Deloitte UK Banking & Capital Markets Newsletter - July 2021



OECD Pillar 1 and 2 Update

The OECD Inclusive Framework issued a statement on 1 July setting out the key components of Pillar One (addressing nexus and profit allocation challenges) and Pillar Two (global minimum tax rules), now agreed by 132 countries. The statement can be found here and aligns closely with the political agreement reached by the G7 (communiqué published on 5 June and can be found here) and the G20 (communiqué published on 10 July and can be found here). The OECD will continue to work through several technical (and some policy) areas.

Of particular interest to financial services groups is the confirmation that regulated financial services will be excluded from Pillar One’s “Amount A” which reallocates taxing rights. The Amount A rules and the Pillar Two rules are scheduled to come into effect in 2023. Further detail in respect of this update can be found in our client alert here.

Bank Surcharge

The Government announced a review of the bank corporation tax surcharge (“Surcharge”) in the Spring 2021 Budget in connection with the proposed increase in the rate of UK corporation tax to 25% in 2023. The Chancellor commented that a review of the Surcharge was required because the overall rate for banks “would be too high” and indicated that he wants to ensure that the UK financial services industry remains internationally competitive, his stated intention being: “that rates of taxation here are competitive with the UK’s major competitors in the US and the EU, and that the UK tax system is supportive of competition in the UK banking sector.” The Chancellor reiterated these statements at the Mansion House speech delivered on 1 July 2021, stating that in his view “the combined tax rate on UK banking profits should not increase significantly from its current level”. Whilst the review contemplates neither the abolishment nor change in the scope of the Surcharge, it is understood that HMT is undertaking international comparisons and taking into account a range of factors that go beyond the headline corporation tax rate including non-profit taxes and regulatory capital. The Government is expected to set out its approach in the Autumn with proposed changes to the Surcharge to be included in Finance Bill 2022.

New Patent Box Regime

From 1 July 2021, the new patent box regime applies to all UK claimant companies, regardless of when the company elected into the regime. The new rules meet the revised OECD nexus principles and can limit the qualifying intellectual property (“IP”) profits based on the proportion of R&D activity undertaken by the company, by applying the 'nexus fraction'.

The key changes under the new regime are:

  • Mandatory streaming - the formulaic approach is replaced by the streaming method under which IP income and expenditure needs to be allocated to separate streams for each IP asset (or by product or group of products). This is likely to introduce additional complexity in the calculations and companies will need to maintain sufficient accounting records to ensure that the necessary information is available at year-end to identify relevant income and costs for each patent or product/group of products.
  • The nexus fraction - an additional step is added into the calculations to link the available tax relief to R&D activity undertaken by the company. Companies are required to track and trace relevant R&D expenditure to build up the nexus fraction; however, for some companies, it may be possible to simply document the nexus fraction as ‘1’.

The effective benefit, which is currently 9%, will increase to 15% from 1 April 2023 when the corporation tax rate increases to 25%.

Bank Levy

HMRC are currently updating their bank levy guidance. The updated guidance will provide insight into HMRC’s interpretation of the new provisions which govern how bank levy is charged for accounting periods ended after 1 January 2021. They plan to issue this in draft later this year, but do not yet have an exact date. In addition to making changes to address the new provisions, HMRC also intend to add some detail to address other aspects of the guidance which have been highlighted to them.

Notification of Uncertain Tax Positions

Draft legislation for the requirement to notify HMRC of uncertain tax treatment has been published. Under the current drafting, businesses would be required to report to HMRC where:

  • A provision has been recognised in the accounts of the company or partnership in accordance with accounting principles;
  • Reliance was placed on an interpretation or application of the law that is not in accordance with HMRC’s known position; or
  • There is a substantial possibility that a court or tribunal would, if it were to consider the treatment, conclude that the way the amount has been arrived at is incorrect.

The notification requirement will only apply to large businesses and the thresholds are based on the SAO and tax strategy publication regimes (i.e. businesses that satisfy either or both of (i) turnover above £200m; or/ and (ii) a balance sheet total over £2bn). The notification measure will apply to partnerships and LLPs that satisfy the above criteria, as well as corporates.

The scope of the requirement is limited to Corporation Tax, Income Tax (including PAYE) and VAT and the threshold for reporting has been set at £5m.

Penalties will be £5,000 for a first failure, rising to £25,000 for a second failure and £50,000 for further failures. The number of failures is determined by reference to the three-year period before the latest failure.

Any transactions disclosable under a different legislative requirement (e.g. DOTAS) will be excluded from the regime. In addition, it is proposed that where HMRC is already aware of uncertainties, for example due to ongoing discussions with the business as part of regular interactions in line with HMRC’s Banking Code of Practice, no further notification is required. There is currently no detail about how this exclusion would work in practice.

The rules will apply to tax treatments included in returns due to be filed on or after 1 April 2022. Therefore, transactions which are currently underway could be within the scope of the reporting requirement.

Securitisation Consultation

On 23 March 2021 the Government launched a consultation on the Reform of the Taxation of Securitisation Companies which ran to 3 June 2021. The consultation focused on whether changes should be made regarding: retained securitisations (the circumstances where an originator acquires more than 50% of the notes on a short term basis); the “Financial Assets” definition (whether other categories of assets should be capable of being securitised); the minimum note issuance threshold (whether the current £10 million threshold is too high); and the stamp duty loan capital exemption (for insurance-linked securities). The Government has explicitly ruled out of the consultation extending the regime to real estate assets. HMRC is engaging with interested parties to discuss the comments they have received.

Interbank Offer Rate (“IBOR”) Reform

From the end of 2021, the FCA will no longer persuade or compel banks to submit to the London Interbank Offer Rate (“LIBOR”), and the Sterling Overnight Index Average (“SONIA”) will be applicable to FCA regulated instruments. Likewise, other IBORs are transitioning to similar risk-free rates globally. Many financial instruments contracts will need to transition from IBORs.

HMRC have provided guidance in respect of the UK tax implications in respect of the withdrawal of LIBOR and other benchmark rate reform which can be found here. In other jurisdictions there may be less clarity on whether there could be significant tax impacts arising out of the transition (including tax charges on valuation changes and transfer pricing), in particular for those countries operating a realisation basis of corporate taxation as opposed to an accrual basis.

VAT Reform in the Financial Services Industry (“FSI”)

The European Commission (“EC”) has published initial output from its public consultation about reforming VAT in the FSI sector as a whole. This initial output paper confirms that the EC is only part-way through its process to reform VAT in the banking sector (and other FSI sectors), and a more detailed paper is due to be published by the EC to review and summarise consolidated findings from various submissions/discussions with stakeholders and Member States. An Impact Assessment is also due to be published setting out the options for a review of the rules so it is unlikely that new VAT rules in the EU will be implemented within the next couple of years.

In the meantime, in the UK, HM Treasury and HMRC have entered into initial discussions with the FSI concerning whether to conduct a review into the UK VAT regime. Once these initial discussions have concluded, a possible next step is a more targeted review into the areas prioritised for reform, but as with the EU review, it seems unlikely there will be short term change, except in the investment management sector, where HMRC has a separate and accelerated area of VAT reform in progress. Therefore, banking organisations with investment management businesses should anticipate change to the UK VAT regime in this sector in the more near-term.