COVID-19 and tax residence
This blog considers the potential risks posed by the COVID-19 pandemic to maintaining offshore tax structures.
On 7th April 2020, HMRC published updated guidance on both (1) company residence for tax purposes, and (2) risk of creating a UK permanent establishment (PE) in each case in light of the Covid-19 pandemic.
On company residence HMRC state they are "very sympathetic" to the significant disruption caused by Covid-19 to the location of directors, employees and other individuals. Whilst HMRC express the view that existing legislation and guidance provide flexibility to deal with issues raised by Covid-19 the new guidance helpfully confirms HMRC‘s view that occasional UK board meetings, or participation in such meetings from the UK, would not necessarily result in the central management and control (CMC) of a non-UK company becoming located in the UK. The new guidance also (in the specific context of the current health crisis) points out that even if CMC were to become located in the UK, the 'tie-breaker' article of any applicable double tax treaty may well have the effect that the company remains non-UK resident. See here for the new guidance.
On UK permanent establishment risk, the new HMRC guidance also adds that (1) whether contracts are "habitually" concluded in the UK will remain a question of fact and degree, and (2) for a PE to arise in the UK as a result of a non-UK company having a fixed place of business here would require that place of business to have a degree of permanence (with, again and in each case, existing legislation and guidance being deemed by HMRC as providing sufficient flexibility to deal with the problems posed by the Covid-19 pandemic in this area). See here for the new guidance.
Separately, the OECD has published an "analysis" of the impact of Covid-19 on double tax treaties (also looking to address concerns as to the inadvertent creation of a PE due to Covid-19 travel restrictions). See here for the OECD's views.
At the time of writing, no official UK guidance has been published as to the effect of Covid-19 related travel restrictions on the place of "belonging" for VAT purposes.
HMRC moved quickly to issue guidance to assuage concerns that self-isolation and travel restrictions resulting from the COVID-19 pandemic would not adversely impact on the tax residence status of individual taxpayers.
But what about the tax residence of offshore companies and other vehicles? The current health crisis could result in UK-based directors:
- being unable to leave the UK
- being advised not to travel from, or advised to self-isolate in, the UK
Offshore structures, particularly in the funds industry, are carefully crafted so that the offshore entities do not find themselves within the scope of the charge to UK corporation tax, or subject to UK VAT. At a time of heightened financial and social uncertainty, such structures may need to take strategic decisions at short notice. The tax implications of the practical means of doing so should not be overlooked.
A company incorporated outside of the UK may find itself, as a matter of UK law1, resident in the UK for corporation tax purposes (and therefore subject to UK tax on its worldwide profits) if it is "centrally managed and controlled" in the UK. The location of the central management and control (CMC) of a company is a question of fact but (broadly) will be found where the highest level of control of the company is exercised.
Typically, the CMC of a company will be exercised where its board of directors meet, and actually take decisions that amount to the carrying out of the highest level of control of the company.
Best practice dictates that board meetings of non-UK companies should therefore take place outside of the UK, with any UK-resident directors of the non-UK company leaving the UK before participating in a board meeting.
At a time when we are all getting used to keeping in contact via a plethora of means that do not involve face-to-face meetings, UK-resident directors of non-UK companies should think very carefully about joining board meetings by video or telephone conference whilst physically present in the UK. The consequences of doing so, in terms of the UK tax residence status of the company, could be severe.
Value Added Tax
The so-called "place of supply" rules determine whether cross-border services are subject to VAT (and, if so, in which jurisdiction).
The general rule2, for business-to-business (B2B) cross-border supplies of services, is that VAT is charged where the recipient "belongs". The general rule3 for business-to-customer (B2C) cross-border services supplies is that VAT is charged where the supplier "belongs". The place where the recipient and supplier of such services "belongs" is therefore of vital importance.
For VAT purposes, in respect of a supply of services a business "belongs":
- if they only have one "business establishment"4 or "fixed establishment"5, in the jurisdiction where that establishment is located; and
- if they have such an establishment(s) in more than one jurisdiction, in the jurisdiction in which the establishment that is most directly concerned with the supply is located
If, as a result of travel restrictions arising out of the COVID-19 pandemic, a non-UK business finds itself inadvertently established in the UK for VAT purposes, this could give rise to an (unexpected and irrecoverable) VAT charge.
1 See here.
2 Subject to the terms of any available double tax treaty.
3 Subject to a number of exceptions.
4 Again, subject to exceptions.
5 i.e the head office or 'seat' from where the business is run.
6 For example, a branch.