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EDITORIAL
  
A proven IHT-avoidance plan

I am always surprised by how few people take advantage of the capital tax treatment of heritage chattels. Here is a simple way to save inheritance tax (IHT), and yet for want of filling out a form, few people bother with it.

The rules are straightforward. If you own objects, land and/or buildings of outstanding or architectural interest and you undertake to make them available to the public to enjoy for 28 days a year, they are exempt from IHT.

Do not think that the 28-day rule is onerous, either. In the case of objects, there is no question of having to suffer coach parties trooping through your home. If you make arrangements to lend the object to a museum for this period then your obligation should be fully met. In the case of land or buildings, well, yes, you must make them available to visitors but it can be by appointment and, of course, they may not come!

So, what sort of objects are eligible for this generous treatment? The panel members who make the decision will ask themselves the following questions:
  • Does the object have an especially close association with our history and national life?
  • Is the object of especial artistic or art-historical interest?
  • Is the object of especial importance for the study of some particular form of art, learning or history?
  • Does the object have an especially close association with a particular historic setting?
A set of questions that leaves plenty of flexibility. For anyone who is concerned with wealth preservation, the 'heritage chattels' rules are a golden and well-proven opportunity to pass on assets with no tax consequences. If you want to know more about this, visit the HMRC website (www.hmrc.gov.uk) and look at its latest memorandum on the subject: Capital Taxation and National Heritage.

Painless extractions of cash

One of the most successful tax-avoidance schemes that our esteemed specialist, Alan Pink, frequently recommends is setting up a partnership and then introducing a corporate partner. By transferring partnership profits to the corporate partner, it is possible to defer and reduce the tax liability. What I often get asked is how the partners can best extract these profits. Here is a summary of the main methods:
  1. Dividends
    For basic-rate taxpayers, dividends have a 0% effective rate of income tax. Remember that if you and your spouse own shares in the company then you can claim double the personal allowance. Pre-tax profits of £200,000 extracted from a company as dividends (when the top rate of tax finally disappears!) as opposed to self-employed profits would save around £24,000 of tax.
      
  2. Winding up the corporate partner
    If you are quick, you can take advantage of extra-statutory concession C16. If not, you may still be able to dissolve the company and take advantage of various tax breaks. Don't forget entrepreneurs' relief may also be available. Indeed, when setting up the corporate partner, it is well worth establishing it in such a way as to ensure this valuable relief can be applied. The savings (without this relief) on £200,000 by making a capital distribution could be as high as £38,000.
      
  3. Pension contributions
    It may be possible for you to extract profits via pension contributions.
      
  4. Loans from the company
    The rules about company loans are too complex for me to provide even the briefest of details here but for some shareholders there will be tax-deferment and even tax-avoidance possibilities by going down this route.
Trading overseas

One of the effects of the recession is that many more businesses are starting to eye overseas markets with rather more interest than before. After all, exports or an overseas operation could well save even a small to medium-sized business from the worst excesses of the British downturn.

From a tax perspective, there are benefits and pitfalls to trading overseas.

As every business and every jurisdiction has different rules - leading to endless possibilities when it comes to structure, funding alternatives and tax treatment - it is impossible to do anything other than generalise here.

Let us take structure. Without realising it, once you start trading in a particular country, you may well find that you have established a branch there, even if you are barely doing any business in the jurisdiction worth mentioning. Before you get to this stage, you need to think of the advantages of establishing a branch over a subsidiary. These are:
  
Branch
Subsidiary
Less expensive to establish
Limited liability
You can use overseas tax losses
Easier to identify profit/loss
No shareholding issues
May have local tax advantages
Much easier to close
Easier to repatriate profits
Can be incorporated in future
Could present a tax-efficient exit
  
But before you go down either route, you must take tax advice. In particular, watch out for countries that withhold a percentage of profits and even income before they can be transferred back to the UK. Another issue to deal with will be how to fund your overseas business. Here are the pros and cons of a loan versus equity:
 
Loan
Equity
Lowers profits in high-tax country
If low-tax country, tax saving
Makes it easy to extract funds
Avoids restrictions on debt finance
Flexibility to convert to equity
Gives access to dividend exemption
Usually no capital/stamp taxes
Minimal share capital usually
Thin capitalisation rules apply
Much simpler
  
There are a couple of traps that the unwary entrepreneur can fall into.

The first trap is transfer pricing. There was a golden age when it was not illegal to set up a company in a low-tax offshore location and use it to retain the bulk of the profits. In other words, UK Limited would supply Offshore Limited at little or no profit and Offshore Limited would then sell the goods or services on to Overseas Customer Limited at the commercial rate. This is now illegal, and in some jurisdictions one may be called upon to provide documentary evidence to the effect that everything is arm's length. (Having said this, I am certain that it still goes on a great deal but that those involved are careful to hide the evidence.)

The second trap is the controlled foreign company legislation, which is designed to stop businesses from artificially diverting profits to countries with lower tax rates. This becomes very complicated when tax treaty agreements are brought into the equation; specialist advice is vital in these circumstances.

Finally, from day one you should have a clear idea about how any profits are going to be repatriated back into the UK. There are various routes - dividends, royalties, interest, intercompany service charges and trading transactions.

HMRC slammed by UK's leading accountants

A group of senior tax consultants - brought together by Tolley's, a specialist tax publication - has been highly critical of HMRC. At a meeting this autumn, its members took as their theme a quote from Anthony Thomas, the incoming President of the Chartered Institute of Taxation, who said: "A fair tax system requires respect on both sides. HMRC are at risk of damaging the trust that has been built up over centuries between taxpayers and tax collectors."

HMRC was criticised on four counts:
  1. The introduction de facto of secondary legislation. For instance, the use of press releases after the Budget, which have no parliamentary scrutiny.
  2. The lack of proper collaboration. It seems to have decided what it is going to do before it bothers to consult the profession.
  3. The constant requests for additional powers without showing why such powers are necessary.
  4. Constant operational difficulties, such as failure to answer the post, PAYE errors and so forth.
I think it may also be criticised for its habit of selective and erratic interpretation of the law and the unpardonable sin of pushing for retrospective legislation (although politicians must share the blame for this).

All in all, a very sorry state of affairs.

Season's Greetings

Season's Greetings to all our readers and thank you for your continued support. I will allow myself this one tax joke, sent in to me by Beth Smith, a reader from Hampshire:
A couple of weeks after hearing a sermon on Psalms 51: 2-4 (knowing my own hidden secrets) and Psalm 52: 3-4 (lies and deceit), a man wrote the following letter to HMRC: "I have been unable to sleep, knowing that I have cheated on my income tax. I understated my taxable income, and have enclosed a cheque for £200. If I still can't sleep, I will send the rest."
 
EDITOR'S NOTE

The pendulum swings

Many of our readers may have opened this month's copy of The Schmidt Tax Report expecting an exhaustive, blow-by-blow account of the chancellor's Autumn Statement. As this edition goes to press, however, there's next to no official published detail of the proposed tax changes (except for the new tax rates and allowances). So, to make our commentary authoritative, and therefore useful, I have made the decision to cover the Autumn Statement tax changes (such as they are) in the next edition, which appears in the New Year. This is much less of a hardship, it seems to me, than it would have been a few years ago, when the bulk of the serious tax announcements were happening more and more in the autumn, rather than the previously traditional spring Budget. At one point the main Budget was even moved to the autumn. If anyone does have any burning questions to ask about the new seed EIS scheme, however, do remember there's always our Ask the Experts service.

Alan Pink
Technical Editor