The recent arrest of several bankers, alleged to have embarked on tax evasion through fraud, serves as a timely reminder of the unforeseen consequences of aggressive tax planning. The appetite for tax mitigation schemes, many of which have to be declared to HMRC in advance (under the DOTAS legislation), will, I suspect, not be sated by such incidents.
The rise of the UK personal tax rate to 50 per cent provided the catalyst for a surge in demand for such tax planning opportunities. As one Swiss hedge fund client replied when asked why he was embarking on a complex and expensive tax mitigation strategy, “Working Monday and Tuesday for the tax man was fine, now HMRC require me to work Monday through to Wednesday and I want my Wednesdays back.’
We can only categorise the risk of tax planning opportunities like traffic lights. Standard effective tax planning, using pensions, could be considered to have a green light from HMRC. In the flashing amber category, we would place more complex structures such as Venture Capital Trusts, Enterprise Investment Schemes, Enterprise Zones and Business Property Relief schemes.
These have a higher degree of complexity and therefore risk; as there is more onus on scheme sponsors to adhere to the respective HMRC rules, to qualify for tax relief. Furthermore the rules have to be applied, in some cases, up to seven years beyond the investment date, for the initial tax relief not to be clawed back.
Firmly in the amber/red category, are tax planning strategies that often use leverage, to enhance a cash investment from an investor, often through an LLP structure into an underlying business. This often results in a first year loss, available to offset against the current and previous year’s income. Marketing of such schemes often centres around the theme, invest 20p to receive 50p back from HMRC. These investments are where HMRC take a more robust approach. The HMRC requirement for an investor to demonstrate an active participation of at least 10 hours a week, in the underlying business, is one area open to scrutiny by HMRC.
Furthermore, sponsors of such schemes candidly state to clients there will be an HMRC enquiry, often lasting several years before any tax relief is given. Self-employed investors could nevertheless enjoy an immediate tax benefit as they could simply reduce any tax payments until any enquiry is complete. Employed investors, however, will only receive tax relief upon the successful outcome of any enquiry. The future solvency of any sponsor and their ability to fund a complex enquiry could also be an issue.
Tax planning opportunities are not mutually exclusive. Clients can select different strategies to reflect their own tax risk appetite. However, getting into tax-planning schemes is easy. Getting the tax relief back with no issues is the challenge, as the bankers have found, perhaps to their cost.
Paul Panayi, CEO, Optimus – The Family Manifesto™ creating smart family offices