The Year In Review

Amidst Brexit-related uncertainty and attendant political turmoil on the one hand, and wider proposals to re-write the principles of international taxation – in particular as they apply to the "digital economy" and multinational businesses – on the other, UK tax policy has followed a somewhat tentative path in 2019. It has been a case of not wanting to rock the boat too much, whilst being seen to be keeping up with the competition.

Unusually, there has been no Budget in 2019 – the 2019 Budget had been expected to take place on 6 November 2019, but this was expressed to be conditional on the UK leaving the EU on 31 October 2019, with a deal. Thus, following Parliament's vote on 19 October 2019 to delay any approval of a Brexit deal until detailed withdrawal legislation is passed (resulting in the extension of the Brexit deadline until 31 January 2020), the Chancellor of the Exchequer cancelled the proposed Budget.

We did, however, see Finance Act 2019 receive Royal Assent on 12 February 2019, and draft Finance Bill 2019–20 legislation and other materials published on 11 July 2019, including draft legislation and guidance for the UK's digital services tax (DST), plus draft legislation for a number of other, mainly previously announced, measures that are likely to be of interest to readers.

This annual review will summarise the key tax developments – in UK tax legislation and English case law – over the course of 2019 with potential relevance to the financial services sector.

Domestic legislation

UK real estate tax – implications for funds

Readers will no doubt be aware of the significant changes to the taxation of non-resident investors in UK real estate with effect from 6 April 2019, initiated by consultation papers in 2017 and enacted in Finance Act 2019.

Broadly, non-UK residents will now be taxable on gains on disposals of directly held interests in any type of UK land. Non-UK residents may also be taxed on any gains made on the disposals of significant interests in entities that directly or indirectly own interests in UK land. For tax to be imposed, generally the entity being disposed of must be "property rich" (broadly, where at least 75 per cent of the gross market value of the entity's qualifying assets at the time of disposal is derived from UK land), and the non-UK resident must be a "substantial investor" (broadly, where at the date of disposal or at any time within two years prior to disposal, the non-UK resident holds, or has held directly or indirectly, at least a 25 per cent interest in a property rich entity).

The default position for collective investment vehicles (CIVs) will be that they are treated for capital gains purposes as if they were companies. The CIV definition in the legislation is broad and should capture most UK property rich Jersey Property Unit Trusts (JPUTs) and Guernsey Property Unit Trusts (GPUTs), as well as widely-held offshore funds.

An investment in such a fund will be treated as if the interests of the investors were shares in a company, so that where the fund is UK property rich, a disposal of an interest in it by a non-UK resident investor will be chargeable to UK tax under the new rules. CIVs may therefore be subject to corporation tax as a result of being treated as companies.

Non-UK resident investors in CIVs that are UK property rich will be chargeable on gains on disposals of an interest in a UK property rich CIV regardless of their level of investment. They will not benefit from the 25 per cent ownership threshold.

The 25 per cent substantial indirect interest test may be re-applied for certain funds where the CIV is only temporarily UK property rich. In these cases, the fund will need to meet a genuine diversity of ownership or non-close test, and be targeting UK property investments of no more than 40 per cent of fund gross asset value in accordance with its prospectus or other fund documents.

CIVs that are already treated as transparent for UK tax purposes will be able to elect (irrevocably) to be treated as a partnership for the purposes of capital gains (and related provisions), thereby ensuring that the investors are taxed on disposals of the underlying assets of the partnership.

Alternatively, under an election for exemption, the CIV itself will not suffer tax on either direct or indirect disposals on the proportion of any gains attributable to the CIV holding UK land. The investors remain taxable on any disposal of an interest in a CIV that is a UK property rich entity. The election for exemption is only available to non-UK resident companies that are the equivalent of UK real estate investment trusts (REITs) and some partnerships. An extensive set of qualifying criteria needs to be met in order to be able to make the election for exemption. Where a CIV ceases to meet any of the qualifying criteria, this will trigger a deemed disposal and reacquisition of the interests of all the investors in the CIV.

On 17 September 2019, HMRC published, for consultation, draft regulations (and draft explanatory notes) to amend the UK property rich CIV rules, generally with effect from 6 April 2019 in relation to disposals made on or after that date.

Broadly, the draft regulations seek to: (1) clarify that CIVs constituted before 6 April 2019 may meet the genuine diversity of ownership condition and that exempt investors (for example, pension funds) continue to benefit from exemption if they invest in CIVs through holding vehicles; (2) refi ne the definition of what constitutes a CIV so that only the principal company of a non-resident group falls within the definition; and (3) give HMRC the ability to require CIVs that make transparency elections to fi le partnership returns for disposals and to provide investors' details on the making of a transparency election.

Hybrid capital instrument regime

A new hybrid capital instrument (HCI) regime came into force in place of the regulatory capital securities regime from 1 January 2019. Prior to 1 January 2019, the taxation of regulatory capital instruments issued by banks and insurers was governed by the Taxation of Regulatory Capital Securities Regulations, SI 2013/3209 as amended (the RCS regulations). The analysis under the RCS regulations broadly required a determination that the instrument met the regulatory capital requirements and that a targeted anti-avoidance rule was not applicable.

Pursuant to the new HCI regime, the terms and conditions of each hybrid capital instrument will need to be analysed to ensure that it meets the definition of hybrid capital instrument for tax purposes. The definition of hybrid capital instruments is detailed in the new section 475C of the Corporation Tax Act 2009. This provision states that a loan relationship is a hybrid capital instrument if:

it makes provision under which the debtor can defer or cancel a payment of interest; it has no other significant equity features; and the debtor has made an election in respect of the loan relationship which has effect for the period. This election is ineffective where there are arrangements, the main purpose, or one of the main purposes, of which is to obtain a tax advantage for any person. Section 475C(2) Corporation Tax Act 2009 provides that a loan relationship will have "no other significant equity features" if:

it gives neither voting rights in the debtor nor a right to...