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Clause 51
Use of different accounting practices
within a group of companies
Mr. Flight: I beg to move amendment No. 96, in
clause 51, page 58, line 11, leave out second 'and'.
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The Chairman: With this it will be convenient to discuss amendment No. 97, in
Mr. Flight: Hon. Members have raised one or two technical issues. Once international accounting standards—IAS—are in force, companies will be required to prepare consolidated accounts, and hence the accounts of the holding company, under IAS. However, they may choose to continue to prepare UK generally accepted accounting practice—GAAP—accounts for some or all subsidiaries. They may well choose to do that for non-tax reasons, such as the level of work involved.
The clause is broadly welcomed by business. It is seen as the inevitable price of allowing companies a free choice to use GAAP at solo company level—a sort of burden on business. The clause applies a mechanical test to determine whether a transaction between two companies that use different accounting practices should be adjusted for tax purposes. I believe that the Revenue has already been asked to explain why the test should not be whether there are genuine commercial reasons for the adoption of different accounting practices.
The clause is a necessary response to the decision to allow companies the choice to use GAAP at a solo level, but it has been pointed out that it could have been better drafted. Where it applies, it forces a company using IAS back on to UK GAAP for tax purposes if a tax advantage would otherwise be obtained. There is no motive test, so the taxpayer gets the worst of both worlds. For example, suppose that two group companies undertake a derivative transaction and accruals are accounted by one company under UK GAAP, but marked to market by the other under IAS. If the difference produces a tax disadvantage, it stands, but if it produces an advantage, it is cancelled by forcing the second company on to UK GAAP.
It has been argued that that aspect could be removed by introducing a test that the advantage had to be one of the main foreseeable benefits when the transaction was implemented. That is what we seek to do with the amendments.
The point has also been made that, although what I have just described is unfair on the innocent, the measures are potentially weak against a determined avoider, as they apply only between two companies in the same capital gains tax group. They could be de-grouped quite easily while remaining under the same effective ownership and control. The arrangement leaves out an intra-IAS arbitrage opportunity deriving from clause 50(3) and applies only to transactions or series of transactions, not to companies with different existing profiles, which can be used as the basis for arbitrage.
10.30 am
Mr. Davies: On a point of order, Sir John. I should be grateful for your guidance about whether this is one
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of those occasions on which you intend the substantive discussion of the purpose of the clause to take place under the heading of the amendment. I have been listening to my hon. Friend carefully and his amendment goes to the heart of the purpose of the clause. Alternatively, do you intend that there should be a clause stand part debate?
The Chairman: I do not think that the hon. Member for Arundel and South Downs strayed particularly wide, in his remarks, of amendments Nos. 96 and 97, although those do, as the hon. Gentleman suggests, go to the heart of clause 51. I am perfectly happy, if the Committee wishes, to allow remarks on the amendments to be extended a little further, on the basis that we shall then have no stand part debate. I see nods of assent, so we shall proceed on that basis.
Mr. Davies: Thank you, Sir John.
First, I apologise, because last week—purely as a result of a slip in memory—I did not, as I did on Second Reading, declare my interests, in so far as they might be considered relevant to the Finance Bill. I am, and have been for a number of years, an adviser to the Chartered Institute of Taxation. The institute of course has no position on or interest in any particular tax measure, but nevertheless I should declare that interest.
I am also a director of Vinci—both the main board, Vinci SA, and the UK subsidiary, Vinci plc. As a result I shall not be making any contribution on matters relating to the construction industry, which we shall reach shortly. I am also a member of the council to the governing board of Lloyd's, so I shall have to restrain my intellectual interest in that subject too, when we get to it. I have no interest as an underwriter—I am not and never have been a name.
The clause is interesting in several ways. As my hon. Friend the Member for Arundel and South Downs explained, it has the curious effect that, although the Government have introduced legislation—following a European directive—giving non-listed companies the option of moving to IAS or staying with GAAP, there is clearly, in this case, a one-way bet in favour of the Revenue. If the option is exercised so that within a group of companies a tax advantage might arise, the clause will override it; if it is exercised so that a tax disadvantage arises to a company, the tax disadvantage remains. That is a slightly curious state of affairs.
What I have described highlights the artificiality of tax accounting in this country. That is a very wide subject, which I am sure the House should have an opportunity to debate—not this morning, of course. It is clearly at the heart of the economic impact of the tax system in this country. The system is in many cases perverse and I remind the Committee that other EU countries—Germany, for example, which is a very sophisticated economy—base their tax accounting on normal accounting standards. For a long time, and before the introduction of IAS, German companies have been expected to present to the tax office—Finanzamt, in their case—exactly the same accounts as they present to their shareholders. Those accounts are based on accounting principles, which are taken,
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expected, hoped and intended to be principles that follow economic reality as far as possible, because that is the object of good accounting.
That system is an enormous advantage, whereas in this country we continue to have the absurd artificiality in which people must produce completely separate accounts on a completely different basis for the tax system, which has nothing to do with economic reality. Now we have an even greater anomaly whereby, even if people present accounts using an option allowed under accounting law, they can be left at a disadvantage if a disadvantage arises, and without any benefit if some benefit arises. There is no doubt that it is an anomalous and curious situation.
I have two questions for the Paymaster General, which need to be answered before the Committee takes a decision on the clause. One is about a practical consequence and the other is a matter of interpretation on something that I do not understand. I hope that when I have heard the explanation in a few minutes I shall do.
First, what is to stop companies getting round the clause by de-grouping for capital gains tax purposes? It is perfectly possible and not difficult, and they would get the benefit—if there was a tax benefit to be obtained—of exercising the options of GAAP and IAS. Are the Government wasting their time drafting the clause? In practice, is it not true that if a group of companies could obtain a tax advantage by exercising that option, they would simply de-group to do so?
Secondly, there is a question of interpretation of the text.
Mr. Burnett: There could be considerable tax difficulties if the companies de-grouped and held-over, roll-over or inter-group gains were brought into charge.
Mr. Davies: Certainly. A company faced with the application of this clause to its tax affairs would have to take a view on balance of its aggregate tax position and the extent to which that position would be improved by exercising the options of whether to move to IAS or stay with GAAP and whether to stay grouped or to de-group. It would have to take a rational decision.
Companies have a responsibility to their shareholders to take a rational decision in light of any change in the law. The provision will constitute a change in tax law that might be very material to them. The hon. Gentleman is absolutely right: they will have to take those other considerations into account.
The existence of the option will negate the impact or the benefit to the Revenue, which is presumably the purpose of loading already extremely complicated Finance Acts with this new provision. We ought to hear the Paymaster General's response to that.
Mr. Burnett: I am getting at the fact that the ability to circumvent the clause will be very limited. It is wrong in principle that the Revenue gets both ends of the stick and a hunk out of the middle. Does the hon. Gentleman agree with that?
Mr. Davies: Yes, I totally agree. There is far too much of that one-sided drafting in Finance Acts, and
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the hon. Gentleman and I are at one in questioning the good sense of introducing the clause. A transformation cannot take place overnight, but if I were ever in a position to influence matters I would want to move in this direction: our tax law should be gradually aligned with economic reality.
Where we introduce IAS—an extremely good move—compulsorily for listed companies, and voluntarily for other companies, which is right because we do not want to impose additional compliance burdens on the broad mass of companies in this country, and the move to IAS should be evolutionary not revolutionary, we should allow companies to benefit from an increasingly rational accounting system.
Companies should be taxed on real economic profits and not on artificial profits computed by the Revenue—or compulsorily computed by companies for the benefit for the Revenue—on the basis of what is, as I have said, an artificial system. I make it clear that that is my agenda. It seems to me from the body language that I am not alone in the Committee in feeling that way. I am reassured that that is the case.
This is a matter of pure interpretation, and I may be being extremely stupid about it, which the Paymaster General will enjoy telling me if that is the case, but I must assume that I am not alone among the 56 million people in this country who may be affected by tax law at some stage in finding the clause difficult to understand. I refer to subsection (4), which says:
''A series of transactions is not prevented from being a series of transactions involving company A and company B by reason only of the fact that one or more of the following is the case—
(a) there is no transaction in the series to which both those companies are parties''.
That is reasonable. It may well be, if only one of the relevant companies in a group is a party to a transaction, but not the other, that some tax benefit is generated.
The subsection continues:
''(b) that parties to any arrangement in pursuance of which the transactions in the series are entered into do not include one or both of those companies''.
That is most extraordinary. In other words, there could be a transaction not involving either of those group companies, or any company in that group, that would give rise to a tax charge. That must be an absurdity. The Paymaster General is about to tell me that I am being stupid and have misunderstood the clause, but I repeat that it says:
''A series of transactions is not prevented from being''
taxable in that way, or having the clause applied to it, even if neither of the companies involved has been a party to that transaction. That seems to me most extraordinary and I hope that the Economic Secretary can clarify.
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