UK ANTI-HYBRID RULES AN OVERVIEW Mark Burgess, Paul Rutherford and Sibel Owji 19 October 2016 If you cannot hear us speaking, please make sure you have called into the teleconference: US participants: 1 800 954 0629 Outside the US: 1 212 231 2939 The audio portion is available via conference call. It is not broadcast through your computer. *This webinar is offered for informational purposes only, and the content should not be construed as legal advice on any matter. 0
Speakers Mark Burgess Partner, DLA Piper Birmingham Sibel Owji Partner, DLA Piper San Francisco Paul Rutherford Partner, DLA Piper London 1
INTRODUCTION AND OVERVIEW OF CURRENT UK TAX CLIMATE UK Diverted Profits Tax (DPT) UK New Withholding Tax Legislation & Amended DPTLegislation UK Anti-Hybrid Legislation Effective Date 1 April 2015 28 June 2016 1 January 2017 Relevant BEPs Action(s) Action 7 (Artificial Avoidance of PE) Action 9 (Risk and Recharacterisation) Action 7 (Artificial Avoidance of PE) Action 2 (Hybrid Mismatch Arrangements) Overview and Impact Threshold Amounts for Application Intended to deter and counteract the diversion of profits from the UK. When applicable, a 25-percent corporate income tax rate will apply to relevant profits. Applies where either: (i) Non UK-company avoids the creation of a PE; or (ii) UK company diverts profits from the UK using an arrangement that lacks substance The group's annual UK-related sales income exceeds 10Mand expenses exceed 10M General widening of scope of UK WHT on royalties and application of UK WHT to royalty payments by UK PEs If there is non-uk company which (i) has an "avoided PE" under the DPT rules; (ii) pays royalties in connection with the UK activities; and (iii) would have had to deduct UK WHT from royalty payments if it had an actual PE, then the profits of the non-uk company for DPT purposes will be increased by the amount of the royalty Not applicable To be described! Not applicable 2
OVERVIEW OF UK ANTI-HYBRID RULES New UK rules have effect from 1 January 2017 and implement BEPS Action 2 Rules apply to "arrangements" that involve both: a hybrid instrument or hybrid entity; and a tax mismatch caused by the hybrid Rules can apply to all entities that pay UK corporation tax (including UK PEs) and have the effect of disallowing a tax deduction that would otherwise arise Rules apply where the relevant UK entity is directly involved in the hybrid mismatch Rules can also apply where there is an "imported mismatch": UK entity involved in an arrangement not involving a hybrid mismatch a hybrid mismatch arrangement exists elsewhere in the group the UK arrangement and hybrid mismatch arrangement are part of the same "over-arching arrangement" 3
OVERVIEW OF UK ANTI-HYBRID RULES Rules apply to all forms of payment and "quasi payment" A "tax mismatch" means that the relevant payment either: is not included as the income of another person "on which a relevant tax is charged" or gives rise to more than one deduction An entity is a "hybrid" if it is treated as a taxable person in any territory but treated differently in any other territory Where the payee is a hybrid, the tax mismatch is deemed to arise due to the payee's hybrid status if there is "no territory where that payee is resident for the purposes of a tax charged" i.e.., payees in territories with no tax system may be a particular concern Whilst the UK is the first country to fully implement BEPS Action 2: Others will follow quickly EU has required member states to implement rules by end of 2018 4
HYBRID PAYER MISMATCH US Co (USA) UK Co is a hybrid entity UK Co pays interest to US Co Interest Loan Interest is disregarded for US tax purposes (tax mismatch - no US income inclusion) UK anti-hybrid rules deny UK Co interest deduction UK Co 5 Legend = Corporation for both US and local tax purposes = Partnership for local tax purposes / corporation for US tax purposes = Corporation for local tax purposes / partnership for US tax purposes = Corporation for local tax purposes / disregarded entity for US tax purposes
NON-TAXABLE FOREIGN PERMANENT ESTABLISHMENT Lux Co has Irish PE UK Co pays interest to Irish PE Tax mismatch: no Irish income inclusion (non-trading PE) no Luxembourg income inclusion (double tax treaty) UK anti-hybrid rules deny UK Co interest deduction 6
HYBRID ENTITY DOUBLE DEDUCTION UK Sub is a hybrid entity UK Parent UK Sub pays interest to UK Parent US Co 1 deducts interest actually paid by UK Sub for US tax purposes (double deduction) Interest Deemed interest US Co 1 (USA) UK Sub Loan UK anti-hybrid rules deny UK Sub interest deduction US Co 2 (USA) 7
IMPORTED MISMATCHES Dutch CV is a hybrid entity Back to back loan (overarching arrangement) US Co (USA) UK Co pays Loan 2 interest to Dutch BV no direct tax mismatch income inclusion in Dutch BV Interest Dutch CV (Ned) Loan 1 Dutch BV pays Loan 1 interest to Dutch CV Dutch BV (Ned) "imported" tax mismatch no income inclusion in Dutch CV and/or US Co UK anti-hybrid rules deny UK Co interest deduction Interest UK Co Loan 2 8
IMPORTED MISMATCHES (CONT'D) US Co (USA) US Co (USA) Dutch CV (Ned) Dutch CV (Ned) Royalty IP Licence Royalty IP Licence Sales and marketing fee Dutch BV (Ned) UK Co Contract manufacturer purchases UK customer sales Product price Dutch BV (Ned) UK Co Product sale Contract manufacturer purchases UK customer sales 9
IMPORTED MISMATCHES (CONT'D) US Co (USA) US Investors (USA) Co-investors (Other) Haven Co (Haven) Cay Co (Cayman) Royalty IP Licence Interest PECs / CPECs Product price Dutch BV (Ned) Product sale Contract manufacturer purchases Interest Lux Co (Luxembourg) Loan UK Co UK Bid Co UK customer sales 10
HYBRID INSTRUMENT MISMATCH Loan is a hybrid instrument (UK debt / Country X equity) UK Co pays interest to Foreign Co Foreign Co participation exemption (tax mismatch - no Country X income inclusion) UK anti-hybrid rules deny UK Co interest deduction 11
HYBRID PAYEE MISMATCH UK LLP is a hybrid entity UK Co pays royalties to UK LLP Tax mismatch: Ireland Co 1 (Ire) Ireland Co 2 (Ire) no Irish income inclusion (tax opaque LLP) UK LLP no UK income inclusion (tax transparent LLP) UK anti-hybrid rules deny UK Co royalty deduction Royalties UK Co Distribution rights 12
TRANSFERS BY UK PERMANENT ESTABLISHMENTS Foreign Co has UK PE UK PE reimburses Foreign Co for 10 of management expense Foreign Co does not recognise reimbursement (tax mismatch) UK anti-hybrid rules deny UK PE deduction for management expense reimbursed 13
IMPLICATIONS FOR MULTINATIONALS AND FUNDS A general review of relevant structures is necessary (to take account of all new and proposed legislation in all relevant jurisdictions) Some restructuring principles may now apply to most multinational groups and many private equity financing structures: tax advantages derived from hybrids likely to be challenged achieving similar advantages in low tax jurisdictions may be better Accounting provisions and disclosures (e.g., FIN 48) to be reconsidered There is a need to act quickly but: if the EU countries do implement similar arrangements from 1 January 2019, the impact of the UK rules may be limited after that date 14
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