Relocation, Relocation, Relocation.

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Tax Point. Relocation, Relocation, Relocation. The UK tax regime has rarely been out of the headlines over the past year, with little in the way of good news for the UK Government.

wishing to follow suit. Whose Income is it Anyway? So why would a group consider leaving the UK?

1 Tax Point. Relocation, Relocation, Relocation. The UK tax regime has rarely been out of the headlines over the past year, with little in the way of good news for the UK Government. Whilst the floodgates may not yet have been fully opened, it is clear that an increasing number of UK-based multinationals are considering leaving the UK in favour of countries with more generous tax regimes. In this issue of Tax Point we examine some of the factors influencing this trend, the countries topping the popularity list and the practical difficulties that need to be addressed by any group wishing to follow suit. Whose Income is it Anyway? So why would a group consider leaving the UK? The press coverage indicates that it is something to do with the competitiveness of the UK corporate tax system, but what exactly is meant by that? The starting point for any discussion of this issue must be to consider those areas in which the UK is actually facing competition from other jurisdictions. The current debate is not about taxing the profits of UK trades or professions. Although there are aspects of a tax regime that can make a country more or less attractive as a place to locate trading operations, including personal as well as corporate taxes, often the ties of business and practicality that bind a trade to a particular location are strong. However, with today s global economy, the position is different in relation to other types of income. For example, in a number of cases, it is entirely practicable to hold shares in overseas subsidiaries from holding companies located outside the UK. Similarly, there may be no economic reason why intellectual property could not be held by a non-uk company and licensed to UK operating companies, or why financing arrangements could not be entered into offshore. The Discussion Document on the Taxation of Foreign Profits published by HM Treasury and HM Revenue & Customs in June 2007 refers to this type of income as passive income. The suggestion is that, where this type of income is under direct or indirect UK control, the UK ought to have the right Guy Brannan Partner Ian Bowler Partner Jonathan Richards Partner Issue 2 May

2 to tax it. That approach is in line with recent policy as evidenced by the tightening of the CFC rules. We prefer to describe this type of income as global income which has no particular links to any jurisdiction. A number of other countries do not seek to tax global income simply because the ultimate holding company of the group is located in one jurisdiction rather than another. Those countries do not see a need for onerous CFC rules. There are now a number of countries which offer low corporate tax rates combined with simpler tax regimes. In these circumstances it is only natural that certain UK-headed groups are asking why they should submit themselves to a UK tax charge on their global income (which is inherently mobile) when that result can be avoided with relative ease by having a holding company outside the UK particularly if it is possible to retain most, if not all, of the benefits of being located in the UK at the same time. We suspect that a lot of UK multinationals with businesses largely carried on outside the UK will at least start to look around. it would be foolish even to consider moving to an identical, or marginally better, house next door. Which Groups Could Benefit? The next natural question is to consider which groups would be substantially better off in tax terms by moving. Given the expense and upheaval involved, it would be foolish even to consider moving to an identical, or marginally better, house next door. Substantial tax benefits would be needed in order for a group even to consider relocating for tax reasons. It follows from the discussion of global income above that companies with extensive overseas operations, or significant income that is not inextricably linked with a UK trade or profession, are likely to benefit most from considering their options. This is particularly the case for groups rich with intellectual property. It is not uncommon for groups to hold IP in a tax neutral jurisdiction with the IP licensed to members of the group in return for deductible royalty payments. Under the proposals in the Taxation of Foreign Profits Discussion Document, any such royalty income would be regarded as passive income that would be subject to an apportionment to an ultimate UK parent company irrespective of whether the IP has any connection with the UK. Moreover, many groups use tax efficient financing structures to fund their non-uk operations. These structures involve using the differences in the tax rules of various countries to achieve a tax advantaged return: usually a tax deduction in country X and either no or a minimal tax receipt in country Y. Typically, the income does not originate and is not received in the UK and UK multinationals see no reason why the UK should step in to tax this income under the CFC rules. Nevertheless, in recent years many of these structures have been counteracted by widening the CFC rules. It has therefore become very much more difficult for UK-based groups to use these financing techniques. With the proposed introduction of principles-based rules in relation to interest-like returns, coupled with the proposed controlled companies rules, the use of tax efficient financing structures by multinational 2

3 groups headed by a UK resident company looks bleak. If these techniques cannot be employed there will be an inevitable and substantial increase in those groups average tax rates. For the majority of groups, however, it is unlikely to be a straightforward binary choice between leaving the UK or staying put. If a particular group finds certain aspects of the UK s holding company regime beneficial, but other aspects less so, it is perfectly feasible to put a non-uk company on top of the group to hold shares in companies with significant global income and to continue to hold other operations from the UK. Feasibility Planning It is easy to assume that, having identified substantial tax savings, the next step for a group is to change holding company as soon as possible. We have certainly seen presentations to multinationals which suggest just that. However, we feel this approach is misguided. You might look enviously at the mansion in Yorkshire featured in the Sunday papers that is so reasonably priced. However you are unlikely to move there if your shoe-box in London happens to be right next to the kids school or very conveniently located for work. Therefore, we feel that the next step for a multinational considering a move is to consider commercial factors that exercise a strong gravitational pull to the UK, or roadblocks to leaving. In particular: Groups currently in one of the UK FT-SE share indices are likely to wish to retain that status. Shareholders are likely to be less than grateful if a relocation delivers a lower effective tax rate but results in a much reduced share price following a mass sale of shares by FT-SE tracker funds. It remains the case that the only way to guarantee UK FT-SE inclusion is by using a UK incorporated company, however non-uk companies offering UK equivalent protections in relation to regulation and shareholder protection may be able to get in, particularly if they are incorporated in a country without its own FT-SE index. A significant extension to the UK Pensions Regulator s powers to impose funding liabilities on companies and individuals by means of a contribution notice was announced in April Under the new regime, the Regulator need only look at whether a transaction has a material adverse effect on a pension scheme, rather than whether this was the purpose or intention of a transaction in determining whether to issue a notice. Advice on the possible impact of these changes in connection with a proposed redomiciliation should be taken at an early stage. Establishing that a new holding company truly is resident outside the UK is going to involve a lot of time and effort as discussed below. The composition of the board and location of board members may need to be reconsidered and there may be some reluctance to do this. At the very least all board meetings will need to be held outside the UK. If that does For the majority of groups, however, it is unlikely to be straightforward binary choice between leaving the UK or staying put. the next step for a multinational considering a move is to consider commercial factors that exercise a strong gravitational pull to the UK, or roadblocks to leaving. 3

4 not fit with the way that the group makes decisions in practice, there could be difficulties. Would a change in ultimate holding company trigger change of control provisions in material contracts or finance documents (e.g. public bonds and bank debt)? If so, can the necessary consents and waivers be obtained? Not all of the Press and public comment on recent relocations has been particularly well-informed and in some cases it has been quite negative, for example the Independent reported on 29 April that UBM s Irish Move Branded Tax Avoidance. Groups should consider the likely Press, public, Government and shareholder response to a decision to relocate and recognise that they will not necessarily be able to control that. The Competition Although there is no one-size-fitsall answer, groups will naturally derive some comfort from following a well-travelled path. If the feasibility planning stage doesn t throw up any road blocks, groups can start house-hunting in earnest. Which jurisdiction does in fact offer, for that particular group, a more competitive corporate tax system? The answer to this question will not always be the same, and will require a detailed analysis of the structure and operations of the group. However, in general terms, groups will ideally want to relocate to a jurisdiction with a corporate tax regime which offers as many of the following as possible: a low headline tax rate; no, or minimal, withholding tax on dividends and interest; a good network of double tax treaties; limited anti-avoidance rules and, in particular, no CFC regime to restrict tax efficient financing; a participation exemption for gains made on the disposal of subsidiaries; a preferential regime for the taxation of dividends; a relatively relaxed transfer pricing regime; no, or minimal, stamp duty or capital duty; and full deductions in respect of interest. Although there is no one-size-fits-all answer, groups will naturally derive some comfort from following a well-travelled path. Ireland is currently the destination of choice, having been used for a number of previous transactions and scoring well against the tax criteria listed above. At 12.5% for trading income and 25% for non-trading income, the tax rate is lower than the 28% charged in the UK, and Ireland does not have transfer pricing rules or a CFC regime. Although there is a dividend withholding tax, there are broad reliefs for payments made to persons resident in other EU member states, or in countries with which Ireland has concluded a double tax treaty, and in any event it is generally possible to structure around the withholding through the use of income access shares - more on which below. Similarly, it 4

5 is possible to avoid the 1% stamp duty charge on the transfer of shares through the use of a Jersey incorporated company which is Irish tax resident (although care must be taken to ensure that no UK register is maintained). Easy access to and from the UK and the absence of language barriers also work in Ireland s favour. It is also apparent that companies adopting the Jersey incorporated, Irish tax resident structure have obtained and/or retained inclusion in the UK FT-SE share indices. Ireland s main disadvantages are: (i) a 5% dividend withholding tax from US subsidiaries (although we understand that the US/Ireland Double Tax Treaty is to be renegotiated and it is possible the 5% withholding will be removed); and (ii) a slightly higher rate of personal income tax on income earned in respect of directors or employees duties performed in Ireland. Although relatively uncharted territory for this type of transaction, the Netherlands also performs well from a tax perspective, the main drawback again being a dividend withholding tax and a somewhat less flexible company law than is applicable to Jersey companies. See Figure 1 for a summary of the Dutch corporate tax regime. Figure 1 The Netherlands: A Contender For many years a Dutch resident company was the first choice for multinationals looking for an entity through which to structure their international holding activities and despite increased competition from other European jurisdictions with favourable taxation regimes, the Netherlands still often comes top of the list. The same factors that make the Netherlands an advantageous holding company jurisdiction also make it an interesting alternative when reviewing possible redomiciliation jurisdictions, evidenced by the large number of non-dutch multinationals which have Dutch holding companies, both in private investment structures and listed groups. The advantages of using a Dutch company from a tax perspective include the following: The generous participation exemption regime provides for a full exemption for all income and capital gains derived from qualifying subsidiaries (broadly, all shareholdings of at least 5% will qualify). The Netherlands has a beneficial and extensive tax treaty network, which provides for low or no withholding tax on dividends, interest and royalties paid to a Dutch resident. There are no Dutch withholding taxes on interest and royalty payments. It is generally possible to obtain advance confirmation from the Dutch tax authorities on various issues, including transfer pricing issues. There is no capital duty. There are also a number of other non-tax advantages to using the Netherlands, including the stability of its legal system, the skills of the local population, the quality of its infrastructure, the large number of bilateral investment treaties concluded and finally the ease of doing business (including approachable regulators and supervisory bodies). The primary disadvantage of the Netherlands from a tax perspective is that dividends are in principle subject to withholding tax. Although the rate is low (15%) and numerous exemptions exist under domestic legislation (for example for qualifying EU pension funds and qualifying EU corporate shareholders with a shareholding of at least 5%) and tax treaties (for example for US pension funds), it is harder to avoid on payments to portfolio shareholders. There are, however, persistent rumours that the dividend tax will be repealed within the foreseeable future. In the meantime, this issue could be avoided through the use of income access share arrangements. Jop Bekink,, Amsterdam 5

6 Implementation - Shareholder Issues Relocation will have tax consequences for shareholders and it is important to structure the transaction so that these are not unpalatable. The main issues revolve around ensuring that the actual relocation is not a taxable event for shareholders and that ongoing dividend flows do not have more adverse tax treatment than was previously the case. Introduction of New Holding Company A scheme of arrangement such as this is capable of delivering a rollover for UK shareholders. However, that treatment applies to shareholders holding 5% or more of the UK company only if the scheme of arrangement is effected for bona fide commercial reasons and not for a tax avoidance purpose. It is possible to obtain clearance from HM Revenue & Customs that this condition is satisfied. However, it is not clear that such a clearance would be forthcoming and market practice so far appears to be not to seek a clearance. That, of course, leaves the availability of CGT rollover for UK resident 5% shareholders open to doubt, although in a lot of cases the only UK resident shareholders who hold stakes as large as this will be pension funds, or investment funds who are not subject to CGT and who may not care whether a rollover is available or not. Reorganisation In order to obtain any benefits from the introduction of a new holding company, the group underneath will need to be reorganised to a greater or lesser degree. This is likely to need careful planning, and it will be necessary to analyse UK and local tax issues in detail. Income Access Shares Income access share arrangements typically enable shareholders to choose whether to receive dividends from the top company in a group or another member of the group which is tax resident elsewhere. Such arrangements have historically served the dual purpose of (i) enabling UK shareholders to benefit from the 10% tax credit available in respect of UK dividends and UK corporate shareholders to receive dividends tax free; and (ii) avoiding local withholding taxes on dividends. In this year s Budget, it was announced that UK resident individuals are to be entitled to the same tax credit on overseas dividends as they are on UK dividends. However, purpose (i) may remain important for investment trusts, authorised unit trusts and other taxpaying corporates. There is likely also to be a continued role for income access shares in mitigating local withholding taxes. That, however, carries a change of law risk and the preference must 6

7 be to seek to put in place a structure which does not give rise to withholding tax at all. Ongoing Housekeeping - Effectively Maintaining Residence Outside the UK If a group does move into new premises, it is important to maintain them properly and that means continuing to secure tax residence outside the UK. The key issue in determining residence from a UK perspective is the location of the company s central management and control. In order to establish that a company is resident in a particular jurisdiction it must have real substance there. In particular it will be necessary to consider the location of board meetings and identity of the directors. It is probably not necessary for the executive directors to be permanently based in the jurisdiction in which tax residence is claimed, however there should be a proportion of non-uk resident directors on the board. The safest structure to adopt from a residence perspective is probably for the activities of the non-uk holding company to be limited to classic holding company type activities. Operational decisions and activities can be taken at a lower level and in a different jurisdiction, pursuant to clearly delegated and limited authorities approved and regularly reviewed by the main board, without jeopardising the residence of the holding company. If a structure of this type is put in place it should be made clear the capacity in which people are taking decisions and the company secretary should carefully police the arrangement, keeping detailed records of the circumstances in which decisions are made. The whole purpose of redomiciling is to achieve non-uk residence. The UK rules on corporate residence state that this is essentially a factual test. Therefore, careful and continued implementation is critical. The Answer? any redomiciliation will involve significant planning on a bespoke basis. Good management of an international group and delivering shareholder value requires that groups ask themselves the relocation question. However, as can be seen from the discussion above, a decision to move operations outside of the UK is not one to be taken lightly, and it should not be assumed that it is a cookie cutter exercise that can be done on the basis of a recipe created by the recent moves of Shire Plc and United Business Media Plc. Instead, it should be recognised that any redomiciliation will involve significant planning on a bespoke basis. Alistair Darling has recently announced the formation of a new working group to look at the long-term challenges facing the UK tax system and ensure competitiveness remains at the heart of any future reforms. The stated aim of the working group is to discuss ways in which the business 7

8 Amsterdam World Trade Centre Amsterdam Zuidplein XV Amsterdam Tel: (+31) Fax: (+31) Brussels Rue Brederode 13 B Brussels Tel: (+32) Fax: (+32) Frankfurt am Main Mainzer Landstraße Frankfurt am Main Postfach Frankfurt am Main Tel: (+49) Fax: (+49) London One Silk Street London EC2Y 8HQ Tel: (+44) Fax: (+44) Luxembourg 35 Avenue John F. Kennedy P.O. Box 1107 L-1011 Luxembourg Tel: (+352) Fax: (+352) tax system can provide the long-term certainty that multinational companies need, considering competitiveness and other challenges facing both businesses and government. Although this group will not be directly responsible for developing the HM Revenue & Customs policy on the Taxation of Foreign Profits, let us hope that in the creation of this group the Government has recognised the importance of the tax system for the competitiveness of the UK, and the need to further involve business in its development. If things do not change, there is a risk that even more groups will make the decision that the grass really is greener outside of the UK. However, as this article shows, whilst moving tax residence may be of benefit to some, the advantages must be weighed against the considerable practical difficulties: a redomiciliation will always be a major exercise requiring careful planning, implementation and ongoing operation, and is not without risk. have been involved in advising on a number of recent redomicilations. We will be hosting a number of Microsoft Live Meetings on the issues discussed in this edition of Tax Point later this month. These sessions will give you the opportunity to pose specific questions to our tax partners. If you would like to dial-in to one of these sessions, please let us know by 19 May 2008 by ing Funmi Oyefuga (funmi.oyefuga@linklaters.com). Madrid Calle Zurbaran, 28 E Madrid Tel: (+34) Fax: (+34) Munich Prinzregentenplatz München Postfach München Tel: (+49) Fax: (+49) New York 1345 Avenue of the Americas New York, NY Tel: (+1) Fax: (+1) Paris 25 rue de Marignan Paris Tel: (+33) Fax: (+33) Stockholm Linklaters Advokatbyrå AB Regeringsgatan 67 Box Stockholm Tel: (+46) Fax: (+46) São Paulo Linklaters Consultores em Direito Estrangeiro - Direito Inglês e dos Estados Unidos da América 8 For further information on the matters discussed in this issue of Tax Point please contact: Guy Brannan (+44) , guy.brannan@linklaters.com Ian Bowler (+44) , ian.bowler@linklaters.com Jonathan Richards (+44) , jonathan.richards@linklaters.com or your usual tax contact. This publication is intended merely to highlight issues and not to be comprehensive, nor to provide legal advice. Should you have any questions on issues reported here or on other areas of law, please contact one of your regular contacts, or contact the editors.. All Rights reserved 2008 Please refer to for important information on our regulatory position. We currently hold your contact details, which we use to send you newsletters such as this and for other marketing and business communications. We use your contact details for our own internal purposes only. This information is available to our offices worldwide and to those of our associated firms. If any of your details are incorrect or have recently changed, or if you no longer wish to receive this newsletter or other marketing communications, please let us know by ing us at marketing.database@linklaters.com

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