Out-Law News | 18 Sep 2017 | 10:32 am | 3 min. read
The amount of diverted profits tax (DPT) raised by HMRC reached £281 million in 2016/17, up from £31m in the previous year and higher than the £275m yield anticipated by HMRC before the tax was introduced in 2015. However, the length of time taken by HMRC to settle transfer pricing disputes, including DPT-related disputes, has continued to increase, with disputes now taking two and a half years to settle, according to the figures (6-page / 258KB PDF).
Tax expert Heather Self of Pinsent Masons, the law firm behind Out-Law.com, said that the time HMRC was taking to resolve transfer pricing disputes was creating "a serious backlog". HMRC was also falling behind at approving advanced pricing agreements (APAs) with businesses seeking to put transfer pricing arrangements in place, she said.
"Businesses are being bogged down for up to five years in some cases, as HMRC's internal targets court from the time an enquiry is opened, which is typically up to two years after the transactions," she said.
"APAs give certainty which is much valued by businesses and also help HMRC use their resources efficiently. Again, it is disappointing that HMRC is falling behind on approving these agreements. There is a build-up of APAs waiting to be approved stretching back to 2013 and it's already taking almost three years to agree them. Certainty requires timeliness, otherwise its value diminishes," she said.
'Transfer pricing' relates to the pricing of a transaction when two companies which are part of the same multinational group trade with each other. It is particularly relevant when those companies are located in different tax jurisdictions. HMRC can adjust the amount of income earned for tax purposes or expense incurred on transactions between companies where it appears that the transaction did not take place at 'arm's length', with the same terms as those that would apply if the transaction involved an unrelated company.
Businesses that expect to be affected by these issues can agree an APA with HMRC in advance. An APA is a written agreement which sets out the appropriate transfer pricing method which will be applied to certain transactions for a set period of time.
DPT was introduced in April 2015, and is designed to deter activities that divert profits away from the UK to another jurisdiction. Many DPT disputes end up as transfer pricing disputes. DPT is charged at a rate of 25% on arrangements that create tax advantages either by exploiting the permanent establishment rules or through the use of entities that lack economic substance. An example would be where a foreign company takes tax out of a UK subsidiary through a large tax deductible payment to an associated entity in a low-tax jurisdiction.
As DPT only applies to profits arising from 1 April 2015, this is the first year for which significant data is available. HMRC issued 14 DPT charging notices in 2016/17, and could issue substantially more before the end of the year as the deadline for notices for companies whose 2015 financial year ended on 31 December 2015 is 31 December 2017, Self said.
"The amount raised from charging notices is high at £138m, which has ramped up overall yield," she said. "This suggests that there may be some significant notices which companies have not yet made public."
"Also, HMRC appears to be counting 'yield' as soon as there is a charging notice – which triggers payment of the tax, but does not mean the dispute has been settled. A number of companies may well secure reductions in the amount charged during the review period," she said.
Companies cannot 'self-assess' their liability for DPT, and instead must notify HMRC if they are potentially within the scope of the tax and are not subject to any of the exemptions.
If HMRC considers that DPT applies, it will first issue a 'preliminary notice' setting out the grounds on which it considers that DPT is payable and calculating the tax based on certain simplified assumptions. The company will be able to correct any obvious errors. HMRC will then issue a 'charging notice' if it still believes DPT to be due, which must be paid within 30 days. HMRC then has 12 months to review the charge to DPT and reduce or increase it if necessary. The company cannot appeal the DPT charge until the 12 month review period has passed.