ICAS comments on tax deductibility of corporate interest expense
Susan Cattell outlines the ICAS response to the second government consultation on changes to the tax deductibility of corporate interest.
Following an earlier consultation on high level policy the government has decided to go ahead with plans to restrict deductions of interest for companies, in line with the recommendations of the OECD Base Erosion and Profit Shifting (BEPS) project. Key aspects of the new regime include:
- Fixed ratio rule which will restrict the amount of relief for interest to 30% of a corporate group’s taxable earnings before interest, depreciation and amortisation.
- Group ratio rule: this complex (but optional) rule will permit some groups, with higher external gearing, to obtain a larger deduction than the fixed ratio rule.
- A modified debt cap regime will replace the current debt cap rules.
- Public benefit project exclusion (PBPE).
- De minimis threshold: this will be set at £2 million which should exclude most UK domestic groups.
The proposed start date of 1 April 2017 is too soon to give companies the chance to review and adjust existing long term arrangements. This is more than ever the case following the decision to leave the EU. The period between now and April 2017 is likely to be a difficult one in which to undertake refinancing. Companies will also be dealing with other pressing issues arising from the Brexit decision. ICAS is calling for a delay in implementation until 2019.
The UK has historically had a generous tax regime for the deduction of interest payments by companies and this has been a major factor in delivering a competitive corporate tax system. The introduction of a general restriction on interest deductibility is a major change for the UK and it is vital that it should not be rushed. Time should be taken to assess the approach of other jurisdictions to ensure that, as far as possible, UK companies are not left at a competitive disadvantage. The EU has set deadlines of 2019 or 2024 (depending on existing rules) to implement the OECD proposals. The UK should not go ahead in April 2017, well in advance of other major jurisdictions.
In addition to calling for a delay to the start of the new regime, ICAS has also called for the regime to come into effect for accounting periods beginning on or after a specified date. A single start date of 1 April 2017 adds complexity because companies with year ends other than 31 March will have to deal with straddling provisions. The most popular company year end is 31 December so the ICAS response suggests a starting point of accounting periods beginning on or after 1 January 2019. The same date should be used for the replacement of the old debt cap rules with the modified debt cap - under the proposals as they stand the dates would be different for many groups.
Additional OECD work
The main OECD recommendations relating to interest were published in 2015. However, it has since carried out additional work in two areas: Group Ratio rule and Banking and Insurance sectors. Draft papers were published very recently – too late to be taken into account in the government’s proposals for the UK regime. Proper consideration needs to be given to the additional OECD work which will not be possible if the changes go ahead in 2017.
Public Benefit Project Exemption (PBPE)
This remains too narrow and will potentially exclude many projects which should qualify. For example, the PBPE will only be available if at least 80% of gross revenue generated from the project is expected to arise from public benefit services. This could exclude some PPP companies where they have revenues from non-public sources – such as companies in the waste sector which often provide services to non-public bodies.
Normally when tax rules change ‘grandfathering’ provisions are included to exclude arrangements entered into before the rules were altered. However, the UK proposals do not include any provision for grandfathering existing financing arrangements. ICAS believes the new regime should include grandfathering provisions so that companies have a longer period to adjust and undertake refinancing. This is important for all companies but particularly for those in the infrastructure sector. Both the OECD and the EU envisage grandfathering being available, so unless the UK changes its approach UK companies are likely to be left at a competitive disadvantage.
De minimis threshold
This has been increased to £2 million (from the £1 million originally proposed). This is a welcome change. It is helpful that 95% of groups (and standalone companies) will easily be able to see that they are unaffected by the rules. It would though be helpful to include provision for periodic reviews of the threshold, or some form of indexed increase, to take account of changes in interest rates and erosion of the threshold.
The ICAS response also covered some of the detailed questions in the consultation.