I beg to move amendment No. 82, in page 151, line 37, leave out paragraph 5.
I, too, welcome you to the Chair, Mr. Benton. I also welcome the thrust of clause 43 and schedule 8, as did the hon. Member for Arundel and South Downs. There has been a huge amount of consultation on the provisions, which have been widely welcomed by business and the tax profession. Their objective, which I am sure all Committee members share, is to ensure that the UK remains a competitive place for the location of holding companies of multinationals. The Government's approach to the matter has been exemplary. They ensured that significant consultation took place and that the draft legislation was available for consultation.
I prefaced my comments with that welcome so that the Committee realises that the aim of amendment No. 82 and subsequent amendments to the schedule was to be constructive. We have listened to outside bodies that have read the Bill and are pleased with the thrust of it but see the need, even at this late stage, for improvement so that it meets the Government's objectives.
Amendment No. 82 was suggested to me by the Confederation of British Industry, which wrote to all Committee members. When it approached me, I listened to what it had to say, read its background briefing and was convinced that there is a case for the Government to look again at the anti-avoidance measures that they are introducing with the new exemption. Paragraph 5 of new schedule 7AC to the Taxation of Chargeable Gains Act 1992, which schedule 8 introduces and the amendment would remove, is widely drawn. The general nature of the anti-avoidance provisions has caused concern. Some of the meaning of that paragraph is unclear to many experts, who have put hot towels on their heads and tried to work out what lies behind it. I shall give some examples.
Line 44 on page 151 refers to ''substantial''. That must be clarified. I understand that the Inland Revenue intends it to mean 20 per cent. rather than 10 per cent., but that must be made clear. Concern has also been expressed about the phrase, ''represents untaxed profits'' in line 45, because a strict reading of those words by the courts might exclude many transactions that the Inland Revenue had assured business it intended to exempt. There is lack of clarity there.
Line 1 of page 152 refers to
''arrangements from which the sole or main benefit that could be expected to arise . . . is that the gain on the disposal would, by virtue of this Schedule, not be a chargeable gain.''
The word ''arrangements'' is defined in line 20 to include
''any scheme, agreement or understanding, whether or not legally enforceable''.
That definition is very vague in terms of previous tax legislation. It would cause some concern to tax advisers who believe that the test is too vague, as they would not feel certain when they advised companies. I want to focus on that uncertainty, because it is a problem.
If we are creating a general anti-avoidance mechanism, about which there is a lack of clarity and certainty, the benefits from the overall policy will not be so easily realised. The situation may arise where companies have been advised that a disposal would be exempt, but it turns out not to be. Significant business decisions might be made that are later found to incur a huge tax penalty, whereas if that had been known beforehand, those changes would not have been made.
If Labour Members feel that we are making a point that is too technical, or that may not be valid because there is certainty in the legislation, they should consider the Inland Revenue's response to business concerns. The Inland Revenue has, quite properly, consulted business about its concerns and has said that it will publish guidance and a statement of practice. I suggest that that is not the best way forward. I am told that statements of practice are highly complicated, do not get away from uncertainty and—of most concern—could be overridden by the courts. If there were a challenge, the courts would not necessarily have to abide by the statement of practice. They would look at the legislation, and might give a strict interpretation of the words therein.
That raises the question of why the Inland Revenue has decided to take that approach. I understand that it was concerned that the new exemption could be abused. All those who are concerned about securing the Exchequer and supporting the taxpayer should be concerned about that too. When challenged, the Inland Revenue has not managed to come up with convincing examples of the types of schemes that the general anti-avoidance measure is designed to catch. I am told it has come up with a complex, theoretical idea based on the use of financial derivatives, but those lawyers who have looked at the Revenue's example have said that that would be covered by case law. No example suggests that such wide-ranging anti-avoidance power is needed.
If Labour Members are concerned that such anti-avoidance measures are needed, they should rest assured because other anti-avoidance measures would apply in this case. There are existing requirements on trading activity and there are minimum holding periods in the Bill. Section 179 of the Taxation of Chargeable Gains Act 1992 contains other relevant anti-avoidance measures, as does the control of foreign companies legislation. All of that provides a framework of anti-avoidance legislation that would assist the Government's purpose as set out in new schedule 7AC (5).
If the Government want some sort of extra anti-avoidance provision over and above the measures that I have described, rather than going down a general route, they could engage business in a final round of consultation—I know there has been an extensive period of consultation—before Report to see whether a slightly less draconian, more satisfactory and more targeted approach can be taken to meet the concerns that officials and Ministers may have. If the Government do not accept amendment No. 82—I guess that they probably will not—will Ministers at least assure us that before Report they will continue
the welcome practice they have shown throughout the legislation and give an undertaking to the Committee to meet business, in the form of the CBI and possibly other representatives, one more time to see whether the concerns of both the Government and business could be met and answered in some other way?
I want simply to add that it is interesting that the CBI has specifically said that it feels that the statement of Inland Revenue practice is unsatisfactory because it does not adequately clarify the position, is not a substitute for clear and understandable legislation and is liable to be overwritten by the courts if they are called on in future to interpret the strict wording of the schedule. It says that it is disappointing that in an era in which the tax law rewrite programme is introducing a new approach to tax legislation, Parliament is being asked to approve unclear legislation that will effectively give the Revenue discretion, subject to intervention by the courts, on how to apply the exemption, which it feels is undesirable in principle.
I welcome you to the Chair, Mr. Benton. I hope that it will be in order for me to comment on the generality of schedule 8, and in particular clauses 20 and 21, which limit the exemptions to trading companies. If that is not in order at this stage, Mr. Benton, please let me know and I shall address the matter later in the stand part debate.
May I, too, welcome you to the Chair, Mr. Benton?
I welcome clause 43, which is important for business. Having worked with clients on transactions in which tax issues played an important part in their timing, I know that the measures in the clause are to the advantage of business, and it is therefore not surprising that businesses have given them a warm welcome.
I want to pick up on the comments made by my hon. Friend the Member for Arundel and South Downs and by the hon. Member for Kingston and Surbiton (Mr. Davey) on the scope of new schedule 7AC(5), a matter on which not only the CBI but the Chartered Institute of Taxation has made representations. This morning, Committee members will have received representations from the Institute of Chartered Accountants in England and Wales, of which I am a member, concerning the clause. Interestingly, the ICAEW's view is that paragraph 5, which contains the anti-avoidance measures, is so widely drafted that it appears to catch almost any disposal, which is a concern to industry as a whole. If the Revenue were improperly to apply paragraph 5, that would risk emasculating a relief which business regards as very important.
As the hon. Member for Kingston and Surbiton said, we need greater certainty in the taxation of transactions. The ICAEW states:
''The paragraph hands too much discretion to the Revenue to decide what transactions will qualify for the relief and what will not. Taxpayers are entitled to be taxed according to the law and not untaxed by Revenue practice.''
That is a legitimate concern, and I hope that Ministers will consider whether it would be appropriate to withdraw the clause so that they can consider whether specific anti-avoidance regulations could be drafted to tackle examples, with which I am sure that they are armed, of transactions that they are trying to rule out. They need to see whether there is a more specific way of ensuring that transactions are not structured to avoid tax, which would give a greater degree of certainty to businesses and their advisers.
I want briefly to support what other Conservative Members have said.
As a matter of strategy, I am concerned that too much authority will be in the hands of the Inland Revenue if it has discretion on those matters, which would be a retrograde step. I appreciate that when the Economic Secretary dealt with the previous clause she referred to the concept of anti-avoidance. One could cynically suggest that much of the feeling on the matter from accountancy experts and those in other related professions derives from an attempt to discover avoidance measures on their clients' behalf. It is wrong that a company should have to structure its affairs to maximise the amount of tax that it pays. Although I support what the Government are trying to do, there is far too much discretion in the Revenue's hands, and such a lack of certainty will be damaging to business. I would be grateful for guidance on how the Government intend to ensure that the Revenue's discretion is kept to a minimum.
I thank the hon. Member for Kingston and Surbiton for his opening comments that clause 43 is drafted in exemplary fashion, and that it was a good idea for the legislation to be available in advance for widespread consultation. That input has been valuable, and we have learnt much from consulting business and others who will be affected. We continue to learn from them, and we remain in dialogue with industry. Indeed, a partner in a major firm of accountants recently wrote in the Financial Times:
''measures such as . . . the substantial shareholdings relief show what a good consultative process can achieve''.
In the context of generous relief and substantial shareholdings, the amendment would remove a provision that will protect the regime against exploitation. The protection is designed to prevent companies from realising untaxed investment returns by way of shared disposal, where the gain on the disposal would be exempt under the new regime.
It was recognised by many participants in the consultation process that we have legitimate concerns about the potential abuse of the exemption provided by the regime. We are particularly concerned that schemes could be created for converting untaxed income into tax-free capital gains. The draft legislation published at the time of the pre-Budget report last November sought to tackle those concerns by excluding certain types of financial and investment activity from being qualifying trading activities under
the regime. Business told us that that approach was too wide and could result in the exclusion of many genuine trading operations, but it continues to accept the validity of our concerns.
In consultation with the business community and through listening to its concern that the legislation was too widely drafted, we developed an alternative, suggested test. That test, which the hon. Member for Kingston and Surbiton queries, will prevent a gain from qualifying for an exemption where certain conditions are satisfied and tax-avoidance arrangements exist. The arrangements must be such that the sole or main benefit that can be expected to arise from them is that the gain would be exempt under the substantial shareholdings regime. The scheme is designed merely to take advantage of that loophole, and does not relate to any fundamental commercial activity.
Notwithstanding that extensive consultation, I have read the comments of the CBI and others about the provision's scope since the publication of the legislation, and am aware that there have been continuing mutterings about its being drawn too widely. In the light of those fears and earlier consultation with industry, the Inland Revenue is preparing detailed guidance that will set out the scope of the provision. The guidance is being prepared in close consultation with industry. The Revenue also seeks comments from all other parties who have an interest. When finalised, the detailed guidance will be published as a statement of practice, which should reassure the hon. Gentleman to some extent and allay companies' worries about the provision. It will demonstrate the Revenue's view that the provision is narrowly focused.
The need for tax-avoidance arrangements from the outset ensures that all normal disposals of substantial shareholdings will be unaffected by the anti-avoidance rule. It is important to put on the record that the vast majority of disposals of substantial shareholdings will not be affected by the anti-avoidance legislation. The Revenue has already received a number of encouraging comments that that is likely to be the case. For example, in its comments on the Finance Bill, the Chartered Institute of Taxation said:
''We are pleased that the Revenue are to publish guidance on the application of paragraph 5 and that further discussions will be held''.
Why did we decide to provide guidance rather than put everything in legislation? It is much easier to capture schemes, which can be very varied, and to be more flexible and illustrative in guidance than in legislation. We have received various suggestions as to how we might put beyond doubt in statute, if we were to write such legislation, the circumstances that would not be excluded from the scope of the exemption. However, a provision that dealt explicitly with every situation that might arise—even if they could all be predicted—would be too long to be practicable. The current tests have the benefit of being short and readily comprehensible, so I am not attracted to the idea of tinkering with them.
The hon. Member for Kingston and Surbiton raised the Inland Revenue example, which gives a case in which avoidance might occur. In the example, if a company were to arrange for a subsidiary to buy a package of financial derivatives that were held such that it constituted the carrying-on of a financial trade and then sell the shares and subsidiary before the profits from the derivatives were realised, the gain on the sale of the shares would be exempt. We think that that is unlikely to happen in practice, as the gain will be captured by this anti-avoidance measure.
The hon. Gentleman and others raised concerns about uncertainties in the drafting of the legislation. It might be helpful to try to allay some of his concerns about that. He asked about the term ''arrangements'' in the schedule. The term is used elsewhere in tax legislation; it is not new. For example, it is used in the enterprise investment scheme. He also said that the interpretation of the term ''substantial'' is uncertain. However, there is already guidance on the meaning of ''substantial'' in the context of capital gains tax taper relief, and the Inland Revenue has confirmed that it will also apply in this context. The detailed drafting issues that the hon. Gentleman raised have already been dealt with or are not new, and I am sure that people will come to understand that as they look more closely at the legislation.
The hon. Gentleman said that so much uncertainty affects paragraph 5 that it is no longer useful. The anti-avoidance provision will have no application whatsoever in the vast majority of cases, and companies understand that it will not apply if they are carrying out reasonable rearrangements and restructurings. Again, I hope that that allays his concerns. He queried whether we would be willing to meet the CBI to discuss the matter. The Inland Revenue has been in close contact with the CBI and others in the development of the guidance. Indeed, I believe that it has a meeting with the CBI on the anti-avoidance legislation later this week.
I strongly believe that the consultation with the CBI and others will satisfy them that the drafting of guidance meets their concerns. We always keep in contact with the industry and it is only right that we do so. Avoidance measures change from year to year, so we return to the provisions in the natural course of events.
I believe strongly that if we provide generous relief to companies, we, as the Government and the Exchequer, have a duty to protect ourselves against schemes that are specifically set up to avoid paying tax. I urge the Committee to reject the amendment because it would provide no effective protection against the exploitation of this generous and valuable relief.
I am grateful for the Minister's long and comprehensive reply and I am sure that those who read our proceedings will find it useful as an indication of the Government's thinking. However, she quoted
''In our view, the anti-avoidance provisions of new Sch 7AC para 5 are too widely drawn given that the relief is intended to be easy to use.''
There is a discrepancy. The Minister argued that the provision is narrowly drawn—
Perhaps I can comment on what the hon. Gentleman has said. I believe that some of the concerns of the Chartered Institute of Taxation have been allayed since their briefing and following consultation with the Inland Revenue. We are developing guidance that will be translated into a clear statement of practice in due course and it will be clear that the provision is very narrowly focused and not wide ranging.
The Minister is slightly more up to date than I am in relation to briefing from the Chartered Institute of Taxation, so I shall bow to her and say that perhaps I need to talk to the institute. It is good to have that on record. This has been a useful debate and I shall talk to both the CBI and the institute. I hope that the Committee will be kept informed of how the discussions with the Inland Revenue are progressing. They seem to have been constructive. If that continues and if we have greater consensus when we come to Report, we shall have made progress. I do not wish to press the amendment. On the understanding that, if the issue is not sorted out during the consultation, we can return to it on Report, I beg to ask leave to withdraw the amendment.
Amendment, by leave, withdrawn.
I beg to move amendment No. 64, in page 153, line 3, leave out 'or interests in shares'.
This technical amendment was prompted by the Law Society to ensure that a shareholding is not excluded from the new exemption for substantial shareholdings if the interest in the company is held by way of instruments other than shares—for example, convertible loan stock. The point of concern is that a wholly owned subsidiary could fail the test for a substantial shareholding if it has an issue of a normal commercial loan held by another group company. If a company owned 100 per cent. of the shares in a subsidiary, which issued to the parent company a limited recourse loan of a convertible security, that security would not be treated as a normal commercial loan, and if during any period the interest on the security were equal to the amount of profits available for distribution to equity holders, the parent company would not be entitled as a holder of ordinary shares to any of the company profits available for distribution and would thus fail the test for holding a substantial shareholding in a subsidiary, although the subsidiary might be wholly owned for the purpose of group relief under the CGT grouping test. This small amendment seeks to avoid that problem, which I trust was unintentional.
I listened with great interest to the hon. Gentleman's comments because I was eager to learn the amendment's purpose, which was not—I hope that this will not embarrass him—completely clear on first
reading. By way of background, I should point out that the substantial shareholdings provisions apply not only to shares but to interests in shares. For those purposes, a company has an interest in shares if it owns them together with one or more persons. If the substantial shareholdings provisions did not include interests in shares, the disposal of an interest in shares would give rise to a chargeable gain or allowable loss. That would contrast with a gain or loss on the disposal of shares, which would be exempt, were the necessary conditions met. It would also mean that a company had a choice when disposing of shares. If such shares stood at a gain, it would be possible to dispose of them and to benefit from an exemption on their disposal. If they stood at a loss, it might be possible for a company to arrange to dispose only of an interest in them.
The amendment moved by the hon. Member for Arundel and South Downs is aimed at circumstances in which a company has a substantial shareholding in another company, which makes it a creditor of that company in respect of certain types of loan. He believes that that may cause the substantial shareholding requirement to fail. He has explained that the amendment relates to cases in which an investing company holds 10 per cent. or more of the ordinary shares in another company and is also a creditor. He suggests that in those circumstances the shares may be prevented from being a substantial shareholding because they do not provide the necessary entitlements to 10 per cent. or more of the profits and assets of the company in question. The rights that the investing company enjoys as a loan creditor may instead satisfy those entitlements. There may be something in the point raised by the Law Society, but it is difficult at this stage to know whether that is a significant and practical point, or whether it is purely theoretical.
The Economic Secretary has made a comprehensive exposition of the problem. I wonder whether the Revenue will consider inherent rights of convertibility in loan stock, and whether those inherent rights should be taken into account when it considers the definition of ''substantial shareholding'' in that context.
The amendment would remove the reference to interest in shares from sub-paragraph (1), but leave unaffected the way in which it applies to shares. The hon. Member for Torridge and West Devon has suggested that we should consider another way of remedying that proposal. At this stage, I am clearly not going to commit the Government to his precise recommendations, but we shall look at what he has suggested and I shall write to him on that point. There will, of course, be other points of detail on the application of the substantial shareholdings provisions to actual cases that emerge over the coming months, and we are determined to ascertain whether there are practical problems that need to be addressed.
I am extremely grateful to the Economic Secretary for that assurance. I should like
to receive her letter in the near future because we should like to debate the matter again, perhaps on Report.
I shall ask the Inland Revenue to consider the hon. Gentleman's proposal. If he has a point, we will respond positively to him on it, but I do not want to commit myself to accepting it today. I will provide an assurance that we will respond quickly to the hon. Gentleman's points so that the Committee can have the benefit of that letter before we return to the subject. During the coming months, the Inland Revenue will continue to consult the consultative group and others on the operation of the legislation, which will enable any practical difficulties that emerge from that process to be dealt with. If a real practical issue needs to be addressed in the light of operating experience, we can return to it.
I am glad to hear the Economic Secretary comment that if, on further consideration, the Government accept that there is a practical issue, they will look to address it. I deliberately read into the record circumstances that were not just theoretical. On the basis of what she said, I beg to ask leave to withdraw the amendment.
Amendment, by leave, withdrawn.
These are probing amendments. Their purpose is to understand why the Government chose 10 per cent. as the right number for substantial shareholding. I understand that in the Netherlands, the figure is 5 per cent. In Germany, there is no de minimis limit on substantial shareholdings. We need to ensure that the corporate environment in the UK is competitive in terms of taxation, and encourages companies to invest and to realise their gains where appropriate. Many in industry are relieved that the limit is as low as 10 per cent. The consultation paper stated 30 per cent., and some people are grateful that the figure is now 10 per cent. That is not a reason for the Government to be complacent on the matter, as I am sure the Economic Secretary would expect me to say.
In what is a complex commercial environment, I wonder whether 10 per cent. is too high a limit. There is a growing number of examples of transactions, perhaps on a cross-border basis, where there are strategic shareholdings below 10 per cent. Those transactions are not cases of companies simply taking short-term positions, but part of a process of ensuring that they can play a part in developing new markets in various territories. We heard from the telecom sector that, when new mobile phone licences were issued, several overseas companies invested relatively small stakes that were strategic in intent,
which formed part of their plans to develop mobile phone services internationally.
It is with those transactions and the general complexity of transactions in mind that I have tabled an amendment to query whether 10 per cent. is too high a figure. A low limit, such as 5 per cent., might be better. It is important to ensure that we maximise corporate efficiency by enabling businesses to conduct transactions for economic purposes, not simply for tax purposes. Tax should not act as a barrier to investment or divestment. The Paymaster General said on Thursday that the tax should not distort behaviour. A limit such as this may well distort behaviour. I would be grateful if the Economic Secretary would outline the Treasury's thinking on the 10 per cent. figure, notwithstanding the general welcome that industry has given to that much lower limit.
At the end of the day, the purpose of clause 43 is to keep the UK competitive as a base for multinational businesses, when there are several costs arising from the Budget on other matters, and when the competitiveness of the UK has generally declined. The question at the centre of clause 43 is: are we competitive enough compared to, for example, Holland?
I thank the hon. Member for Fareham (Mr. Hoban) for his amendment, which gives me an opportunity to put on record why we chose the threshold of 10 per cent. as opposed to any other number and why we did not devise a different, perhaps more complex test, to distinguish between shareholdings that are structural to a business rather than those that are simply a passive portfolio of investments. The desire to be able to distinguish between those two types of arrangements is the key to the threshold.
The rules must differentiate holdings in some way. During the consultation period, we explored the possibility of operating an alternative to a numerical test. We had hoped to devise a test that would distinguish absolutely between structural holdings and passive investment holdings, whatever the size of the holding. The test would have had to be sufficiently robust to be proof against manipulation according to whether gains or losses were expected. Unfortunately, it was not possible to devise such a test. That is why we settled on a numerical test, which has the merits of being easy to understand and straightforward to apply.
We listened to what business told us during the consultation period. It was content with the 10 per cent. figure. We believe that it will target the vast majority of structural holdings while excluding the bulk of portfolio holdings. It has been widely accepted as the most appropriate solution. To reduce the figure to 5 per cent., as proposed in the amendment of the hon. Member for Fareham, would considerably increase the number of portfolio investments that would qualify for the exemption. We accept that some holdings between 5 and 10 per cent. may be structural, and we have not completely abandoned the idea of seeking an alternative workable test to differentiate between the two. However, until such a test emerges, I
am not persuaded that it would be right to abandon the threshold requirement.
The hon. Gentleman discussed the situation in other countries such as the Netherlands and Germany. A wide range of thresholds operates in other countries that have similar reliefs. The hon. Gentleman gave examples of two that have lower thresholds, but others apply higher thresholds. The key is that Governments structure the relief, including the qualifying threshold, to reflect their underlying policy objectives. The threshold that we have set makes what I readily admit is a fairly rough and ready distinction between portfolio and commercial investments. A balance must be found, and a threshold of 10 per cent. is the right level to set to avoid capturing the vast majority of portfolio investments. On those grounds, I do not support the hon. Gentleman's amendment.
I am grateful for the Economic Secretary's explanation of the way in which she arrived at the 10 per cent. figure. It sounds as though she has adopted a very pragmatic approach and I appreciate the basis on which the test has been developed because of my experience with quantitative tests of what is or is not strategic. People party to shady agreements may frame if not manipulate them to give an appropriate level of control according to their tax or accounting needs at the time. Therefore, I understand why she decided on a numerical limit.
I am not persuaded, however, that 10 per cent. is necessarily the right number. The Economic Secretary said that there could be situations in which shareholdings of between 5 to 10 per cent. are strategic. As I said in my opening remarks, this is a probing amendment. I am grateful that the hon. Lady put on record the rationale for her decision.
I was intrigued by the comments of my hon. Friend the Member for Fareham and the Economic Secretary. Will my hon. Friend comment on the fact that the initial consultation exercise suggested that the portfolio holding should be at the level of 30 per cent.? Perhaps that lets the cat out of the bag as to the Government's real intentions.
I suspect that starting at a higher level allows the Government to retreat graciously to 10 per cent., which they know will gain broad acclaim from the industry. Perhaps that is the explanation for which my hon. Friend was searching, although we did not hear it from the Economic Secretary.
The Government must carefully consider the measure, including the 10 per cent. limit. I hope that those who read the record and who have an interest in the legislation, make further representations on behalf of industry and commerce. I beg to ask leave to withdraw the amendment.
Amendment, by leave, withdrawn.
I beg to move amendment No. 63, in page 157, line 18, at end insert—
'or would have been so treated as not involving a disposal or acquisition but for the application of paragraph 4 above'.
These are further technical amendments prompted by the Law Society. Their purpose is to ensure that a share exchange or reorganisation, which would not have otherwise given rise to a disposal for tax purposes, will not result in a period of ownership coming to an end for an entitlement to exemptions on gains from substantial shareholdings. The argument is that it would be incorrect on principle for a period of ownership to be terminated by a share exchange or other reconstruction normally treated as not involving disposal. The amendments are designed to apply when the transaction would have fallen within section 127 of the Taxation of Chargeable Gains Act 1992 but for paragraph (4) of new schedule 7AC to that Act.
The amendments relate to the interaction of substantial shareholdings provisions and the general capital gains freeze for transactions such as share exchanges. Such transactions are complex and the Inland Revenue will publish guidance on the more difficult aspects, particularly as they relate to groups of companies. In this technical area, I shall try to keep matters as simple as possible.
A typical share exchange may arise in a takeover: a company exchanges its shares in the company being taken over for new shares in the acquiring company. For example, company A may hold shares in company B, then company C takes over B and issues its own shares to A in exchange for the shares that A holds in B; A now holds shares in C, which holds shares in B. I apologise to the Committee for going into detail, but it is important for the record.
To avoid company A incurring an immediate tax charge on any capital gain arising from the transaction, it is normally treated as not having disposed of the shares in company B for the purposes of tax on chargeable gains. In the jargon, it is said that the new shares held by A in company C stand in the shoes of the original shares in B. In a substantial shareholdings context however, that general rule would produce a harsh result if the shares held by A and B would have qualified for an exemption but the new shares in C would not qualify for an exemption on a subsequent disposal. In order not to disadvantage A in such circumstances, the general stand-in-shoes provisions are switched off with the result that there is a disposal on takeover. On that disposal, benefits from the substantial shareholdings exemption, and the new shares, will normally have an acquisition cost for capital gains purposes that reflects their market value at the time of the share exchange. In effect, the shares of the company making the takeover—company C in the example—are a completely new holding. The shares in company B
are treated as having been disposed of. In no sense do the shares in company C stand in the shoes of the original shares of company B. It is therefore right in principle that the holding period for the new shares commences when the investing company receives them on the exchange.
We do not accept that it is reasonable for the investing company to wait 12 months before it can benefit from exemption on the disposal of new shares. That is no different from a situation in which the investing company acquires shares in other circumstances, quite outside a takeover. It would be anomalous if we made an exception in that sort of case. The way that the provision works seems to be consistent with the approach of the capital gains provisions generally and is right in principle. On that basis, I urge the Committee to reject the amendment.
Further to that matter—I must confess that I am getting out of my depth—I think that Deloitte and Touche has taken up with the Revenue its diagnosis that paragraph 4 may give rise to an unintended effect in certain circumstances. As set out in the explanatory notes, new schedule 7AC (4) is designed to disapply special stand-in-shoes provisions in certain circumstances. As drafted, the operation seems to result in the stand-in-shoes provisions continuing to apply to a transaction.
I do not want to burn up the Committee's time with full detail, but my secondary point is to ask the Economic Secretary if she is entirely happy that paragraph (4) is correct. If a share exchange or reorganisation would not give rise to disposal for tax purposes, it should not result in a period of new ownership coming to an end for the purposes of the new exemption. It was not clear whether the hon. Lady was agreeing with that principle but objecting to the other potential effects of the amendment.
These rules are certainly formidably complicated. What I would say in mitigation is that they have been around for a long time. The complexity surrounding them is not gratuitous, but arises from a policy desire to provide relief from a tax charge in certain circumstances. If the rules were not in place, there would be a charge to tax on any gain arising on the straightforward exchange of shares when one company was taken over by another. I think that the rules are necessary.
The point that the hon. Member for Arundel and South Downs raised about Deloitte and Touche is covered in the detailed guidance that is being set out by the Revenue. I do not accept that the clause is in any way distorting commercial behaviour. Share exchanges and other forms of company reconstruction will normally continue to be tax neutral for corporation tax purposes at the time of the event. If one holding of shares were treated as disposed of for tax purposes and another were treated as acquired, it seems wrong that the new holding should inherit the history of the original shares. That would be appropriate only if the new holding were
standing in the shoes of the original holding. On those grounds, I would continue to urge the Committee to reject the amendment, but perhaps the hon. Gentleman will consider withdrawing it.
I think that the Economic Secretary has satisfied me that where shares stand in shoes, they will qualify for the new exemption. The intent of the amendment was to probe that matter and, on that understanding, I beg to ask leave to withdraw the amendment.
Amendment, by leave, withdrawn.
I beg to move amendment No. 38, in page 169, line 41, at end insert—
40 (1) Paragraphs 1, 2 or 3 of this Schedule shall be deemed to have effect (and the requirements mentioned therein shall be deemed to have been met), in relation to an investing company where the Board have, on the application of the investing company, notified the investing company concerned that the Board are satisfied that the exemptions in paragraphs 1, 2 or 3 of this Schedule apply to that investing company and that the requirements mentioned in paragraphs 1, 2 or 3 have been met.
(2) Any application under sub-paragraph (1) above shall be in writing and shall contain particulars of the operations or transactions that are to be effected by the applicant and the Board may, within 30 days of receipt of the application or of any further particulars previously required under this sub-paragraph, by notice require the applicant to furnish further particulars for the purpose of enabling the Board to make their decision; and if such notice is not complied with within 30 days or such longer period as the Board may allow, the Board need not proceed further on the application.
(3) The Board shall notify their decision to the applicant within 30 days of receiving the application or, if they give notice under sub-paragraph (2) above, within 30 days of the notice being complied with.
(4) If the Board notify the applicant that they are not satisfied as mentioned in sub-paragraph (1) above or do not notify their decision to the applicant within the time required by sub-paragraph (3) above, the applicant may within 30 days of the notification or of that time require the Board to transmit the application, together with any notice given and further particulars furnished under sub-paragraph (2) above, to the Special Commissioners; and in that event any notification by the Special Commissioners shall have effect for the purposes of sub-paragraph (1) above as if it were a notification by the Board.
(5) If any particulars furnished under this paragraph do not fully and accurately disclose all facts and considerations material for the decision of the Board or the Special Commissioners, any resulting notification that the Board or Commissioners are satisfied as mentioned in sub-paragraph (1) above shall be void.'.
Amendment No. 38 would implement arrangements for a clearance procedure, to which I referred earlier. Before I comment on that, I must point out that one effect of clause 43 would be to encourage vendors to dispose of shares. However, the new intellectual property rules in clause 48 encourage purchasers to acquire assets. The Bill contains a contradiction that needs to be addressed.
One of the main criticisms implicit in the comments about the lack of clarity is the need for a clearance process. Without such a process, groups will be expected to dispose of shares, which may have large capital gains, without knowing explicitly whether they will qualify for the exemption. Even after the more detailed statement of practice to which the Economic Secretary referred, a statutory clearance procedure such as that suggested in the amendment would
provide the key element of certainty and would be welcomed by businesses.
The statement of practice may be sufficient to persuade the various tax lawyers and accountants that a clearance procedure is not necessary, but as the schedule stands, Conservative Members have concluded that the only way round the lack of clarity is to put in a clearance procedure.
I want only to add to the points made by the hon. Member for Arundel and South Downs. Business needs certainty and that should be a principle of the tax system. I question whether the proposed statement of practice will make allowance for all the myriad circumstances that will arise in any proposed transaction for which exemption is sought under the provisions. It is therefore entirely reasonable that there should be a short and swift clearance procedure and I endorse the proposal.
Statutory. For practical reasons, I am going to argue that it would not be appropriate for the Inland Revenue to provide such a statutory clearance mechanism, and if businesses looked at it carefully they would not want it for reasons that I shall explain.
We have already had a substantial exchange this morning about whether the legislation is particularly unclear and whether additional certainty can be generated by the Inland Revenue's guidance. Although I am not going to repeat that debate, I hope that that guidance will allay the concerns that have been expressed. The amendment models the clearing mechanism on existing clearing mechanisms, but such a formal statutory clearing mechanism would impose substantial costs.
I shall certainly expand on the existing clearing mechanisms and how they operate, but I want to say a few words about why such a mechanism would not be appropriate. I shall come back to the right hon. Gentleman's point in due course.
As I said, the provisions to accept gains and losses on substantial shareholdings have been subject to extensive consultation. The regime has been widely welcomed for providing groups of companies with the flexibility to restructure rapidly in response to emerging global opportunities without being constrained by the tax system. Let us consider the resource implications of having a statutory clearing mechanism for both business and the Revenue. The existing clearance procedures are targeted at transactions such as company reconstructions, demergers, the purchase by a company of its own shares, and provisions that cancel tax advantages arising from certain transactions in securities. It is well known that many applications for clearance are made simply because the facility exists and not because of any real uncertainty in the legislation. The Revenue
knows from talking to accountants that many applications are made at the insistence of clients, even when the accountant is certain of the tax position. As a result, a very small percentage of applications are refused clearance.
The number of clearance applications is already large. There are, for example, more than 4,000 a year on company reconstructions alone. Disposal of a shareholding is a much more common transaction than a company reconstruction. The number of disposals of substantial shareholdings to which the exemption could apply is therefore likely to be much larger and the resources that would have to be devoted to clearance applications, both by companies and their advisers and by the Inland Revenue, would make a clearance procedure an impractical proposition. The costs would be significant, even though, in the great majority of cases, there would be no doubt as to whether the exemption applied.
My second reason for rejecting the amendment is that it would be difficult to operate the statutory clearance procedure satisfactorily. Many of the conditions for exemption apply either immediately before or immediately after the time of the disposal. A clearance application, by definition, would be made in advance of the disposal taking place and would have to be considered on the basis of the company's expectation of the facts at the time of the disposal.
In some cases, it would be difficult to determine whether the conditions were met within the context of a formal clearance application when there were strict time limits. The position might change and the facts might be different when the transaction took place. There would be a doubling up of work to consider the clearance application and then to check whether the conditions were actually satisfied after the disposal had taken place. There could be void clearances even when the facts were fully and accurately stated when the application was made.
In response to the hon. Member for Torridge and West Devon, there are less formal and more satisfactory and appropriate ways of seeking guidance in such cases. The most appropriate way might be for companies and their tax advisers and accountants who are in genuine doubt about whether a provision will apply to discuss the matter with the tax inspector who deals with accounts criteria, such as whether the company is a trading company for purposes of capital gains tax taper relief. For that relief, the company's inspector is prepared to enter into correspondence in cases where there is uncertainty and there is no reason why such an arrangement should not apply to the substantial shareholdings regime.
For those essentially practical reasons, it is not in the interests of business to have a formal statutory clearing mechanism. The more informal approach, with advice being taken from the inspector, will work more appropriately and minimise costs.
I hope that the Minister was saying diplomatically that the Revenue would be happy to operate an informal clearance procedure as opposed to a statutory procedure. It is common ground that even
after the detailed code of practice there will be grey areas because the territory is so complicated. When dealing with companies, the Revenue has an excellent record of being practical, so I am just about content with an informal procedure. Will the hon. Lady confirm that that is what she was saying? If so, I shall withdraw the amendment, but if not, we may want to return to the matter on Report.
To clear up the point about the sort of advice that the Revenue is able to give, in accordance with existing code of practice 10, the Revenue will advise taxpayers of its view on the application of the law to a particular transaction if there is genuine uncertainty as to the interpretation of the law, provided that the full facts and circumstances have been laid out for the Revenue and the relevant law is contained in a recent Finance Act. In addition, the Revenue will give post-transaction rulings advising on the tax implications of the transaction once it has been carried out.
In practice, therefore, there is an arrangement that will work well in the case of substantial shareholdings, that will minimise the burden on businesses and that will, in due course, be welcomed by business as a much more practical way of proceeding on the issues.
I beg to ask leave to withdraw the amendment.
Amendment, by leave, withdrawn.
Question proposed, That this schedule be the Eighth schedule to the Bill.
Now is the time for me to probe one or two of the philosophical points behind the schedule; I may be over-egging it. The provision is welcome—no one doubts that—but it would not be churlish to ask the Economic Secretary to tackle a further matter that arises from the schedule and clause 43. It appears to some that the Government's philosophy or underlying assumption when they introduced the provision was that trading companies are good and investment companies carrying on bona fide commercial investments are bad. In this day and age, such a view is mistaken. It is a dated assumption that virtually every large holding company quoted on the stock market is an investment company.
Provisions in the Bill define trading groups, into which most companies will probably fall. However, I draw the Economic Secretary's attention to one or two obvious points. Investment companies employ people who pay tax, often at very high rates, and they should be encouraged. We want to retain investment companies in this country and encourage new investment companies to locate here. The measure is wholly welcome for trading companies and groups.
I ask the hon. Lady to deal with this fundamental point. Investment is the sine qua non to all business and commercial activities and it is absolutely vital to our economy. In a nutshell, my argument is that the distinction is now completely dated and I hope that the Economic Secretary will tell us that the Government
are reconsidering their views, which are not really relevant to a modern, thriving and growing economy. We must encourage investment companies. I am not talking about companies that are involved in tax avoidance and so on, but about investment companies that carry on bona fide commercial investments.
I second the hon. Gentleman's comments. Indeed, the Chartered Institute of Taxation raised the same matter. It thinks that the distinction between trading and investment companies is inappropriate in the context. Furthermore, it is unsatisfactory that the disposing group has to be a qualifying trading company, both before and after the disposal of shares in a trading company, which appears to have been carried over from the initial consultation process when a deferred system rather than exemption was proposed. As I understand it, that could lead to the extraordinary result that a UK holding company would be exempt from corporation tax on all disposals except the last one, putting the UK at a disadvantage, particularly against Germany and the Netherlands.
Thirdly, I understand that there could be anomalies between the clause and the proposed legislation on derivatives. I would flag that up for further discussion later in the Bill. Finally, can the Government be urged to include a trading purpose option in addition to the minimum holding?
I thank hon. Members for their comments on the schedule. I certainly enjoyed the description by the hon. Member for Torridge and West Devon of his vision of how the British economy might develop in the next 10 or 20 years. To understand the terms of the provision and its restriction to trading companies, it is important to grasp how it arose. When consultation on the relief for substantial shareholdings began, it was in the context of a deferral relief—the disposal proceeds would then have to be reinvested in qualifying trading assets. The exemption that we are introducing contains no reinvestment requirement.
Will the hon. Gentleman let me continue for a moment? We sought to maximise the likelihood that the disposal proceeds would be used in the way that contributed most to our fundamental policy objective of increasing UK productivity. The trading provisions are designed to achieve that.
Our tax system already distinguishes in many ways between trading and investment activities, and the holding and management of property is regarded for such purposes as an investment activity. However, there is nothing to prevent a property company that is a member of a trading group from benefiting from the exemption if it disposes of shares in a trading company, a holding company or a trading group or sub-group. Property companies will not necessarily lose out as a result of the changes.
I can tell the hon. Member for Arundel and South Downs that we published in the Budget press release the shape of future consultation on the measures. Perhaps I should not go into all the details, but we said that one of the issues that the consultation would
review was the scope for greater alignment between the treatment of investing companies and that of trading companies. I am not going to pre-empt the review or its conclusions, but that will be considered. I am sure that the hon. Member for Torridge and West Devon will make representations to the review, as will other interested parties.
On trading purpose other than activity, the purpose for a group of activities is difficult to operate; activity is an easier concept. In practice, purpose can be evidenced only by actual activity. I do not believe that there is a significant difference between the two. In conclusion, I hope that all Committee members will be able to support the schedule.
The Economic Secretary is right that distinctions, often artificial, between bona fide investment companies and trading companies riddle our tax system. I welcome the fact that the matter will be reviewed, and hope that the review will take into account the points made by Opposition Members, especially those that relate to enhancing our economy and the attraction of the United Kingdom as a first-class trading location.
Question put and agreed to.
Schedule 8 agreed to.