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Certain planning arrangements involve the use of a number of entities including both companies and trusts, some of which may be located offshore.
A key element of the structure is the creation of a contrived employment, the duties of which include entering into financial arrangements - e.g. stock lending - with another party.
During the course of the employment the individual will deliberately default with regard to one or more aspects of the financial arrangements.
This will trigger automatic damages payable by the individual to the counterparty to the lending.
The individual will have borrowed the money to pay the damages from another entity in the structure.
However, the individual will not in reality repay the borrowings and as a result suffers no genuine loss of money.
HMRC understand that the individuals who participate in these arrangements will claim that, under ITEPA 2003, ss 346 or 555, they are entitled to deduct the amount of the damages from their income on the grounds that the damages rank as a liability that was incurred when acting as employee.
The Government does not accept that these arrangements have the effect sought and will include appropriate countering legislation in Finance Bill 2009 to take effect from 12 January 2009 but will not apply to payments made before that date.
The proposed legislation will deny any deduction under ss 346 or 555 where the liability in respect of which the deduction would otherwise be due has been paid in connection with arrangements the main purpose, or one of the main purposes, of which is the avoidance of tax.
The new rule will not prevent a deduction being set off against the cost of insurance premiums paid for by the employer where the employer routinely takes out insurance policies whose sole purpose is to indemnify employees against employment related liabilities such as damages or legal costs relating to their jobs.
Similarly, a deduction will not be disallowed where the employer meets the cost of an uninsured employment-related liability incurred by an employee, so that the relief offsets the tax charge that would otherwise have applied.
Examples of how the new rule will work can be found in a technical note on HMRC’s website.
