Revisions to corporate tax regime for foreign profits welcomed

The Chancellor confirmed that the corporate tax regime for foreign profits will be revised in a, mainly pre-announced, package that has to date received a mixed reception from the corporate sector.

In a welcome but overdue step, dividends from overseas subsidiaries will normally now be received completely free of UK corporation tax. This brings the system in line with many other countries having tax friendly holding company regimes, such as Luxembourg and the Netherlands, and should avoid future disputes by taxpayers complaining that the UK system flouts European Union law.  This change will apply from 1 July 2009 at the same time as new streamlined reporting requirements for cross border transaction replacing the antiquated "Treasury Consents" procedures.

However, the Chancellor has repeatedly stressed that these measures need to be tax neutral and, accordingly, he has confirmed that a new "Debt Cap" restriction will apply from 1 January 2010 onwards. This will reduce tax relief for certain interest expenses where the finance cost at the UK level exceeds the groupwide total.  Despite widespread lobbying, this measure will apply broadly as originally proposed.

As expected, the "Controlled Foreign Company" rules that apply UK corporation tax to the profits of certain low tax subsidiaries will continue in a revised form.  The new version of these anti-avoidance provisions, which have been cited as one driver behind the emigration from the UK of a number of high profile UK listed international groups, will be phased in over two years up to 1 July 2011.

Stephen Herring, Senior Tax Partner, at BDO comments: "It was essential that the uncertainty over the UK tax treatment of overseas dividends should be resolved and, to that extent, this measure is to be welcomed.  It is not unsurprising for the Chancellor to seek to control broadly related interest tax relief as a quid pro quo for exempting dividends, to the extent that the tax free income derives from the debt funding giving rise to the interest expense.  However, it is extremely disappointing that the method adopted will be both cumbersome and may, in certain cases, deny relief for wholly commercial financing costs of doing business in the UK. 

“Fundamentally, it is essential that steps are taken to shore up the eroding competitiveness of the UK corporate tax system.  The current 28 per cent corporation tax rate is higher than many competitor European nations and the decision to maintain the current rate represents a lost opportunity to support the UK's status as a location for the emerging business sectors that the Chancellor is aiming to encourage."

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