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RORY MULLAN suggests that when moving within the EU, UK nationals resident in this country may be at a disadvantage
KEY POINTS
- Influence of EU law on UK direct tax.
- Family, friends and assets affect UK residence status.
- Non-UK residents may be treated more favourably.
- EU citizenship includes the right to move freely within the EU.
- UK approach is discriminatory.
Principles of EU law are now well recognised as relevant to UK tax legislation. In particular, the freedoms laid down in EU legislation will impact on the interpretation of UK legislation in most cross-border situations.
Nevertheless, while there has been significant litigation concerning the interaction of the two spheres of law in the corporate tax arena, the position in the context of personal taxation has been markedly quieter.
Perhaps this is unsurprising, given the cost of litigation matters before the European Court of Justice.
This is particularly the case in relation to the question of UK residence where, despite the cross-border aspect of the issues raised and the recent flurry of cases in this area, there has been little discussion of the impact of EU law on principles which were developed by the UK courts long before the introduction of the European Communities Act 1972.
Despite this lack of discussion, however, it does appear that the principles determining when a person has become and, more relevantly, has ceased to be UK resident, must be considered in the light of EU law.
Once that is done, it would appear that some of the rules and approaches currently being applied by HMRC may not be defensible.
One such area is the ‘adhesive quality of residence’ recently considered by the Court of Appeal in R (on the application of Davies) v HMRC; R (on the application of Gaines-Cooper) v HMRC [2010] STC 860.
If it is more difficult for a UK national residing in the UK to become non-resident than it is for a French national residing in the UK, do the rules on residence therefore constitute a restriction on freedom of movement within the EU?
EU law and direct taxation
It is well established that while direct taxation falls within the individual competence of each member state of the EU, that competence must be exercised in compliance with EU law and in particular with the freedoms of movement laid down (currently) in the Treaty on the Functioning of the European Union: see, for example, X Holding BV v Staatssecretaris van Financien (Case C-337/08) [2010] STC 941 and the cases cited in that decision.
While this does not mean that every tax disadvantage which might arise from cross-border operations is unlawful it does mean that tax rules cannot operate to restrict one of the freedoms of movement set out in the treaty in a discriminatory manner.
The freedoms of movement, which are included in the fundamental freedoms guaranteed under EU law, clearly and in express terms prohibit what might be described as inward discrimination. In this regard a member state cannot protect the interests of its own nationals by discriminating against persons from other member states.
Such discrimination might take the form of preventing foreign persons from exercising freedoms within the member state concerned in competition with its own nationals.
Similarly, however, the fundamental freedoms restrict outward discrimination. Thus a member state cannot discriminate against its own nationals to prevent them from exercising freedoms of movement in relation to other member states.
For example, in de Lasteyrie du Saillant v Ministère de l’Économie, des Finances et de l’Industrie (Case C-9/02) [2005] STC 1722, an exit charge on unrealised capital gains which automatically applied on a person ceasing to be tax resident in France was held to be contrary to the right to freedom of establishment now contained in Article 49 of the treaty.
The charge restricted the right of a French national to establish himself in another EU member state because it operated to discourage him from exercising that freedom and as such was contrary to EU law.
In this respect, it should be noted that discrimination includes not only provisions which prevent a person from exercising a freedom, but also provisions which are likely to deter that person from exercising a freedom by making it less desirable to do so (see Baars v Inspecteur der Belastingdienst Particulieren/Ondernemingen Gorinchem (Case C-251/98) 2 ITLR 660).
This is particularly relevant in the tax context where rules will not tend to prevent a person exercising a freedom, but will generally make it significantly more expensive for him to do so.
It has been consistently held that discrimination on grounds of nationality will exist where a member state is either:
- treating differently situations which are identical; or
- treating in the same way situations which are different (see Finanzamt Köln-Altstadt v Schumacker (Case C-297/93) [1995] STC 306).
Such discrimination can be direct or indirect and may also be covert.
Consequently, where two persons are in identical situations but different tax consequences follow based on nationality, that will almost certainly be discriminatory, and if one of the fundamental freedoms is involved, then such discrimination will be prohibited.
That is, however, subject to the condition that provisions which are in breach of the treaty will not be prohibited if they can be justified on grounds that it pursues a legitimate objective compatible with the treaty or is otherwise justified by overriding reasons in the public interest (Société de Gestion Industrielle v État Belge (Case C-311/08)).
Examples of such justifications include the need to prevent tax avoidance and the need to ensure a balanced allocation of taxing rights between states. Even if a restriction can be justified, it will still have to satisfy the principles of proportionality.
Residence
The current HMRC guidance on residence, HMRC6, makes clear that connections in the UK such as family, property, business and social connections will be relevant to whether or not a person has ceased to be UK resident.
This approach was considered to be correct by the Court of Appeal in the Davies and Gaines-Cooper case and is part of the justification for the argument that there had been no change of approach in the application of IR20.
It has been assumed that this approach is a lawful one to take, and based upon the UK authorities, which tend to predate the EU, it is not difficult to see why that assumption has been made.
It is suggested, however, that this assumption should be revisited in any case where movement within the EU is involved, as there seems to be a good argument that this approach is contrary to the freedoms laid down in the treaty.
Discriminatory approach?
UK nationals will inevitably have more family, business, and social connections in the UK than foreign nationals. It therefore follows that an approach to determining residence which takes into account family and social connections in particular is going to be one which makes it more difficult for UK nationals to cease to be UK resident than is the case for foreign nationals.
This is relevant because the tax treatment of non-UK residents is more favourable than that for UK residents. A UK resident is taxed on worldwide income and gains as opposed to only UK source income. As such, it will generally be preferable from the perspective of UK tax to be treated as non-UK resident.
Under the current approach to residence, a UK national resident in the UK seeking to move abroad within the EU will be treated less favourably than a non-UK national who is UK resident.
The two are in comparable situations but the residence rules seem to discriminate against the UK national by making it more difficult for him to lose his UK residence and attract the more favourable tax treatment.
This has been reflected in previous European Court of Justice decisions. In Brian Francis Collins v Secretary of State for Work and Pensions (Case C-138/02) the requirement of ‘habitual residence’ in the Jobseeker’s Allowance Regulations 1996 was held to restrict the free movement of workers because it places nationals who exercised a right of movement at a disadvantage.
The court said that such a residence requirement could only be justified ‘if it is based on objective considerations that are independent of the nationality of the persons concerned and proportionate to the legitimate aim of the national provisions’.
In the context of the tax rules on residence, since the approach adopted in HMRC6 (and apparently also in IR20) makes it less desirable for a UK national to exercise his freedom of movement than a foreign national then, it is suggested, there is a problem as to the compatibility of this element of the rules on residence with EU law.
Although the discrimination may be indirect, it still exists. There is no obvious justification for such an approach and, as such, it would seem to be prohibited under EU law.
I would suggest that, where a person moves within the EU, matters such as family, property, business and social connections cannot be taken into account in determining whether he has ceased to be UK resident.
To do so treats him unfavourably by reason of his UK nationality and amounts to indirect discrimination.
That, however, is at odds with the current approach of HMRC as endorsed by the Court of Appeal.
Which freedom?
This leaves open the question which freedom the UK national is seeking to exercise. This, in turn depends upon why he is moving abroad. In de Lasteyrie it was simply assumed that the right to freedom of establishment (Article 49) was in point.
Often, where an individual moves abroad to become economically active in another member state, freedom of establishment or the freedom to provide services (Article 56) will be relevant. In other cases, freedom of movement for workers (Article 45) will be in point, although the residence issues may be different because of the acknowledged relevance of employment.
It should also be noted that citizenship of the EU conferred by Article 20 of the treaty includes the right to ‘move and reside freely within the territory of the EU’ as provided by Article 21.
In Rüffler v Dyrektor Izby Skarbowej we Wrocławiu Ooerodek Zamiejscowy w Wałbrzychu (Case C-544/07) [2009] STC 1464 that provision was held to give rise to directly enforceable rights which precluded legislation denying a tax advantage to a national of one state who had retired to another state.
This provision is likely to be in point in any case where UK residence is in issue, even if none of the other fundamental freedoms can be relied upon.
As such, it is unlikely when a person moves within the EU that he cannot rely on relevant EU legislation to ensure that the approach to UK residence which is applied is one which does not discriminate against him as a UK national.
Other factors
This does, however, leave the issue as to whether, even if this aspect of HMRC’s approach to residence can be shown to be discriminatory, it might still be justified on other grounds.
While it is difficult to see what such a justification might be, it is noted that different personal and family circumstances of different classes of taxpayer have been held to be relevant in other contexts and, as such, there are likely to be arguments available to HMRC.
The entire legal context will also have to be taken into account in determining the extent of any potential discrimination, including the terms of any relevant double tax treaties. I would suggest, however, that this would not lead to a different result.
Conclusion
European Union law is undoubtedly relevant in the context of determining UK residence where a UK national has moved abroad within the EU.
The current approach of having regard to family and social ties in the UK makes it more difficult for UK nationals to cease to be UK resident than for non-UK nationals.
That approach, it is suggested, is discriminatory and as such renders the current approach to establishing residence in these circumstances incompatible with EU law.
