However, the plan to extend the territorial scope of corporation tax was unexpected and will be mixed news for funds using non-UK companies to hold UK real estate.
Below is a short summary of the key tax announcements that will affect the real estate funds sector. If you have any queries about these tax changes please get in touch with your usual BLP contact.
1. Corporation tax rates
The government will stick to its plan to reduce the corporation tax rate to 17% by 2020.
2. Cap on interest deductions for UK companies
The Chancellor confirmed that with effect from April 2017 (for UK companies), the government will cap interest deductions at 30% of UK EBITDA for groups with more than £2m of net interest expense. A group with £2m or less of interest expense will still be able to deduct that interest in full.
The government will widen the carve-out for public benefit infrastructure projects. We expect to get the detail of this early next month.
3. UK income of non-UK companies to be subject to corporation tax
Crucially, it seems highly likely that the interest cap will be extended to non-UK companies (although not with effect from April 2017). The government intends to do this by bringing all non-UK companies that receive income from the UK (e.g. UK rent) within the scope of corporation tax. Currently these companies pay income tax. This change will have a number of other consequences, including reducing the tax rate on UK rent from 20% to 17% (by April 2020). The government will launch a consultation on this proposal at next year’s Budget. It is not expected that this change will extend to UK capital gains.
4. Reform of loss relief
Other changes that will affect non-UK companies if they become subject to corporation tax are those rules on how losses can be used. The government has confirmed that it will press ahead with a plan to restrict the amount of profit that can be offset by carried forward losses to 50% from April 2017. However, on the plus side, it will allow greater flexibility over what sorts of income carried forward losses can be offset against.
5. Changes to tax treatment of partnerships
Following a consultation, the government will enact legislation next year to clarify and improve some aspects of partnership taxation. These changes will affect tax administration of partnerships, especially in structures involving tiers of partnerships. There is also a possibility of tax being withheld from income distributions if the ultimate investors are not identified to HMRC. The allocation of profits for tax purposes could also be affected. We are expecting to see more details early next month.
6. Improvements to authorised contractual schemes
The government will legislate to improve the tax treatment of co-ownership authorised contractual schemes (CoACS). The main change will be to provide certainty on their capital allowances treatment, which is complicated by the CoACS being tax transparent. Again, more details expected next month.
7. Offshore reporting funds
Investors in offshore reporting funds are generally subject to income tax on the annual fund income, but pay capital gains tax on any gain when the fund is sold. Certain expenses, including performance fees, are set off against fund income, which reduces the level of income tax payable by investors. Legislation will be introduced so that from April 2017 those performance fees cannot be set off against fund income, but instead only against gains on disposal. This may mean that these funds produce slightly more annual income, thereby increasing the tax payable by investors.
8. Authorised investment funds: dividend distributions to corporate investors
The government will modernise the taxation of dividends to allow exempt investors like pension funds to obtain credit for tax paid by authorised investment funds. Draft legislation is expected early next year.
9. Substantial shareholder exemption (SSE) reform
Following consultation, the government will make changes to simplify the rules, remove the investing requirement within the SSE and provide a more comprehensive exemption for companies owned by qualifying institutional investors. The changes will take effect from April 2017.
10. Tax advantaged venture capital schemes
In Finance Bill 2017 the government will amend the requirements for the tax-advantaged venture capital schemes – the Enterprise Investment Scheme (EIS), the Seed Enterprise Investment Scheme (SEIS) and Venture Capital Trusts (VCTs) to:
- clarify the EIS and SEIS rules for share conversion rights, for shares issued on or after 5 December;
- provide additional flexibility for follow-on investments made by VCTs in companies with certain group structures to align with EIS provisions, for investments made on or after 6 April 2017; and
- introduce a power to enable VCT regulations to be made in relation to certain share for share exchanges to provide greater certainty to VCTs.
The government also intends to consult on potential options to streamline and prioritise the advance assurance service.
The government will not be introducing flexibility for replacement capital within the tax-advantaged venture capital schemes at this time, and will review this over the longer term.