Clause 10. — (Prevention of avoidance of tax by certain transactions in securities.)

Finance Bill. – in the House of Commons on 9th June 1937.

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Motion made, and Question proposed, "That the Clause stand part of the Bill."

10.37 p.m.

Photo of Mr John Simon Mr John Simon , Spen Valley

I think the Committee will expect to have a short explanation of this rather complicated Clause. This is the Clause which was referred to by my predecessor in the Budget speech as the proposals which the Finance Bill would contain to deal with the form of transaction in securities which is frequently known as "bond-washing." If the Committee will be good enough to give me their attention I will state what is involved and will give an illustration which will probably be the simplest way of showing what is wrong and how to stop it.

The principle of Income Tax law is that, for the purposes of Income Tax, the dividend which arises from a security or holding of some kind or other is the income of the person who is the owner of the security at the time when the dividend becomes payable. Consequently, if the owner of a security can arrange that, just before the dividend becomes payable, the ownership of his security passes to somebody else for the time being, in such circumstances as will not attract the tax, and can then secure that the security comes back to him after the date is passed, it follows that the dividend will not belong to him as the owner at the critical moment when the tax has to be paid. Suppose that it is a foreign security and that he passes the security to a foreigner abroad to hold for the time being; the security will not be liable to English Income Tax. If, by a specially arranged transaction, the owner of a security passes the ownership to a place where, for one reason or another, it will not attract tax, and buys it back again by an artificial transaction when the tax moment is passed, that is, of course, an evasion of tax.

The Clause is framed to deal with all kinds of bond-washing, and I think that hon. Members, if they will look at it closely, will feel that it has been very carefully framed. It is a very complicated matter to state, and the Clause, I think, states it as plainly as it can be stated. May I give an illustration? Let us take the case of the owner of a foreign security of the capital value of, say, £100. The moment is approaching when the security is going to pay a dividend—let us say, for convenience, a dividend of £2. If the owner holds on to it, and never lets it go, when he receives that £2 he receives a sum which will come under Income Tax and will be taxed. Supposing that he does that, with the Income Tax rate at 5s. in the £, there will be mos. to go to the Revenue out of the £2 dividend, and he will be left with £1 l0s.

Suppose, however, that he sells that foreign security cum dividend, before the dividend is paid, to a foreigner, and suppose that he sells it for £101 17s. 6d. Its value is £100; it is going to earn so he sells it for £101 17s. 6d. Suppose that he leaves it in that foreign ownership until after the day has passed when the dividend is paid, and then suppose that he buys it back again, ex dividend, at, let us say, £100. He receives the difference between the two prices, that is to say. £1 17s. 6d. That is not liable to tax, since it would be regarded as a capital gain, as it would in the case of any one of us if we sold and bought a security. In that case the Income Tax of l0s. on the £2 dividend is lost, for the dividend on a foreign security in the hands of a foreigner is not liable to tax; and there is l0s. for somebody, which, we may suppose, is shared as to 7s. 6d. by the original owner and as to 2S. 6d. by the obliging foreign gentleman who has taken so much trouble.

Mr. Bellenģer:

Would not this interesting transaction incur Stamp Duty?

Photo of Mr John Simon Mr John Simon , Spen Valley

It might or might not, but, whether it incurs Stamp Duty or not, these things do occur, and are believed to have occurred recently to a very considerable extent indeed. It is estimated that the annual loss of tax, at the standard rate, from transactions of this sort, may amount to as much as £1,000,000.

Photo of Miss Ellen Wilkinson Miss Ellen Wilkinson , Jarrow

Has any attempt been made to prosecute in such cases?

Photo of Mr John Simon Mr John Simon , Spen Valley

Speaking off-hand, I should doubt whether it could be shown to be a case for prosecution. I am sure the hon. and learned Member for North Hammersmith (Mr. Pritt) will agree that the real principle is that the Revenue is somewhat in the position of a gamekeeper having to tax a poacher, and, so long as the poacher does not break the law, he cannot, of course, be pursued. It is our business to stop the hole. The Committee will be interested to know that it is not merely the Revenue that would be inclined to stop this practice. The proposal for dealing with bond-washing has been the subject of discussion for some time past with the financial authorities in the City—the Committee of the Stock Exchange, the banks, and the discount and acceptance houses; and it is due to these authorities to say that, so far from putting the smallest difficulty in our way, it is very largely due to the attention they have called to it that we have been able to work out this matter. The practice is not a very honourable one, and there are plenty of honourable people in the City who would not do it themselves.

I am very glad to think that we have drafted a Clause which has the support of all these financial authorities. They welcome the legislation that is proposed, and I am in duty bound to say here that we are especially indebted to the Stock Exchange Committee, who have examined the Clause from every point of view for the purpose of assisting us, and have given very valuable advice and assistance in its preparation. I cannot, of course, guarantee to the Committee that this is going, in vulgar language, to "do the trick." The ways of ingenuity are very numerous, but this is, as far as I am able to judge, a most valuable Clause, and I think the Committee will be doing good work if they add it to the financial provisions of the country, because it aims at stopping, and it will undoubtedly stop, methods by which this has been attempted, it will secure revenue for the country which we ought to receive, and it will, I trust, finally put an end to artificial methods which, although they may be within the law as it stands, are certainly against the spirit of the law.

10.46 p.m.

Photo of Mr Frederick Pethick-Lawrence Mr Frederick Pethick-Lawrence , Edinburgh East

Hon. Members associated with me support, as I am sure the bulk, if not the whole of the Committee will support, the provisions set out in this Clause. We arc very glad that the Government are taking a step to stop this form of tax evasion. The Clause is designed to tax those who make definite arrangements in advance. Is the right hon. Gentleman satisfied that that will stop the proceedings; or may not a similar method, of a little less formal character, be substituted for it, and possibly get through the regulations that he proposes? The Clause is not retrospective and it does not commence to operate until practically the date of the introduction of the Budget. There is, of course, a good deal of ground for saying that people who have been indulging in this have been guilty of deliberate evasion for a long time, and there would be something to be said for making the operation of the Clause retrospective. On the other hand, there are always objections to retrospective legislation, and I can understand the motive which has prompted the right hon. Gentleman or his predecessor to take a different view.

Of course, the £1,000,000 which he described as an estimate of the amount that would be reached by stopping the evasion has not taken account of Surtax, and, as this tax is not to be retrospective, as I see it there will be no advantage in the current financial year to the Surtax, because that dates back to the previous year, to which this provision does not apply, so the advantage to the collection of Surtax will not begin until the next financial year. But, with regard to this retrospective legislation, I should like to ask, if it is found that, in spite of the Bill, the method of evasion is practiced—[An HON. MEMBER: "It will be."] The Clause is fairly tightly drawn and it may be somewhat difficult to evade. I hope that the Chancellor will give us an assurance that if, in spite of these provisions other methods of getting round them are discovered, in some future Finance Bill he will not feel any scruples about making retrospective the further provision which will be necessary, so as to catch people who are attempting to evade the tax. There is one other point which I think he might explain for the benefit of the Committee. He pointed out that there were many forms of bond-washing and he gave us an example of one in particular, the sale of foreign securities and sale to a foreigner. I imagine that a still bigger class of evasion does not concern foreigners. It is worked through financial houses in this country. Perhaps the right hon. Gentleman will give some indication of the kind of way in which, where the whole transaction is domestic, this method of evasion is actually practised. With those brief remarks I have pleasure in supporting the main intention of the Clause.

10.52 p.m.

Photo of Mr Samuel Silverman Mr Samuel Silverman , Nelson and Colne

I think that everybody will congratulate the Treasury on any endeavour which it makes to stop the multifarious methods of evading just dues practised by loyal citizens of the Empire, but we may be permitted to think that the right hon. Gentleman's estimate that the machinery provided in this Clause is going to stop this particular loophole a little optimistic. He described a transaction or a series of events and invited the Committee to draw the inference that wherever that series of transactions had taken place duty would be attracted. But that is not in the Clause. The Clause requires something far more than the series of transactions which he described. The Clause lays on the Treasury the duty of proving that there was an agreement by which the repurchase takes place. I do not know whether I am being over-subtle or not, but if I am I hope that the Committee will forgive me, because it is over-subtleties which we are trying to defeat, and possibly the only way of defeating the Artful Dodgers is by having an Act which is a little more artful than they are. I see that: Where the owner of any securities … agrees to sell or transfer those securities, and by the same or any collateral agreement—

  1. (a) agrees to buy back or re-acquire the securities; or
  2. (b) acquires an option, which he subsequently exercises, to buy back or re-acquire the securities;"
then these consequences will follow. But what does the right hon. Gentleman suppose that these gentry are going to do when he has passed this Act? When the time-honoured operation of "bond washing" is proposed in the future does he suppose that the vendor and the purchaser will go into a solicitor's office, draw up a document, stamp it, and sign it, with witnesses, whereby the vendor will agree to buy back, or whereby the purchaser will give the vendor an option to buy back, and then present that document to the Treasury Commissioners so that the purpose will be defeated? Of course they will do no such thing. In future if this series of transactions occurs it will occur without any document and without any evidence. When the Board of Inland Revenue or the Income Tax Commissioners come along and say, "On such and such dates these transactions took place, therefore there must have been an agreement that they should take place, arid the tax is payable," They will be boldly told, "There was no such agreement at all. It happened that Mr. A. sold to Mr. B., and that on a subsequent date Mr. B. re-sold to Mr. A., but Mr. B. was not under obligation to sell to Mr. A. and Mr. A. had no right under the principal agreement of sale to repurchase his security." It will then fall, as I understand it, to the Treasury to prove that there was some such agreement.

In circumstances of this kind, where you are dealing with people who are up to a great many dodges to avoid payment of their just obligations, if you provide in an Act of Parliament that the Treasury must prove an agreement before the hole is stopped, I say with confidence that in a great many cases the Treasury will find that the onus of proof will be one that it is impossible to discharge. A much sounder way to stop the gap would be to provide, wherever possible, for an agreement saying whether it was with or without an option to re-acquire. In that way, the right hon. Gentleman might have succeeded in stopping it instead of laying upon the Treasury an onus, which, in the majority of cases, the Treasury will be unable to discharge.

10.57 p.m.

Photo of Mr Denis Pritt Mr Denis Pritt , Hammersmith North

I have been worried about a type of transaction which this Clause, admirable as it is, does not touch. I do not know how far the Treasury arc informed about it, or whether they will say that my information is unreliable and that it is not done to any great extent. I understand that there are a certain number of people in the country, large holders, who never draw any dividends at all, but simply sell their stocks and buy other stocks from time to time. They always have enough money on which to live and never pay any tax at all. I wonder whether the time has not come for the right hon. Gentleman's advisers to consider the practicability of giving the Commissioners of Income Tax the right, within certain limits, of saying, "Whereas you do in fact normally hold stocks of a capital value of, say,,£70,000, and whereas your taxable income is a perfectly negligible proportion of the nominal return from that sum, subject to appeal to the Commissioners, we assess you as a person who is to be deemed to have an income of 5 per cent. of £70,000." I doubt whether the evil is large enough to be worth dealing with, but I think that it is a practical proposition.

11.4 p.m.

Photo of Mr John Simon Mr John Simon , Spen Valley

Perhaps I may be allowed to say a few words in reply. As regards the point which has just been put by the hon. and learned Gentleman the Member for North Hammersmith (Mr. Pritt), what he has said will be on record. I do not want to deal with it off-hand, as it is rather a different kind of case, and I am not sure what particular considerations apply. The hon. Gentleman below the Gangway will understand me when I say that I am not disposed to speak with quite as much confidence as he displays. I am not prepared to accept dogmatically that the Treasury will not be able to do this or that. I think that the matter may very well work out rather differently. It does not appear to me that, under the Clause, it will be the least obligatory in all cases for the parties to the contract to insist on the original contract being produced.

Photo of Mr Samuel Silverman Mr Samuel Silverman , Nelson and Colne

On the Second Reading I raised this point and asked the Financial Secretary whether for this purpose it would be necessary for an officer of the Treasury to prove that there was an agreement. The Financial Secretary said that it would be necessary.

Photo of Mr John Simon Mr John Simon , Spen Valley

I think I can give an answer that the hon. Member will think is fair. We must not make the mistake of talking so much about onus in this connection. What really happens is that the contract to sell and the contract to buy back are both expressed in contract notes. The authorities are very much disposed to draw their own conclusion. They draw their conclusion on the material before them, and if they consider that the conclusion is one which shows that the taxpayer is liable to treatment under this Clause, they will assess him. The remedy for the taxpayer if he does not agree with the decision is to go before the Commissioner, and on the material then produced by one side or the other they will have to decide whether the Inland Revenue are right or whether the citizen is right. That is fair. I do not think it is quite a case of saying, "There is the onus of proof on you, and unless you establish it beyond all possible contradiction, your hands are tied and you can do nothing." I do not think we shall find that it will work out in that way.

The right hon. Gentleman who spoke first from the other side truly pointed out that there are many forms of evasion which might be adopted. He gave only one example, which happened to be sale to a foreigner, but there are other forms, highly technical to describe, which could be carried out without sale to a foreigner. There could be sale to a finance house. In essence, they do not differ from the method of selling a security cum-dividend, buying it back ex-dividend and then discovering some way or other by which the dividend does not catch the tax as it ought to do. Sometimes the form of contango contract may be used. We do not intend that this Clause should touch the ordinary contango contract used by the speculator who buys securities.

I hold very firmly to this general proposition, although there may be exceptions, that, generally speaking, if we find that there is a hole in the tax law which is open for people to use, and we have failed to stop the hole, we shall not go back and treat the tax retrospectively. But there is a question which arises in the next Clause. When we come to it, we shall come to a subject in regard to which my predecessor, the Prime Minister, last year issued a warning, in the Finance Bill. He gave notice that if these clever people who were engaged in preparing such schemes of avoidance, which he was then trying to meet, were still adopting artificial arrangements, he would avail himself of the opportunity of making the provision retrospective at the time when he spoke.

That is an exception, and, I think, a legitimate exception. If these artificial transactions are not stopped, if it is discovered that the net is not quite complete, I shall not feel myself bound by the ordinary rule that these provisions must operate as from the time of enactment. I give warning now that we do not intend this particular net to be evaded by some ingenious variation which falls within the principle of the Clause we are now enacting.

11.6 p.m.

Photo of Miss Ellen Wilkinson Miss Ellen Wilkinson , Jarrow

We cannot let this matter go without making our protest. The Chancellor, in the most charming and winning way, has skirted over what is really a scandal. He says that there has been evasion of Income Tax on these lines to the amount of about £1,000,000 a year. Obviously it is not a matter which has just cropped up; it has been going on for some time, perhaps for some years. That means that it has been known to Chancellors of the Exchequer that a certain amount of tax evasion has been going on.

Photo of Mr John Simon Mr John Simon , Spen Valley

To the best of my belief that matter was first drawn to the attention of the authorities in a speech by an hon. Member who is a member of the Stock Exchange in the Debates last year. Inquiries were made, and we have lost no time in stopping the gap. I know the hon. Lady well enough to know that she does not wish to do anyone an injustice.

Photo of Miss Ellen Wilkinson Miss Ellen Wilkinson , Jarrow

I do not want to do the Treasury an injustice, but the Treasury employs highly skilful officials. Although this may have been brought to their notice last year the Chancellor of the Exchequer will not say that it only originated last year. It has been going on for some time and the Treasury ought to have found it out. I suggest that if this had happened in my own constituency it would have been found out and dealt with long ago. Here are wealthy people who have been evading Income Tax, and it has not been considered the duty of the Treasury to find it out, and even when it is found out it is to be regarded as something to be dealt with in the coming year. The Chancellor of the Exchequer has admitted that the Treasury have the power to deal with it retrospectively, and therefore I suggest that there is in this matter, in this Clause and in the way in which the Chancellor has dealt with it one law for the rich and one law for the poor.

In my constituency, men have been driven nearly to insanity because of sums of 3s. or 4s. not having been declared to the appropriate authorities, and after a few weeks they have been prosecuted and sentenced. Here are men who have evaded Income Tax to the extent of £1,000,000, and all that the Chancellor says is that in the future he hopes that they will stop doing so, and although he admits that he has power to deal with them retrospectively, he does not propose to do so. There is nothing to be done about it, but before we pass this Clause, I, as representing a constituency which has been very severely hit and which is under the harrows of the Unemployment Assistance Board Regulations, want to make this protest.

11.11 p.m.

Photo of Mr George Garro-Jones Mr George Garro-Jones , Aberdeen North

While concurring in the remarks made by my hon. Friend the Member for Jarrow (Miss Wilkinson), I think it would be wrong if the Committee did not recognise that the Government of to-day have progressed to a considerable extent beyond past Governments in their attitude towards tax evasion and tax avoidance. I have heard the right hon. Gentleman the Member for Epping (Mr. Churchill), from that Box, conniving in, if not attempting to justify, the action of taxpayers who, as he termed it, sought to avoid rather than to evade. What has been the result? There is on the part of lawyers of the highest skill in the City a belief that they are entirely justified in utilising their great skill in devising methods of avoiding taxation. I venture to lay down the general proposition that there are no specific safeguards which the ingenuity of the Treasury can devise which the ingenuity of City lawyers will not in time be able to evade.

Therefore we find ourselves in a difficulty, and I believe that the way to meet it is to adopt the suggestion made by my right hon. Friend the Member for East Edinburgh (Mr. Pethick-Lawrence). The Chancellor of the Exchequer appeared to be a little squeamish about adopting the general principle that there should be retrospective legislation to safeguard the Treasury against evasion, but I fail to see why a principle which is salutary in the case of the evasion of one tax should not be salutary as a general principle in the case of the evasion of all taxes. I would commend to the notice of the Chancellor the experience of the President of the United States of America. They have suffered in that country, I will not say more, because the extent of the evasion in this country is little known, but they have certainly suffered severely from the ingenuity of City lawyers and barristers, or their corresponding ranks in that country. The President of the United States has spoken in terms even more than those which the Chancellor of the Exchequer has used to-night in denouncing these ingenious methods.

I know very well the difficulty of retrospective legislation, but surely it could be riveted to the question of motive. The law is well accustomed to examining into motives. If it could be shown that the motive of any particular transaction was the evasion or avoidance of a tax, that should be sufficient to nullify that transaction and enable the Treasury to recover the money. Therefore, I invite the Chancellor to study what has been said by the President of the United States and to go a step further. Let the Government not merely refrain from smiling upon tax evasion, but frown upon it, and denounce it in no uncertain terms. Then we should have the first line of defence, which would be that reputable and skilful lawyers would not regard it as a justifiable part of their activities to devise these ingenious methods of evading the tax, and we should then be able to pass to the final and, in my view, only effective safeguard of enacting that measures designed solely to evade shall be rendered nugatory in future Finance Bills.