The Aaronson Report, published on 21 November 2011, and broadly endorsed by the Chancellor in his March Budget, considered whether the UK tax system could benefit from a general anti-avoidance rule (GAAR), concluding that the current system of dealing with tax avoidance is inadequate and advocating the introduction of a moderate GAAR in the UK. This article examines the conclusions drawn by the Aaronson Report, and identifies the salient features of the GAAR that the Report proposes the government implement.
This article is part of the PLC multi-jurisdictional guide to Tax on Transactions. For a full list of jurisdictional Q&As visit www.practicallaw.com/taxontransactions-mjg.
There has seemingly been a sea-change in the attitude of the general public, tax professionals and even politicians of a pro-capitalist persuasion towards tax avoidance. Tax evasion, even amongst most of those who practice it, is known to be illegal and immoral. In a similar vein, most right-minded people are comfortable with the idea that taking advantage of a tax break explicitly offered by the government, such as tax relief on pension contributions, is perfectly acceptable, both legally and morally. But the general attitude towards taxpayers who reduce their tax bills by relying on overly technical, and often artificial, arrangements has not been consistent over the decades. It is difficult to imagine the George Osborne of 2005, who as Shadow Chancellor publicly speculated at the time about the merits of a "flat tax" system, would go on to state in 2012 that he regarded aggressive tax avoidance as "morally repugnant".
The general atmosphere in the UK is that the exploitation of "tax loopholes" has had its day, and the vast majority would be better off without it.
In this light, an Advisory Committee, led by the formidable tax QC Graham Aaronson, was tasked by the government with considering whether the UK tax system would benefit from a general anti-avoidance rule (GAAR). Aaronson's report on the views of the Advisory Committee (the Report) was published on 21 November 2011.
The Report notes that there is an overriding statutory principle that can be used to strike down egregious tax schemes even if they work within the technical wording of the relevant taxing statute. But the Report also concludes that the current system of dealing with tax avoidance is not adequate, highlighting the following concerns with the system as it currently stands:
The courts have at times pushed statutory interpretation to its limits to defeat tax avoidance schemes that they felt shouldn't succeed. This has created uncertainty as to how judges apply tax law.
There are now estimated to be over 300 targeted anti-avoidance rules on the UK statute book, which is perhaps not the most efficient way to tackle the problem of tax avoidance.
The disclosure of tax avoidance schemes places an added burden on taxpayers, and often then results in further targeted anti-avoidance legislation. These measures have frequently been ineffective in successfully defeating certain highly aggressive and artificial tax avoidance schemes.
The Report recommends that introducing a moderate GAAR, which does not apply to normal tax planning but is targeted at "abusive arrangements", would bring "substantial and valuable" benefits to the UK tax system, including:
Deterring and providing a way of counteracting contrived and artificial tax avoidance schemes.
Creating a more level playing field for businesses and tax professionals by preventing those who use, or advise on, aggressive schemes from gaining a competitive advantage.
Reducing the risk of the courts stretching their interpretation of tax legislation to defeat schemes, and the uncertainty this creates.
Creating an opportunity to simplify the UK tax legislation, as many specific anti-avoidance rules will no longer be needed and, if fewer schemes go ahead, less specific anti-avoidance legislation will be needed in the future.
Creating greater certainty for those carrying out normal, responsible tax planning that the anti-avoidance rules will not apply to them, thus reducing the need for a comprehensive system of clearances.
Clarifying the boundary between what HMRC considers acceptable, and what is not, which will build trust between HMRC and taxpayers.
The Report was clearly cognisant of some of the problems that have beset GAARs in other jurisdictions. It noted in passing that the Canadian GAAR was introduced in 1987 after the Supreme Court rejected the general application of a Ramsay-like business purpose test, and the Australian GAAR was introduced against a background of "highly literalist" interpretation of tax statutes. Given the difference in the UK courts' approach, the Report did not need, and did not go on, to consider how successfully the GAARs have worked in those jurisdictions. However, it is worth us briefly looking at them.
Australia's GAAR, which was introduced in its current form in 1981, applies where there is a scheme which has given rise to a tax benefit and a person (whether the taxpayer or someone else) has entered into all, or part, of the scheme wholly or predominantly for the taxpayer to obtain that tax benefit.
Canada's GAAR applies if a taxpayer obtains a tax benefit under a transaction, or series of transactions, which achieves a reduction, avoidance or deferral of tax, and that transaction, or series of transactions, were not primarily for bona fide transactions other than to obtain a tax benefit.
Both Australian and Canadian GAARs require the courts to find a comparator transaction. Australia's GAAR has arguably proven to be the more problematic in recent years. Determining whether there was a "tax benefit" to a taxpayer required the court to consider the transaction that the parties would reasonably have entered into in the absence of the scheme. If there was no alternative transaction, then the GAAR could not apply to strike down the scheme. In many cases, the taxpayer was successful in arguing that there was no reasonable comparator.
Frustrated by this limitation, the Australian government announced on 1 March 2012 that, effective from 2 March 2012, this and other similar arguments could not be run, thus providing evidence for those who consider that the danger of "mission creep" in GAAR matters is too great.
Application of Canada's GAAR has been helped by a clear Supreme Court judgment in Canada Trustco Mortgage Co v R, 2005 SCC 54, which provides a framework for the lower courts to determine whether the GAAR applies. However, Canadian commentators have queried whether the Supreme Court applied the GAAR appropriately in the recent case of Copthorne Holdings Ltd v R, 2011 SCC 63, including whether it selected the appropriate comparator transaction. It should also be noted that the relevant steps in Copthorne took place in 1993 and 1995. This is hardly an advertisement for swift resolution of tax disputes through the use of a GAAR.
So the UK GARR will not, at least on its face, require a comparator. Instead, the GAAR proposed in the Report will work by identifying abusive arrangements. These are abnormal arrangements that are included for the purposes of achieving an "abusive tax result", which cannot reasonably be regarded as a reasonable exercise of choices afforded by the relevant legislation. An "abusive tax result" is an advantageous tax result which is achieved by an arrangement that:
Does not constitute reasonable tax planning.
Is made with a specific tax intent.
The Report states that the thresholds of "abnormal arrangements" and "abusive tax results" are intended to be set high, so as not to catch responsible tax planning.
It will be for HMRC to prove that it is more likely than not that both:
The arrangement is an abnormal arrangement.
The advantageous tax result of the arrangement will constitute an abusive tax result (which cannot be considered to be reasonable tax planning).
Where HMRC succeeds in proving that such arrangements exist, it will be able to counteract them under the GAAR. Depending on the circumstances, the Report proposes that the counteraction may be done by either:
Adjusting computations or assessments as is reasonable and just.
Adjusting them by reference to a hypothetical arrangement which would achieve the same non-tax result as the actual arrangement, without the abusive tax result which the actual arrangement sought to achieve.
The interaction between the GAAR and the system of tax administration and tax appeals is not presently clear, and will need to be clarified.
To ensure that "responsible tax planning" will not be caught by the GAAR, the Report proposes a series of safeguards. These would consist of clear protections:
For "reasonable tax planning" and for arrangements which are entered into without any intent to reduce tax.
Requiring HMRC to prove that an arrangement was not reasonable tax planning (rather than placing the burden of proof on the taxpayer to show that it was reasonable).
Putting in place a new Advisory Panel, with a majority of non-HMRC members to advise HMRC on whether it is justified in seeking to apply the GAAR.
The Report further suggests that the Advisory Panel should publish its decisions to build up a body of thinking on the correct application of the GAAR, which can then be used by taxpayers and their advisers. However, in the GAAR's early days, there is likely to be a lack of certainty. This is particularly challenging given that the Report did not propose to allow taxpayers to seek advance clearance from HMRC about the application of the GAAR to particular transactions. It was one of the most controversial elements of the Report, but there appears to be no suggestion that the government will relent. The role of the Advisory Panel, and its published decisions, will be key.
Having considered the Report, the UK Chancellor announced in the March 2012 Budget that the government accepts the Report's recommendation that introducing a GAAR which is targeted at artificial an abusive tax avoidance schemes would improve the UK's ability to tackle tax avoidance while maintaining the UK's attractiveness as a location for genuine business investment. It will issue a consultation document on the GAAR in summer 2012, and will prepare draft legislation, "based on" (but presumably not identical to) the illustrative clauses in the Report, for inclusion in the Finance Bill 2013. The government has also announced that the GAAR will be extended to stamp duty land tax (SDLT).
The Report expresses the hope of many industry and tax specialists that an effective GAAR has the potential to create an opportunity to simplify existing tax legislation. It's not clear that this is likely to be the case in practice, as the most complex targeted regimes will have to remain. As the GAAR will only be used in exceptional circumstances, it remains unlikely that we have seen the end of specific anti-avoidance rules and taxpayer disclosure.
Ultimately, the proposed GAAR, with its narrow scope and focus on "highly abusive, contrived and artificial schemes which are widely regarded as intolerable" is perhaps not technically a GAAR, and may therefore not meet the problems suffered by GAARs in other jurisdictions by requiring courts to find an appropriate comparator.
The government, and many other stakeholders, hope that the GAAR will, for once and all, dissuade taxpayers from structuring artificial and purely tax-driven arrangements (if they haven't already been dissuaded by the recent general lack of success that these arrangements have had in the courts and the government's willingness to introduce retrospective legislation). But it is also imperative that this does not prevent the right of any taxpayer to organise its affairs to minimise the amount of tax payable.
The principal concern is that, despite the existence of safeguards, evidence suggests that government departments given additional statutory powers can find it too tempting to use them excessively. It is to be hoped that HMRC proves to be a rare and admirable exception to this rule.