investment, including from SWFs and pension funds. Clarifying and extending the recipients of the exemption is welcome, but restricting it to a narrower class of income (particularly excluding income and gains from UK immovable property) may be controversial. The government's expectation is that the proposed changes will not have a material impact on such investment.

OECD invites public input on the Progress Report on Pillar One

Following many years of negotiations to update and fundamentally reform international tax rules, 137 members of the Inclusive Framework joined the Statement on the Two-Pillar Solution to Address the Tax Challenges Arising from the Digitalisation of the Economy, released in October 2021.

Since that time, significant progress has been achieved on the development of the technical rules of the new taxing right (Amount A). To seek further feedback from stakeholders, and consistent with the revised schedule for completing the work on Amount A agreed by the Inclusive Framework, the OECD secretariat has prepared a Progress Report on Amount A of Pillar One which includes a consolidated version of the operative provisions on Amount A (presented in the form of domestic model rules), reflecting the technical work completed to date. This report does not yet include the rules on the administration of the new taxing right, including the tax certainty-related provisions, which will be released in due course and before the Inclusive Framework meeting in October 2022.

Updated HMRC guidance on disclosure of tax avoidance schemes

HMRC has updated its disclosure of tax avoidance schemes (DOTAS) and the disclosure of tax avoidance schemes: VAT and other indirect taxes (DASVOIT) guidance.

The DOTAS and DASVOIT guidance has been updated to include details of HMRC's ability to issue a scheme reference number (SRN) where it reasonably suspects a scheme to be notifiable. There are two ways in which HMRC may allocate a SRN to a scheme under the DOTAS and DASVOIT rules: (1) when it is notified and informs the person who disclosed the scheme what SRN it has allocated to the scheme; (2) when it identifies a new avoidance scheme or a scheme that continues to be sold on or after 10 June 2021. Where HMRC suspects the scheme should have been disclosed, it will send the promoter or supplier a notice giving them 30 days to demonstrate that the scheme is not notifiable. If HMRC does not receive a satisfactory reply, then HMRC may give the scheme a SRN.

HMRC has also added a new section, which describes how, after allocating a SRN to a scheme, HMRC can publish information about that scheme. After notifying a promoter or supplier of the SRN it has given to a scheme, HMRC can publish the name of the promoter or supplier. Before publishing such details, HMRC must allow them the opportunity to make representations about why their details should not be published and give full consideration to any such representations.

Case reports

Follower notice penalties cancelled as failure to take corrective action was reasonable in all the circumstances

In David Andreae v HMRC [2022] UKFTT 142 (TC), the First-tier Tribunal (FTT) allowed the taxpayer's appeal and cancelled penalties which HMRC had imposed for failure to take 'corrective action' following receipt of follower notices.

This decision confirms that reliance on advice received from a professional advisor can be sufficient to demonstrate that it was reasonable, in all the circumstances, not to take corrective action. However, in this case Mr Andreae had carried out his own careful research, kept records and acted promptly and proactively. Taxpayers who are less diligent than Mr Andreae may face difficulties in seeking to rely upon a similar argument.

You can read our full commentary on the decision here.

Taxpayer was non-UK resident despite exceeding the permitted days due to 'exceptional circumstances'

In A Taxpayer v HMRC [2022] UKFTT 133 (TC), the FTT held that a taxpayer was non-UK resident, despite exceeding the permitted days, due to 'exceptional circumstances'.

This decision provides some useful guidance on how the tax tribunals and courts are likely to approach appeals brought by other taxpayers in similar circumstances to the taxpayer. Although the FTT said that HMRC’s requirement of an itemised timeline for each day was not necessary, taxpayers seeking to rely on the 'exceptional circumstances' exemption should keep a contemporaneous record evidencing the circumstances which are considered to be exceptional.

It is also worth noting that the taxpayer in this case remains anonymous due to a direction from the FTT. Such directions are rare, but where it is considered that the privacy of third parties, and in particular children, needs to be maintained, the FTT may be willing, as in this case, to issue a direction under Rule 14 of the Tribunal Rules anonymising its decision.

You can read our full commentary on the decision here.

Investments met the 'risk to capital' test required for Enterprise Investment Scheme relief

In Inferno Films Ltd v HMRC [2022] UKFTT 141 (TC), the FTT allowed the taxpayer's appeal against HMRC's refusal to authorise the issue of compliance certificates, finding that the taxpayer had satisfied the 'risk-to-capital' test required for Enterprise Investment Scheme (EIS) relief.

This decision represents an unequivocal rejection by the FTT of HMRC's overly narrow interpretation of the contemporaneous documentation when assessing Inferno's objectives to grow and develop its trade in the long term (for the purposes of the risk-to-capital test for EIS relief). The FTT's endorsement of a more realistic and commercial approach will be welcomed by taxpayers, in particular, by small newly formed companies that may have a necessarily short-term focus on individual projects in order to acquire the financial resources needed to grow and develop their trade in the long term.

You can read our full commentary on the decision here.

And finally...

How big an issue is tax avoidance? The tax gap refers to the difference between the amount of tax that should, in theory, be paid to HMRC, and what is actually paid. To help narrow this gap, HMRC has been granted a number of powers over the years, including those aimed at tackling tax avoidance. The Finance Act 2022 provided HMRC with additional powers to enable it to proactively clamp down on promoters of tax avoidance schemes, challenge misleading information and ''name and shame' connected individuals.

In a recent episode of our Taxing Matters podcast, we discuss with Danielle Ford, Head of Tax Disputes & Resolutions at haysmacintyre, how HMRC will use these new powers, the key issues that may arise and the impact they could have.