I am grateful to the Minister for giving way over such an extended period. We were talking about the different dates: 1 July and 1 January. The Minister had linked the two issues of the treatment of dividends and the debt cap. I wondered why the dates had not been coterminous. The subsequent point about 1 July is that this will come into effect before the Bill is enacted. If we get past that date and the Government call a general election, where does that leave people? Is it law or not?
Welcome back, Mr. Hood. I can reassure the hon. Gentleman that I do not expect that that will happen. But the Bill will not become law until it secures Royal Assent. He asked why we do not have the same date for the implementation of dividend exemption and the new debt cap requirement. It was the original intention, but in our discussions with businesses there was a strong sense that it would be helpful if there was a period between the two. They will undoubtedly want to make some changes and introducing the six months between the two gives a period of grace that enables them to do that. That has been widely welcomed. It is one of the improvements that we have made as a result of the consultation over the last few months.
I was answering a number of questions raised by the hon. Member for Fareham about the thinking behind the changes that we have made. As he said, there would have been a number of ways to tackle the issue that we are dealing with in the schedule. In terms of moving towards a territorial tax system, one view would be that as a matter of principle, interest to fund foreign equity investment should not be relieved when the dividends from those investments are exempt. Taking that view would suggest that dividend exemption should be accompanied by strict interest allocation or a limitation of interest for outward investment.
Either of those would have a very big impact on multinational companies, particularly on UK-headed groups. We discussed them both with businesses. Both were disliked, particularly interest allocation and the associated complexity and administrative burden that accompanies it, as has been found in the operation of that arrangement in the United States. Companies were very keen that we should not go down that road. So the debt cap measure is a less far-reaching but principled measure to accompany dividend exemption.
The hon. Gentleman suggested that another way might have been to tighten the thin capitalisation rules. That is where, typically, a UK subsidiary of a foreign multinational is funded with too little share capital and too much debt, thereby attracting a higher tax allowance than would otherwise be the case. That is countered at the moment using the UK transfer pricing rules which adjust the profits of a company that is thinly capitalised to reflect the profits it would have made if it had been capitalised in accordance with the arms length principle. A tightening of the UK rules to counter cases where there is excessive debt in the UK would mean abandoning the arms length principle. Instead we could have looked to counter thin capitalisation using different rules, but the alternative methods would have an impact on many more cases than the debt cap measure does.
In the end, we concluded that this is a principled and effective approach that deals with the problem. It is a clear principle. It is readily understood. In December, following the pre-Budget report, we issued draft legislation on the foreign profits package, so that people could see our intentions. There were concerns and lots of discussions arose.
At the beginning of April, Her Majestys Revenue and Customs published a technical note setting out current thinking on the debt cap with high level design changes, which have been welcomed. When the Finance Bill was published at the end of April, large parts of the debt cap legislation had been revised, but there were areas that required more time to ensure that the proposals were appropriate, so they were not in the Bill. There have been further discussions with interested parties since then. That is the background to the Government amendments to schedule 15.
The hon. Member for Farehams final question was about the gateways for outbound investors for UK-headed groups. He is right; we had hoped to have more than one gateway to keep administrative burdens on business as small and as light as possible. He anticipated part of my answer: throughout the package, as I have mentioned, we have had to take European Union legal requirements into account, and consequently we could only make one gateway available. However, the improvements to the debt cap design, particularly the switch from net debt to gross debt, exclude more groups from the debt cap anyway. Other changes reduce the administrative burden on any group that has to comply with the rules.
Is there a workaround that HMRC could introduce? As I said in my remarks, a purely UK company would still have to work out whether it passed the gateway test even though it had no overseas parent or overseas external debt. Is there guidance? I hate asking for HMRC guidance and I argued against it last year. Is there a pragmatic solution that would say that a UK-only group need not go through the calculations set out in the gateway test?
We have taken steps to reduce to a minimum the administrative burden that any group will have to assume to meet the requirements. Certainly, we are open to doing what we can to help. I do not want to give the impression that there will not be an administrative burden; there clearly will be, but we have taken the steps that we can to keep it to a minimum.
No, that is not what I was saying. I am aware that the hon. Gentlemans party is heading rapidly to the outer extremes of the European Parliament. That is not a sensible or wise view. It is important that the arrangements are safe from challenge under European law, which these are. We have designed them carefully with that in mind.
I do not want to extend the debate unnecessarily, but a philosophical point arises from the discussion that we have had on the previous clause and schedule and from other aspects of Finance Bills in recent years. The Marks and Spencer case, for example, was another case in which EU law about freedom of movement and freedom of establishment principles came into play. Have the Government looked more broadly at how aspects of UK tax law need to be reformed to take into account the growing trend of businesses to consider opportunities to arbitrage UK tax and the broader principles underpinning EU laws generally?
No, there is no general review going on, although we increasingly have to take account of issues that might be raised by European law when we design our legislation, as we have in this case.
Going back to the hon. Gentlemans point about a light touch for UK companies, there could be a danger of that kind because it appeared that UK companies and EU companies were treated differently. We might have run into difficulties on that and we need to ensure that we do not. As he may have been suggesting, from time to time, issues that are raised by court decisions require us to look again at features of the legislation.
I hope that I have satisfied the Committee that the clause is an appropriate measure to sit alongside the dividend exemption that we debated before lunch and I commend it to the Committee.