Press Room

4 Jul 2024

Andrew Parkes discusses retrospective anti-avoidance legislation in Tax Journal

National Technical Director, Andrew Parkes, discusses retrospective legislation against tax avoidance schemes and why there may be an increase in this type of legislation on the horizon, in Tax Journal.

Andrew’s article was published in Tax Journal, 3 July 2024.

Adam Smith’s Wealth of Nations is a book I have tried to read twice. On both occasions, before I was defeated by page after page of corn prices, I found some wisdom for the ages in his writing.

First, if you are contemplating engaging management consultants, see what they are offering and how it compares to what you can learn from his description of pin manufacturing.

Secondly, and more relevant for Tax Journal, consider his maxims for taxation:

  • each citizen should contribute in proportion to their abilities;
  • it should be certain and not arbitrary with the amount;
  • time of payment and manner of payment to be clear;
  • the obligation to pay should be convenient to the payer; and
  • collection should be efficient.

Generally, and I do mean generally as there are many exceptions, the UK direct tax system does meet these principles. We have a progressive system, the legislative process is well understood, if you are a PAYE taxpayer it is convenient (as such) given the tax is paid when you are and it
is efficient – although the efficiency as Adam Smith meant it, is caused by the costs being put on to the taxpayer!

It is the exceptions to the second, and arguably the most important, principle that is the subject of this article.

What’s yours is now mine

When budgeting either for your own finances or for those of a multinational, knowing how much you are going to have to pay the government is key. Indeed when I was involved in HMRC’s Policy Teams I would say certainty ranked at least equally, if not above, simplicity and a lower tax rate for businesses.

This means that an unexpected tax can really ruin your day. At least if it is for a future period you can see if it can be mitigated, especially if the tax is designed to drive behaviour. Unless it is like the Bank Levy, where the banks moved to less risky funding options, reducing their exposure to the levy, which was then increased because the Government also wanted the money. Taxed if you do and taxed if you don’t.

However, where the new tax is upon something that has already happened, that is serious enough to engage your human rights. In today’s Law of Unintended Consequences, pulling the UK out of the European Convention of Human Rights could allow unfettered retrospective taxation. More on that below.

But what exactly is retrospective taxation? Like a spaghetti western, there is the good, bad and the ugly. Then there is also the technical retrospection, which is perhaps better described as retroactive.

Starting from now

Retroactive retrospective legislation is by far the most common and the reason I call it ‘technical retrospection’ is because it takes effect from before the relevant Finance Act has received royal assent – hence it is retrospective, but not in the way that tends to make people’s blood boil.

This has been a mainstay of our legislative process, indeed often caused by it, where a provision is announced at a Budget or other fiscal event and has effect from that day, usually for anti-avoidance measures to stop forestalling, but sometimes for reliefs/give-aways that Ministers want to give to taxpayers as quickly as possible.

The Coalition Government extended this somewhat with its ‘Protocol on unscheduled announcements of changes in tax law’, published as part of the March 2011 Budget.

With the Disclosure of Tax Avoidance Scheme (DOTAS) rules, HMRC were being informed of avoidance schemes throughout the year and, where the amounts at stake were large, the government may not want to wait for the next fiscal event to close it down. Often the wording is ‘to put beyond doubt that the scheme does not work’ and for the conspiracy theorists amongst us, that is not a euphemism for ‘it works, but we don’t want to admit it’. The wording is only used when HMRC believe the scheme fails but the user may have a tenable argument or the amounts are too large to leave to a litigation risk.

The Protocol set out when such announcements were to be made, which is when not acting meant that a significant amount of tax was at risk. The announcement would be by way of a Written Ministerial Statement to Parliament with a detailed explanation, and preferably draft clauses published by HMRC the same day.

That these announcements are made very infrequently these days goes to show how effective DOTAS has been, and also how the world has moved on since the protocol was published.

There are still avoidance schemes marketed but they tend to be at the ‘dirty end’ of the market and HMRC/the government do not appear to be worried about their effectiveness with Spotlights not Written Ministerial Statements being published.

Tellingly though, the Protocol says that what might be considered to be true retrospection is not ruled out and would be used in wholly exceptional cases. As ever, the key terms such as significant and wholly exceptional are not defined, which gives the government wriggle room but also
causes uncertainty, which in itself is a big defence against avoidance.

Here, have this back

The good form of retrospection is where there is a change that gives people money back or stops a charge and it is backdated.

Again there are two types. The first could be considered pure retrospection, such as where the law is changed and is said to always have had effect. This is what happened when capital distributions were brought within the distribution exemption on 22 June 2010 but back-dated to 1 July 2009. Interestingly, if this caused a problem the recipient could elect for the old rules to have effect.

The reverse happened with the hybrid mismatch rules. Here an anomaly in the rules which meant the UK company could be denied a deduction because although it showed taxable income, the payer did not show a claimable deduction (the inclusion/non-deduction mismatch) was
removed from 10 June 2021 but a company could elect for the fix to be backdated to when the rules were introduced on 1 January 2017. The rule change itself was not retrospective, but it could be given retrospective effect. Interestingly, taxpayers were only given just over six months to make the election. The government wants certainty too.

The ugly and the bad

What people think of as retrospective taxation does happen infrequently. The ugly kind, ugly because retrospective taxation is not nice by any standard, is enacted by Parliament following the so-called Rees Rules set out by Peter Rees MP in a Standing Committee debate in 1978 where he set out four (there is that number again) principles for retrospective legislation. These have been updated/amended for the Coalition’s protocol, but the important point is that any retrospective legislation should follow a warning given by Parliament or the government that the legislation would be enacted if necessary.

A good example of this type of warning was the one given in December 2004 by Dawn Primarolo MP when Paymaster General that any new schemes seeking to avoid tax and National Insurance on employment income would be subject to legislation effective back to the date of the announcement. Thus ended the use of platinum sponges, toxic waste, etc. to avoid tax.

There have been two major uses of retrospective taxation that I am aware of since then. The first was FA 2008 s 58 which put beyond doubt that an artificial scheme to avoid tax using offshore partnerships failed and always had.

As an aside, although the users of the schemes have been unsuccessful in their attempt to overturn the legislation, they were well organised and the Disguised Remuneration users learned from them and changed the Finance Bill committee experience for Ministers. Rather than Ministers having to deal with questions based on representations from the CIOT, Law Society or the odd letter from constituents, the users started tweeting members of the committee during hearings with questions and comments on Ministers statements and replies. I wonder if this is why now the Finance Bill has so few committee sessions?

The other was the SDLT, where the Chancellor announced in 2012 that retrospective legislation would be used against further schemes, with legislation being introduced in 2013 that did just that.

With both FA 2008 s 58 and SDLT applications were made for judicial review on the basis that the legislation was in contravention of Article 1 of the First Protocol (‘A1P1’) to the European Convention of Human Rights (‘the ECHR’).

This gives people the right to peaceful enjoyment of their possessions and can only be denied them under the general principles of international law, of which retrospection is not one.

However, in the challenges, the courts found that the legislation was a proportionate response by Parliament taking into account the needs of the general population against those of the user of the scheme to keep their assets.

I believe a critical factor in these cases was that a warning had been given to the users of the scheme, s 58 by the reaction of the government to the previous case of Padmore v IRC [1987] STC 493 and for SDLT by the Chancellor.

Therefore, if Parliament were to enact previously unannounced retrospective taxation (the bad in my taxonomy), there has to be a good chance that the legislation would be struck down.

The future darkly

Both the Rees Rules and the Coalition’s Protocol are only statements and they can be changed, amended or overridden by the next Parliament. Alternatively, and taking a leaf from the tax avoiders book, Parliament could perhaps keep to the letter but not the spirit of the rules by making an announcement that general retrospective legislation is now allowed at least back to the date of that announcement.

I don’t think this would happen, at least I hope no politician is mad enough to do so, but I mention it as a counter to anyone who thinks that the Rees Rules or the Protocol give some sort of timeless protection. They do not.

Therefore what I believe we will continue to see is retrospective legislation used against tax avoidance schemes, mainly of the retroactive kind, but sometimes fully retrospective. Also that more corrections in taxpayer’s favours will be dealt with by retrospective and/or retroactive legislation too; the rules around Pillar Two are ripe for this sort of treatment.

As mentioned above, there have been rumblings that the UK could pull out of the ECHR and one of the consequences of that would be that a defence against unfettered retrospective legislation would be lost. Possibly not what is expected.

Finally, and as it is tax, there is an exception. If legislation is introduced that is retrospective, but without it more people would face higher tax, then it is not taxing, but relieving.

Andrew Parkes

Andrew is a highly experienced international tax specialist who worked at a senior level in HMRC’s international teams for over 10 years. He has a wealth of experience and technical knowledge.

Email: Andrew Parkes