Accountants do U-turn as Brown targets loopholes

By Robert Outram

WHEN even accountants complain that the tax system has become too complicated, you know that it's serious. Under the UK's self-assessment system, companies and individuals are expected to work out their own tax liability, but the volume and impenetrability of the legislation makes this no easy task.

One reason for the complexity of Britain's tax laws is what tax professionals like to call the "sticking-plaster" approach. Much legislation contains loopholes and, when they are exploited - quite legally - by taxpayers and their advisers, the law has to change again to close the loophole. So the law grows, layer upon layer.

One solution is to replace reams of legislation with a simple rule: if a transaction has been structured in a certain way simply to save tax, it should still attract the same tax liability it would have done if it had been structured along purely commercial lines.

In other words, rather than keep coming up with legislation drafted to anticipate every piece of tax avoidance, why not simply rule out artificial tax avoidance altogether?

Such an approach is known as a "GAAR" - general anti-avoidance rule - and it has already been introduced in tax regimes overseas, Canada being one example.

When the UK Government proposed introducing a GAAR back in 1998, however, the idea went down like a lead balloon with companies and their advisers. A GAAR would create "uncertainty", the professionals said; it was too draconian and moved too far away from the idea that the letter of the law, not the will of politicians, should determine what a taxpayer owes. The idea was quietly dropped.

Seven years on, the Institute of Chartered Accountants of Scotland (ICAS) has ditched its opposition and is now calling on the Government to consult on how a GAAR might be introduced.

A formal paper presented to Chancellor Gordon Brown last month included a general avoidance rule as one of three elements in a root and branch reform of the UK tax system. The other two are repeals of much of the existing anti-avoidance legislation and the ability to have transactions cleared in advance by the tax authorities, so there is certainty as to whether a particular scheme or arrangement will be accepted.

So what has changed? The biggest difference is that, rather than try to push through a GAAR against widespread opposition, the Government opted to tackle tax avoidance though a disclosure rule that makes it mandatory to report any proposed tax-saving scheme to tax authorities ahead of implementing them.

This, combined with a determination to introduce retrospective legislation if need be to close loopholes, has radically shifted the balance of power towards the Exchequer.

A GAAR might now be the lesser of two evils, according to ICAS. With the right safeguards, it could help to simplify the tax system, and reduce uncertainty and unnecessary costs. The paper outlining the proposal makes it clear that streamlining of current legislation and introducing a system of "pre-transaction rulings", must also be part of the reforms.

The latter measure would mean that companies would know at an early stage what is acceptable and what is not, rather than finding the law, as they understand it, overturned by backdated legislation.

Not all accountants believe that a GAAR is the answer, and many of the original objections are still argued strongly in some quarters. The Government itself may be put off by the potential cost of having to provide pre-transaction rulings - although the cost to the Exchequer of having a dysfunctional tax system may be greater.

In 1999, the UK topped the table for US companies' pre-tax overseas profits; in 2002 it had slipped to fourth place behind Ireland, Bermuda and the Netherlands. The relative corporation tax rates have not changed significantly; one reason for the change may be that the UK's tax system is seen as less business-friendly and less certain than it was.

It would be ironic if a measure widely condemned as draconian seven years ago proved to be the solution.

• Robert Outram is editor of CA Magazine. The views expressed are his own

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