News & Articles

Disguised remuneration – update

On 21 February 2011, HMRC published the first set of frequently asked questions on the new disguised remuneration rules first published in draft on 9 December 2010. The full text can be found here http://www.hmrc.gov.uk/budget-updates/disguised-remuneration-faqs.pdf.

The purpose of this note is to provide an update on the substantive changes contained therein and in particular to focus on the changes that affect clients with assets held in trust at 9 December 2010.

We must begin by stressing that HMRC have not published revised legislation: all that has been published is the FAQs. Whilst we have no reason to suppose that the revised legislation will not enact what is set out in these FAQs we cannot be certain of that until we have final legislation. That is unlikely to be until Budget day (23 March 2011).
The key changes are as follows.

TRANSFERS BETWEEN EMPLOYEES AND EBTS (Question 11)

In the original draft there was relief where there was a disposal by trustees to a beneficiary but not the other way around. Symmetry is to be introduced. So if an employee sells an asset to a trust there will be no charge if the disposal is for market value. FAQ 25 makes the same point specifically in the context of the disposal of shares by an employee to an EBT.

This does offer a simple means of getting cash out of an EBT. If a client has assets which they are prepared to sell to the EBT they could access cash without a tax charge under the disguised remuneration regime. They would, of course, have to consider whether or not there will be any other tax charges on the disposal (for example CGT or SDLT).

The downside of selling an asset to the trust in this way is that the asset will then be within an EBT structure and there will almost certainly be a tax charge in getting it out again. This may well not be an attractive option and for many and we expect other extraction routes to remain the preferred option.

However for clients that are happy to tie up an asset within the Trust for the long term this might now be something worth considering. Such clients should discuss with their tax advisor if they want to explore this further.

This takes us inevitably into the complex area of clients with assets within their Trust structure.

ASSETS HELD IN TRUST (Question 12)

It was widely understood, prior to the publication of the first set of the frequently asked questions on the new rules that the policy intention was such that the effect of the new rules was to give rise to a charge under PAYE and NIC on any income and gains arising on trust funds after 6 April 2011.

We are pleased to advise that HMRC have stated within this publication that they intend to amend the draft legislation to remove the charge on income and gains arising within the trust from 6 April 2011. 

Given the importance of this proposed change the question, and HMRC’s answer, is replicated here:

Q12. If income or gains arising on contributions to a trust are earmarked for particular employees or their families, will the earmarked income or gains be subject to an employment income charge under Part 7A?

As drafted, the effect of Part 7A would have been that any income or gains arising on funds or assets already earmarked for a particular employee (for example held within a sub-trust for a particular employee) would be subject to a tax charge under section 554B (earmarking).

The Government has listened to representations on the administrative implications of an earmarking charge on the accrual of income and gains within a trust and accepts that such a charge is disproportionate to achieving the intended policy outcome. The intention is therefore to amend the legislation so that the accrual of income and gains does not, in itself, give rise to a charge on earmarking. However, relevant steps under section 554C or 554D will still apply where they are funded by income or gains on the original contribution.

It is important to stress that the liability to PAYE and NIC when funds are accessed; whether, broadly, by way of a payment to a relevant person or anyone connected to them (including by way of loan); or the provision of assets for use by a relevant person or anyone connected to them, remains from 6 April 2011. The charge would be on the face value of any payment, or the full market value of the asset made available.

The proposed amendment to the rules will however mean that the trust structure will remain a tax efficient, long term investment vehicle. To recap; the Trust should be outside of the beneficiary’s estate for Inheritance Tax purposes and free from Capital Gains Tax. It should also be subject to Income Tax only on UK source income.

The relaxation of these rules must therefore now be factored into client’s deliberations over whether to retain assets within their Trust, or extract them before 6 April 2011.

On the one hand the future charge to PAYE and NIC on accessing funds may well mean that those with a short to medium term intention of extracting funds will still wish to extract assets before 6 April. However, for those clients with no firm plans or desire to access funds in the foreseeable future; for those for whom the IHT benefits were the principal attraction and for those who simply wish to use the Trust as a gross roll up vehicle whilst accepting that a charge will arise at some point in the future (perhaps when rates are lower or other reliefs are available) the removal of a PAYE and NIC liability on investment returns within the Trust may well tip the scales in favour of retaining assets within the Trust.

Unfortunately, there remains no single answer to the conundrum of leaving assets in Trust versus taking them out. The decision can be reached only in the full knowledge of each client’s long term plans and circumstances. Clients may therefore wish to discuss this with their investment or tax advisor.

For those choosing to leave funds invested within their Trust, the FAQs contain one further relaxation of the original rules that will give the trustees greater flexibility in their investment policy.

INVESTMENT DECISIONS BY TRUSTEES

As originally drafted any payments by trustees to ANYBODY at the direction or request of the employee would have given rise to a PAYE charge. This would have meant that trustees could never buy or sell assets at the behest of the employee in the normal course of managing their investments. HRMC have confirmed that this is to be changed and there will be no PAYE and NIC charges arising from this sort of investment activity.

This change means that trustees will now be able to manage funds under their control without having to worry about creating unexpected PAYE and NIC charges. Our advice to trustees has been that they should exercise extreme caution before buying and selling assets within the trust. Following publication of these FAQs trustees can now manage funds within the trust without having to consider such charges. Finally, this remains an evolving area and further changes may well occur before these rules become final. You can be assured however that we will continue to keep our clients fully abreast of any changes.