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In year 1, Company A is a mail order business, incorporated

in the UK (private limited...
In year 1, Company A is a mail order business, incorporated in the UK (private limited company) and registered there for VAT purposes. It is run by one person, who is both the sole director and beneficial owner.

On the first day of year 2, the owner incorporates a private limited company in the Isle Of Man (Company B).

Company A continues to be registered, but the purpose of the operation shifts from being "mail order business" to "delivery/marketing/customer support agent of Company B".

The products are stored and shipped from the same warehouse as before, which now becomes unconnected to Company A and instead a "fixed place of business" of Company B.

Crucially, the owner of these companies makes regular visits to IoM, from where he makes key management decisions and arrangements with the suppliers of Company B's products. Possibly there are additional directors appointed with whom board meetings are held in IoM.
Suppliers are NEVER communicated with unless the owner has a physical presence in IoM. Furthermore, Company B issues never communicates instructions/wishes/concerns to Company A unless the owner has a physical presence in IoM.
If Company A needs clarification from Company B about any issue, they do not receive it until the owner returns to IoM, whenever that may be.

Year 1:
Profit generated from sales = X
Director Salary = Y
Corporation Tax of Company A = 0.2(X-Y)
VAT is paid to UK

Year 2:
Delivery agent fees paid by B to A = 0.1X
Corporation Tax of Company A = 0.2*(0.1X - Y) = 0.02X - 0.2Y
Corporation Tax of Company B = 0
Total Corporation Tax across both companies = 0.02X - 0.2Y
VAT is paid to IoM

Needless to say, the costs associated with frequent visits to IoM is significantly less than the difference in corporation tax paid between year 1 and 2. :)

1) Would HMRC accept this arrangement?

2) If not, why not? Yes, it may seem absurd/impractical, but if "central management and control" of Company B was exercised via IoM board meetings and communications, then how could HMRC claim that Company B is UK resident for tax purposes?
And yes, communications between Company A and B involve the same person, however each company is a legal person in their own right. Therefore it should be irrelevant if the person typing any e-mail communications between the 2 companies is in fact, the same person, no?

3) Would Company A be required to disclose this arrangement to HMRC at the beginning of year 2 under the DOTAS regulations?
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Answered in 9 hours by:
10/22/2013
taxmanrog
taxmanrog, Certified Public Accountant (CPA)
Category: Tax
Satisfied Customers: 880
Experience: Licensed CPA, MA, MST with 31 years' experience. Teach Accounting and Tax courses at Masters level.
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Welcome to Just Answers! I will do my best to answer your question!

 

I believe that HMRC would accept this arrangement. Your scheme looks like it would work, but you would have to be EXTREMELY careful about maintaining it! You would be taxable in the UK if, for some reason, your IoM business were considered to have a permanent establishment in the UK. Simply having common ownership by a UK resident does not give you permanent establishment, but if the IoM's director ever undertook an activity, such as accepting an order, approving credit, or some other management-type decision from the UK rather than the IoM, then HMRC could determine that the IoM company does have a permanent establishment, subject it to tax, and your benefits are gone.

 

One thing to make sure of is the director's time spent on the IoM. Any year in which he spends more than 183 days on the Isle, he is considered an IoM resident. This might not be a problem. HOWEVER, if he spends individual days over many trips during the year, and those trips average 90 days or more each year, in the fourth year he is considered to be an IoM resident. IoM residents are subject to income tax.

 

As far as reporting it under the DOTAS rules, the DOTAS rules state that any scheme that will result in a tax benefit inuring to the company must be reported. HMRC says that a tax benefit includes the avoidance or reduction of a charge to tax, a relief from tax, repayment of tax and as mentioned the deferral of tax or the avoidance of an obligation to deduct tax.

 

In your case, you are paying lower taxes. This is a benefit. However, if you are a small or medium size company, and the scheme was developed in-house, it does not have to be reported. HMRC states " ‘in-house' schemes are only required to be disclosed when the tax advantage is intended to be obtained by a business that is not a small or medium enterprise."

 

To determine if you are a small or medium size company, you must meet certain headcount, turnover, and balance sheet ceilings. There is a good flowchart located at http://www.hmrc.gov.uk/aiu/dotas.pdf in Paragraph 4, on page 26, that you can use.

 

I hope this answers your questions! If you have any more, please let me know, and I will be happy to answer them! If you have found my answer helpful, please rate me highly. I would appreciate it!

 

Again, thanks! Have a great week!

 

Roger

taxmanrog
taxmanrog, Certified Public Accountant (CPA)
Category: Tax
Satisfied Customers: 880
Experience: Licensed CPA, MA, MST with 31 years' experience. Teach Accounting and Tax courses at Masters level.
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Customer reply replied 4 years ago

Thank you for your reply Roger, that is very helpful indeed.

I since read this part of the INTM, which may provide the best clue as to how HMRC would analyse the arrangement: http://www.hmrc.gov.uk/manuals/intmanual/intm120210.htm#IDASLRZF

Regarding the personal residency rules in IoM, that's an excellent point to bear in mind. It seems that if the 90 day average threshold were to be exceeded, the director may in fact become liable to income tax from the beginning of the FIRST year! Although the days of arrival/departure aren't counted for this purpose (see http://www.gov.im/media/97083/pn14407taxresidenceintheisl.pdf). I'm assuming, however, that days of departure/arrival are insignificant to HMRC when deciding the location where central management and control of a company is exercised.

It seems this scheme would be better suited to a business model involving intellectual property, whereby Company B takes up more of holding company role as the licensor of the IP, e.g. the director is a book author who transfers ownership rights to Company B. After an initial visit to IoM, perhaps the director's visits would only be required to make future visits in order to execute instruction's for the holding company's bank account (I suppose this could be done from yet another jurisdiction, unless doing so risked qualifying as a tax resident there).

If the structure was changed slightly, such that the above example would involve Company A selling the books themselves before sending royalties to Company B for every copy sold, might that give rise to the "arm's length" principle and a limit on the amount of profit that could be transferred?

Finally, regarding the DOTAS rules, I am particularly interested in whether or not the PROMOTER of the scheme would be best advised to disclose. Seeing as from a consequential tax residency standpoint, the scheme does not differ from advising the client to simply move to IoM and employ staff to oversee the day-to-day management of Company A back in the UK. Hardly avoidance, rather relocation, no?

Your reading in the INTM is exactly what I was talking about. ITH331 & 334 are what I was referring to when I said you had to be very careful! The question is one of whether the actual operating decisions are being made in IoM, or if they are just documenting the actions that are being taken care of in the UK? Take a look at ITH343. This is what the UK would like to move to - residence is where the business is really taking place. However, they instead went to the Country of Incorporation rule, with the management/control as the tiebreaker. They also have the concept of "TNR" or "Treaty NonResident". Your IoM company would not be incorporated in the UK, and would not be a TNR, so they would look strictly at control. The question then goes back to my original statement - you would need to be very careful to make sure that the "control" would be from IoM.

In order to have that much control, I am afraid that the owner/director would have to spend so much time in IoM that he would be considered a resident of the IoM. This may not be all bad, as the residents pay lower tax, and this would actually strengthen your argument that it is truly an IoM company, as one of the things that HMRC looks at is the country of residence of the directors. Their UK grocery store example in ITH334, wherein the grandfather moves to Jersey and they have the meetings in Jersey lends to the credibility of the scheme, although with the grandfather moving to Jersey, as with your owner/director becoming resident on IoM, there are other tax consequences, as I have pointed out.

If you were to modify your scheme to the intangible license, in effect paying a "royalty" to Company B, I think that the activity would be better suited to achieve the benefits you want. As you point out, if you structure the license agreement correctly, there will be little management and control functions to carry out for Company B beyond the initial setup and occasional reviews. This would also reduce the owner/director's days in IoM, so that he averaged less than 90 days each year. The IoM does not have any transfer pricing regulations; however the UK does. So you would have to structure the license to be an "arm's length" price, which would still be able to reduce the overall tax burden by quite some amount. The IoM also does not tax royalties, unless they are paid to IoM individuals, which yours are not.

As far as the DOTAS rules, I read your situation to be that the Company actually formulated the scheme. HMRC gives more leeway to a company that comes up with their own schemes, hence the exception for small and medium size companies. If a promoter of the scheme is used, they view him as an expert who is paid to develop ways to avoid taxation, and do not grant the same leeway. The promoter in all cases has more reporting responsibility, with shorter time periods (initial reporting is 5 days vs 30 for a company). The promoter also has to provide quarterly details of the scheme to HMRC.

If you as the company have hired someone to arrange this scheme, they are considered the promoter and they have the obligation to report, unless they are non-UK based or if they are a lawyer and privilege applies. In that case the Company must report. So if this scheme was developed by a promoter, then yes, they should report. Failure to report can lead to large penalties.

The current DOTAS rules can be found at http://www.hmrc.gov.uk/aiu/guidance-oct-2012.pdf if you would like to look at them. I referenced Pg 26 for the company developed rules. Section 19 deals with the penalties if you are interested.

As far as the advice being relocation rather than avoidance, I believe that HMRC would argue that DOTAS requires the reporting of any arrangement that including any scheme, transaction or series of transactions that will or are intended to provide the user with a tax and/or National Insurance contribution advantage when compared to adopting a different course of action. While on its surface, that seems to mean that any tax planning could be subject to DOTAS, I believe that a large or complex step or series of steps that have tax minimization as their MAIN objective would be required to be reported to DOTAS. In your case, the main purpose of either of these arrangements would be to minimize tax. The licensing could easily be done through a UK entity if it was required for business reasons. The fact that you are using a tax haven indicates tax savings, ergo DOTAS reporting.

I hope this answers your questions! If you have any more, please feel free to ask! I am always happy to answer!

Again, thanks! Have a great week!

Roger
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Customer reply replied 4 years ago
Excellent info, thanks again.

Any time! If you ever have a question that you would like me to answer, please just put "This is for Taxmanrog only" or something similar. Some of the experts will respect that, some won't. If someone else answers, just say you want me. I would appreciate it! You can also go to http://www.justanswer.com/finance/expert-rjyule/ and I will get the question.

 

Again, many thanks!

 

Roger

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