| Complexity of the UK system behind multinational HQs move to Ireland |
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| The recent high profile cases of Shire Pharmaceuticals and UBM Media Group relocating their holding companies from the UK to Ireland have generated a wave of interest. Conor Begley & Heather Self consider the attractiveness of Ireland for UK multinationals and the current state of the UK review of the taxation of foreign profits, and set out some of the key issues that multinationals should consider in deciding whether to remain in the UK. |
Ireland is renowned globally as being one of the premier locations for establishing a headquarter and holding company location. Business and tax laws help to create a positive environment for international holding companies based in Ireland. The Government’s fostering of sustainable macro-economic policies, pro-enterprise environment, and a well-educated young labour force has combined to bring together a good place to do business. This is clearly evident in the increase in foreign direct investment.
Foreign Direct Investment (FDI) in Ireland now exceeds €30 billion as compared with €16 million in 1973:
on a per capita basis, FDI is higher in Ireland than any other European member state. Trade has increased 80-fold with consequent benefits for the number of people at work and the choice of products available to all consumers, and the Irish economy has been transformed with over 128,000 people employed in over 1,000 foreign-owned companies based in Ireland. Ireland has dramatically changed in the last 25 years from low end manufacturing to high end, head quarter location.
Such ‘soft’ points as geographical location, English-speaking, common law, pro business environment, high educational standard, excellent transport links (e.g. 22 direct flights a day to London Heathrow) combine to make Ireland a very easy place to do business.
A good quality of lifestyle contributes to make it an attractive location for executives looking at overseas assignments.
Ireland‘s favourable tax regime
The combination of Ireland‘s tax polices creates a very good overall fit for many businesses in the structuring of their global operations.
The 12.5 per cent rate of corporation tax is here to stay, doesn’t require a tax holiday, rulings or approval by Government. It is a very straightforward and easy to communicate rate of corporation taxation. There is no CFC, thin capitalisation or transfer pricing legislation in place and there are no indications of any being introduced in the future.
Dividends are taxed at either 12.5 per cent or 25 per cent rate of tax with full underlying credit relief, depending on whether the dividend is earned from trading or passive income. With the combination of onshore pooling there is generally no expected additional tax in Ireland. It is expected that full exemption will be introduced in time. There is no dividend withholding tax to European Union or tax treaty countries, including dividends paid to companies controlled by these countries. Ireland also has a wide treaty network including excellent treaties with the key growth jurisdictions of China and India. The Chinese treaty is particularly favourable due to the very low rate of withholding tax on dividends from China of 5 per cent and also the additional flexibility of offering exemption from withholding tax on disposals at China level.
The holding company regime also includes a full exemption on gains on the disposal of subsidiaries, subject to a minimum 12 month holding period and 5 per cent holding.
There is a 20 per cent tax credit for R& D expenditure, which with the Government‘s educational policies now focusing expenditure on encouraging more and more graduates to progress to PhD level is providing both the tax incentive and intellectual capability to carry out high end R&D.
In summary, the overall package ties together very well and helps large organisations in managing one of the largest variable costs to their businesses after labour, corporation taxation.
The review of foreign profits
The formal review of foreign profits in the UK started with an announcement in Budget 2007, although informal discussions had been taking place for some months before that date. There was general agreement that the current system is too complex and was not helping the UK in its goal of being a competitive place to do business. The Controlled Foreign Companies (CFC) system, introduced in 1984, was not operating effectively from the perspective of HM Revenue and Customs (HMRC) or business, and was under increasing pressure from decisions in Europe - particularly Cadbury Schweppes, which held that within Europe, CFC rules should only apply to artificial structures.
On 21 June 2007, a discussion document was issued. It was notable that this was not labelled a consultation document - its aim was to outline broad principles for discussion, paving the way for more detailed proposals at a later date. Whilst this was a laudable aim, it has had two main consequences. The first is that there was, perhaps inevitably, a lack of clarity in the initial proposals, which led to widespread concern that the result would be a significant increase in complexity and a fall in UK competitiveness. The second is that the process has dragged on: the initial target date of April 2009 is still achievable, but the risk of its being postponed is increasing. Almost a year later, we still do not have the Consultation Document, which has now been promised “before the Summer” (Budget 2008) - which probably means just before Parliament rises on 22 July.
Behind the scenes, Treasury and HMRC officials have held a series of meetings with business and professional bodies, and appear genuinely to be striving to craft legislation that will be acceptable to all parties. But there is little information in the public domain, and uncertainty over the proposals and their implementation date is damaging business confidence. Press speculation about which businesses may be next to leave the UK is hardly helpful to
the process.
Compliance burdens
The reasons given by UBM for its decision to relocate its holding company are interesting:
‘the UK tax system imposes tax on all companies in a worldwide group, and consequently UBM has had to manage the interaction between the UK tax system and the tax systems of the multiple countries in which UBM operates. This has given rise to both significant compliance costs and risks of inadvertent tax charges arising.’
In other words, this is not so much about how much tax the UK charges on foreign profits, but how much effort a UK multinational has to go through in order to prove that no tax is due. If the UK wants to improve its competitiveness, there are real issues about perceived burdens on business and the attitude of HMRC. Significant efforts have been made since the large business (Varney) review, but there is still a need to tell a simple and convincing story, particularly to overseas investors looking for a European holding company location.
Intellectual property
The key policy issue that HM Treasury needs to determine is the extent to which it ‘should’ tax the overseas profits of UK multinationals. It has gradually become clear that the most difficult area is probably intellectual property (IP). The UK Government’s perception is that IP is developed (and financed) in the UK, then sold offshore at a relatively early stage in its development - when the arm’s length price is uncertain and arguably quite low - with subsequent profits falling outside the UK tax net. An IP Focus group has been formed to discuss this issue in depth, and in particular to try to draw a sensible line between ‘active’ and ‘passive’ income from IP. As Shire has shown, if it appears that the line is going to be drawn too tightly, activity may simply leave the UK altogether.
Getting out of the UK
It is important to note that inverting to Ireland does not remove UK activities from the UK tax net (although it may, over time, affect future investment decisions). Both Shire and UBM have undertaken reorganisations resulting in a new Irish resident company acquiring the old company on a share for share basis. Subsequently, overseas activities will be sold up to the new holding company, resulting in an Irish-headed group with UK and other non-Irish activities held below it.
The share for share exchange will not normally trigger a tax liability for shareholders. The form of the exchange is a reconstruction under Part 26 of the Companies Act 2006, which gives both company law advantages (for example, only requiring 75 per cent consent) as well as stamp duty exemption.
However, it is a major corporate transaction, requiring a full circular and Court consent, so is not to be undertaken lightly.
The sale of foreign activities up to the new holding company is assumed to qualify for the substantial shareholding exemption (SSE), although no doubt again this will have been a major exercise to confirm the relevant conditions are satisfied. It is interesting to note that the availability of SSE will, in many cases, enable emigration to be undertaken on a tax-free basis for the company.
The availability of tax credits to individual minority shareholders receiving foreign dividends, effective from 6 April 2008, means that minority shareholders are less likely to be concerned at receiving Irish rather than UK dividends in future (minority shareholder means a person whose shareholding in the company is less than 10 per cent of the company’s issued share capital). However, Shire and UBM both announced that they would be giving shareholders the option of receiving dividends from either the Irish company or a UK company.
Finally, it will of course be necessary to ensure that the new holding company is genuinely resident in Ireland and does not fall back into UK residence for tax purposes. In practice, this is likely to be easier for a major quoted company than a private company to achieve, since its Board composition and formal procedures will be well-documented, but there are still risks that HMRC may argue at some time in the future that it is managed and controlled in the UK. The recent case of Smallwood (and Related Appeal) v Revenue and Customs Commissioners shows that this issue is by no means redundant.
The way forward
Companies whose activities or customers are primarily in the UK are unlikely to want to emigrate - the potential savings need to be weighed against the costs, including any possible reputational issues. But those whose profits arise mainly outside the UK, or whose links to the UK are only historical, should at least consider their position carefully.
Moving a group’s base to Ireland - or some other jurisdiction - will be a major corporate transaction and is not to be undertaken lightly. It will also mean setting up real substance in the new location, with at least some key management posts located there.
The UK’s new regime may well include an exemption for foreign dividends, which could be more attractive than the Irish credit system, particularly where groups need to repatriate funds in order to fulfil dividend payments to shareholders. However, if this is combined with wide-ranging new CFC rules, and an over complex compliance regime, the UK will slip further down the competitive ladder.
Most groups, with a mixture of UK and overseas activities, will want to be ready to leave if the new rules are disappointing - but may decide to stay if the UK achieves its goal of remaining ‘one of the world’s best places to do business’ (Alistair Darling, 29 April 2008). |
Conor Begley is international tax director with Grant Thornton Ireland and Heather Self, is international tax partner with Grant Thornton UK.
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| Article appeared in the July 2008 issue.
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