Clause 32 - Temporary non-residents

Finance Bill – in a Public Bill Committee am 11:15 am ar 28 Mehefin 2005.

Danfonwch hysbysiad imi am ddadleuon fel hyn

Question proposed, That the clause stand part of the Bill.

Photo of John Healey John Healey The Financial Secretary to the Treasury

This is the first of a series of clauses dealing with capital gains tax and common avoidance schemes.

In 1998 the Government introduced legislation to counter the widespread use of certain tax avoidance schemes that relied on the fact that in most circumstances the rules for capital gains tax did not generally impose a charge on people who had been non-UK resident for the entire tax year in which they disclosed financial information. Under the rule that was introduced in 1998 the gains of people who leave the UK temporarily are taxed; it applies only if they had a close connection with the UK before they left and they are absent for fewer than five complete tax years. However, some people took advantage of the interaction between the terms of some of our tax treaties and the capital gains tax rules in such a way that they could return to the United Kingdom before the stipulated five years had elapsed without having to pay any UK tax from gains realised while they were resident outside the UK.

The measure in clause 32 removes this avoidance opportunity. It stops the exploitation of our double taxation treaties and ensures that a charge to capital gains tax is imposed when the individual’s absence from the UK is of a temporary nature. It does that by ensuring that the tax treaties cannot have the effect of preventing the UK’s rules that were introduced in 1998 from applying.

The measure also deals with a situation in which the individual is regarded as resident in a foreign territory for tax treaty purposes, while simultaneously being resident in the UK. In such cases, the 1998 legislation will have no effect as the individual concerned will not have ceased to be resident in the UK. In certain circumstances, therefore, treaty non-residents could also be exploited by tax planners to enable people to avoid tax on capital gains; this measure closes that opportunity.

The Government are introducing the measure to put beyond doubt the question whether the terms of our tax treaties prevent the application of the 1998 temporary non-residence anti-avoidance rules. Her Majesty’s Revenue and Customs has changed its view on that. It no longer accepts that our tax treaties have that effect, but to avoid uncertainty it seems sensible, wise and reasonable for us to legislate in clause 32 so that everyone is clear and individuals cannot seek to avoid capital gains tax in that way. The effect of this measure is to ensure that an appropriate amount of tax is charged in respect of gains made while individuals are temporarily absent from the UK. Whenever foreign tax has been paid, the double taxation relief will be available in line with the normal rules.

Reaction to this clause has been relatively muted since we announced it in the Budget and published it in the first Finance Bill. Deloitte’s, for instance, has said:

“The measures proposed are an example of the closure of a specific tax avoidance idea which had been widely used to avoid capital gains tax by emigrating to certain treaty friendly jurisdictions”.

In tax-planning and advisory circles, that has become widely known and promoted as “the Belgian wheeze”.

The measure in clause 32 is targeted at avoidance—the avoidance that we are seeing. I suggest to the Committee that the measure is proportionate and fair, and I commend the clause to the Committee.

Photo of Richard Spring Richard Spring Shadow Minister, Treasury

As we have heard from the Minister, clause 32 removes a loophole so that temporary non-residents cannot avoid UK capital gains tax by becoming treaty non-residents. Essentially, that is a legitimate response to an exploitation of treaties drafted before section 10A of the Taxation of Chargeable Gains Act 1992 came into force in 1998.

Although we accept the underlying force and rationale of the clause, we need to explore two important elements. The first is the jurisprudence of the European Court of Justice and the impact of the possible implications of EU law on our tax laws.   Obviously, that is a huge issue and a thread that will underlie many of our considerations during the passage of the Bill.

The second point was made by my hon. Friend the Member for Braintree, and I absolutely agree with him. We live in an era of tax differentials, which are growing ever larger not only internationally but within the European Union, where there are substantial tax reductions at all sorts of levels in some of the member nations, while our tax structures remain somewhat ossified.

I should like to bring the Committee’s attention to the European Court of Justice case of Hughes de Lasteyrie du Saillant v. Ministere de l’Economie, des Finances et de l’Industrie. The Advocate General suggested that authorities could provide for taxation of taxpayers returning after a relatively short period of non-residence. There seems to be an indication in the Hughes de Lasteyrie case that the five-year period in section 10A of the Taxation of Chargeable Gains Act 1992 may not be construed as a relatively short period for that purpose. It would mean that the legislation was contrary to European Union law. The Hughes de Lasteyrie case involved a Frenchman who changed his tax residence to Belgium. France charges an exit tax on individuals who do so, being primarily a deemed disposal at market value of assets that they hold at the time. Monsieur de Lasteyrie successfully argued at the European Court of Justice that such a measure discriminated against his moving to another member state of the European Union and was hence contrary to the freedom of establishment and freedom of capital articles of the EU treaty. That will therefore impact on the existing equivalent measures under United Kingdom tax law, including clause 32.

We need to be satisfied that the five-year period under section 10A of the 1992 Act is in line with the Advocate General’s comments. There is, however, an acknowledged balance to be struck in that the aim of section 10A is to stop people briefly going non-resident for tax avoidance purposes, as the Financial Secretary has said, and a potential opening of the door to the sort of avoidance that section 10A was designed to stop. The Government genuinely need to satisfy themselves that we have proper, robust support that is safe from unexpected attack under EU rules.

Photo of Rob Marris Rob Marris Llafur, Wolverhampton South West

I hope that the hon. Gentleman will forgive me if I was not following his argument closely enough, but was the Hughes de Lasteyrie case a decision of the European Court of Justice or did the Advocate General’s opinion inform the court?

Photo of Richard Spring Richard Spring Shadow Minister, Treasury

The Advocate General made such a decision and the state of the matter in terms of its implication is still to be established. I hope that the hon. Gentleman will agree—I mean this dispassionately—that we have to deal with the potency of EU jurisprudence in our national law and our raising such an issue now is of huge importance.

Under EU law, anti-avoidance legislation must be specific and not aimed generally at all situations. It could be said that clause 32 catches all situations, including when the intention was not to avoid tax. It   might, for example, catch a worker who moved to an EU country for up to five years to undertake employment in that country with no intention to avoid tax. A provision that interferes with one of the fundamental freedoms can be justified by a member state on the grounds that its aim is to tackle the avoidance of tax as long as it is sufficiently targeted. A rule such as section 10A seems to deem all emigration to be tax motivated, which, if considered too broadly targeted, opens it up to EU law attack. We must be sure that the Government are robust and clear about the impact of clause 32, in view of the jurisprudence and potential actions of the European Court of Justice.

Photo of Christopher Huhne Christopher Huhne Shadow Minister, Treasury

I should like to ask the Financial Secretary a question because I am informed that another potential implication of the clause raises the issue of whether domestic legislation can override a tax treaty signed with another country. I gather that that is aimed particularly at residents moving to Belgium and availing themselves of the double taxation provisions under the treaty with that country. It would be interesting to hear the Minister’s comments on the status of domestic legislation.

Photo of John Healey John Healey The Financial Secretary to the Treasury

I am grateful to the hon. Member for West Suffolk (Mr. Spring) for his description of the clause as a legitimate response to tax avoidance. He asked reasonable questions, and raised a concern—as did the hon. Member for Runnymede and Weybridge on Second Reading—about whether the measure could fall foul of European law. We are confident that it is compatible with our EU obligations and Community law.

The hon. Member for West Suffolk dwelt at length on the French case. I shall add a couple of points of explanation that may help make the point and draw the distinction between the French case and the provisions in clause 32. The hon. Gentleman is right that Community law prohibits a member state from imposing any unjustified restriction on the exercise of Community rights—such as, in this case, the right to free movement in the European Union. In March 2004, the French case that the hon. Gentleman cited imposed a tax charge on unrealised capital gains at the point when people depart from France to become resident in another member state. It was not the Advocate General but the European Court of Justice that held that that rule was incompatible with Community law. It may be helpful if I quote from the ECJ judgment. It stated that

“the French authorities could, for example, provide for the taxation of taxpayers returning to France after realising their increases in value during a relatively brief stay in another Member State.”

That is precisely what we propose to do under this measure. When leaving the UK, the tax position of an individual is neither improved nor impaired as a consequence of their move from the UK. Such a tax-neutral rule means that there is no restriction on either free movement or free establishment. In other words, our temporary non-residence provision is not an exit charge, so there should be no question of its falling foul   of Community law. Indeed, we take considerable care to avoid such situations arising when we frame our domestic legislation.

The hon. Member for Eastleigh (Chris Huhne) asked whether this provision was a treaty override. The provision’s purpose is to close down an aggressive tax avoidance scheme that seeks to exploit the treaties that we have in place. Those treaties are designed to avoid double taxation; they are not designed to provide for non-taxation, which is the practical effect of the current situation. I think that the hon. Gentleman will accept that when tax treaties are abused in this way there is a danger of their being brought into disrepute. This measure will not lead to our infringing the taxing rights of any country with which we have taxation treaties, and, as I have said, the double taxation relief will be available to any taxpayer on whom the other country has imposed a charge. Furthermore, under this provision we will be taxing only UK residents.

This provision is not a treaty override, but it is intended to ensure that the treaties work as intended, and if there is any question of taxation in another country where a double taxation treaty is in place, the normal rules ensuring that that taxpayer gains relief in our country on any UK tax charge will come into play. On that basis, I hope that the hon. Members for Eastleigh and for West Suffolk will accept that this is an important measure, and that the Committee will agree.

Photo of Richard Spring Richard Spring Shadow Minister, Treasury 11:30, 28 Mehefin 2005

I am grateful for the Financial Secretary’s comforting remarks. However, I shall simply point out that it was subsequent to the ECJ case that the Advocate General made his comment, which suggested that authorities could provide for taxation of taxpayers returning after a relatively short period of non-residence. With regard to the comfort that he has given, I say in a wholly dispassionate way to the Financial Secretary that I hope that our ability to frame our domestic anti-avoidance legislation will not be impaired. I ask him to monitor carefully the procedures that may be used in the European Court of Justice, and to ensure that our legislation means that we have control of the national level and that that is not impaired for reasons outside our control.

Question put and agreed to.

Clause 32 ordered to stand part of the Bill.