Bank payroll tax - only banks and banking groups now caught?

On 18 December 2009, HM Revenue & Customs published a document stating that the Government proposed a considerable reduction in the number of companies caught by the bank payroll tax announced in the Pre-Budget Report. The 18 December announcement can be read by clicking here. It has also published and then subsequently revised a list of Frequently Asked Questions (FAQs) most recently updated on 16 February 2010 and answers, which can be accessed by clicking here.

A tighter definition of bank is now proposed which will limit a bank to a deposit taker or a full scope BIPRU 730k firm dealing in investments etc (including those who are only outside this definition because their head office is outside the UK).

Banking group will be defined accordingly, although in further guidance published on 16 February 2010 the Revenue have indicated they intend to publish detail on proposed amendments to the definition of banking group. Prime brokers will also not be banks and where the “banking” activity within the group is minor in relation to the group as a whole, then only the relevant bank or banks will be caught by the new tax – the rest of the group will not be caught.

The position may still appear slightly arbitrary as it still catches more than just banking activity. As an example, if a company is a stockbroker, for example, then remuneration to its employees may still be caught. However, the Revenue have stated that they will shortly publish further detail on how they propose to exclude standalone pure brokerage businesses from the scope of bank payroll tax.

Which employees and what types of their remuneration are caught (including LTIPs awarded in the relevant period) still remain unclear in what must, by the Government’s own concession, be one of the most loosely drafted and poorly scoped taxes in recent years. Unfortunately, although the Government says that representations are being received on these points, it seems likely now that clarification will only emerge after the publication of the Finance Bill, likely to be in March in an election year, and further announcements from the Revenue.

This is our revised article on the new tax (taking account of these proposed changes and the FAQs to date).

1. An overview - What is bank payroll tax and when it is payable?

Bank payroll tax is payable

• by a “taxable company”
• when its “relevant banking employees”
• are “awarded” during the “chargeable period” (i.e. between 9 December 2009 and 6 April 2010)
• “relevant remuneration” above a £25,000 threshold

These terms are separately explained below. There are a considerable number of anti-avoidance provisions.

The tax is payable by the taxable company, not the employee, at a rate of 50% on all relevant remuneration awarded to each of its “relevant banking employees” above £25,000. The tax is payable on 31 August 2010. However, a further sting in the tail is that it is not corporation tax deductible and is in addition to any income tax and NICs which are payable.

2. Which companies are caught?

One of the surprises the draft legislation provided at the time of the Pre-Budget Report was that it was not only banks which are affected, although the explanatory memorandum just refers to “banking groups, banking entities and building societies”. However, on 18 December, HM Revenue & Customs published a note stating that the scope of companies to be caught by the tax was to be considerably reduced. This can be accessed by clicking here.

What is set out below is an analysis of the originally proposed legislation and the proposed changes – although since the proposed changes have not emerged in drafted legislation, comments on the 18 December changes are necessarily provisional. Further clarification before the publication of the Finance Bill is promised on stockbrokers and those companies which are members of a banking group.

There are three types of companies which are caught as a “taxable company”.

2.1 The employing company is a UK resident bank or a relevant foreign bank

Under the 18 December proposals, a company will be a UK resident bank if it is UK tax resident and trading and

either a deposit taker

or a full scope BIPRU 730k firm (although prime brokers will not be caught) whose activities consist of wholly or mainly “relevant regulated activities”, which are:

• dealing in investments as principal
• dealing in investments as agent
• arranging deals in investments
• safeguarding and administering investments, or
• regulated mortgage contracts

This new scope means fund managers will typically be excluded unless they are part of a banking group.

Previously, a UK resident bank had a much broader definition and was proposed to be a UK resident and trading company, authorised under FSMA and whose activities either include accepting deposits or consist “wholly or mainly” of one or more of the relevant regulated activities.

Insurance companies and companies operating on behalf of them, investment trusts, OEICs, friendly societies, credit unions, operators of collective investment schemes, pension scheme managers and exempt commodities firms are excluded companies and cannot be UK resident banks (or relevant foreign banks) (Oddly, under the old rules they could still be taxable companies under other tests, but this seems unlikely following the 18 December changes).

A company will be a “relevant foreign bank” if it is a company which would be a full scope BIPRU 730k firm if its head office was in the UK. This catches foreign branches of banks. Previously, a company would be caught as a relevant foreign bank if it were non-UK resident with a trading branch in the UK for tax purposes, which is authorised under FSMA (which includes “passported” into the UK from an EEA or relevant treaty state) and whose UK branch conducts any of the above activities to the required extent (i.e. “wholly or mainly”, other than accepting deposits, where any activity is enough).

Although “wholly or mainly” is used in various places in existing tax legislation, nowhere is there a clear definition and this will have to be resolved in due course.

The FAQs now confirm that third party asset management is not caught. Stockbroking is still not decided and further clarification is expected before the publication of the Finance Bill.

2.2 The employing company is a company in the same group as a UK resident bank or relevant foreign bank

A company in the same group as one of the above companies may also be caught even though it is not a bank or engaged in any of the types of relevant regulated activity (although due to the fact that only remuneration awarded to employees concerned with relevant regulated activities will be caught, the breadth of this part of the definition is not necessarily fatal).

In broad terms (and there is considerable detail and so this definition is an oversimplification), a company will be caught if:

• it is a 75% subsidiary and in the same group as a UK resident or relevant foreign bank, and
• it is an authorised person under FSMA or a company dealing in securities or (if it is a UK company) a company whose business consists wholly or mainly of, and the principal part of whose income is derived from, the making of investments.

So any authorised company within a banking group is likely to be caught. However, although the legislation may still lead to some odd consequences, the Revenue has said in its 18 December announcement that non-banking financial service groups will not be treated as ‘banking groups’ simply because the group structure includes a company with banking activity, provided that this is a minor activity within the group as a whole. Whilst the bank should be in scope, the rest of the group should not. Quite what “minor” means remains to be seen. HMRC is still consulting in this area.

2.3 The employing company is a building society or a company in a building society group which is a UK resident investment company or UK financial trading company

3. Which employees are caught?

You need to look at the status of employees receiving “bonuses”.

The legislation only catches bonuses awarded to employees with duties which are “wholly or mainly concerned (whether directly or indirectly)” with activities which are relevant activities (see above - accepting deposits, dealing in investments as principal or as agent, arranging deals in investments, safeguarding and administering contracts, mortgages). Revenue guidance indicates that back-office and support staff could potentially be caught by the tax. However, independent asset managers are not caught by bank payroll tax. The Revenue have indicated that dealing and arranging deals as agent as part of the discretionary management of the assets of external clients does not amount to banking employment.

Practical implications also arise depending on whether groups operate separate businesses as divisions of a company or as separate companies. Although it is now probably too late to make any changes which can safely make any difference to the operation of the tax, businesses operating out of separate companies may end up with a better tax profile as it will be clearer that employees with only a marginal connection to these activities are not wholly or mainly concerned with a business conduced by a separate company.

Additionally, in order for the tax to apply, the employee must either be resident in the UK or perform duties in the UK for 60 days or more in the 2009/10 tax year.

This has been a major concession through the FAQs, as the original draft legislation provided that any UK duties brought relevant remuneration within the scope of the tax.

4. What “remuneration” is caught?

This definition of remuneration is much wider than a “bonus” as popularly defined. It also potentially includes all salary, bonuses, employee share scheme awards, pension contributions and other benefits-in-kind, even loans, although in some cases there are clear valuation issues in working out what the amount of remuneration could be. The main exclusion here will be “regular” wages/earnings/benefits to reflect that the tax is only intended to tax “discretionary” bonuses, although any irregular remuneration agreed before 9 December 2009 will also be excluded (see below).

Secondly, relevant remuneration up to £25,000 per employee is excluded from the scope of the legislation, with £25,000 having been set by the Government as a suitable limit on bonuses this year. While the FAQs indicate that market value options do not give rise to a charge (on the basis that there is no intrinsic value to these awards) the tax position of LTIP awards and bonuses is still not clear. While they are caught, difficult valuation issues arise.

5. Awarded in the chargeable period

Once you have identified a relevant company, relevant employees and their remuneration, you then need to look at when the relevant remuneration was awarded.

The tax only applies to relevant remuneration awarded between 9 December 2009 and 6 April 2010. Remuneration which had already been awarded before or is awarded after the relevant period is therefore not caught.

Award has a particular meaning. It broadly means a contractual entitlement. However, the fact that an employee has to remain in employment after the date of an award does not prevent a contractual obligation arising at that stage (so leaver provisions are ignored for the purposes of whether something has been awarded for the purposes of bank payroll tax), but a contractual obligation only arises if the amount is “fixed or capable of becoming fixed without the any person exercising discretion.” What this means is not wholly clear. Most remuneration has some element of discretion to it until it is received - if all discretion is ignored until actual payment, then this has the potential to make awards granted well before the chargeable period, but which become payable during the period, chargeable yet also put grants made during the period, but which are still subject to discretion until after the chargeable period, outside the scope of the tax.

How this particular test applies to even relatively straightforward deferred remuneration is difficult to determine, let alone valuing the award once it is caught, and a number of scenarios needs to be agreed with the Revenue. It is clear though that the remuneration does not need to be received by or taxed in the hands of the employee before 6 April 2010 to be caught by the tax. An agreement to pay an employee a bonus or transfer shares to him under an LTIP award in 2013 would on the current legislation appear to give a bank payroll tax charge now – whether or not the remuneration is ever received.

While the FAQs make an attempt to address these questions, there is still some way to go before a working level of industry understanding is reached.

Companies due to award bonuses after the relevant period on the basis of an established precedent are, currently, in the clear, but any deliberate delay of bonuses until after 5 April 2010 is likely to fall foul of anti-avoidance legislation and give rise to a payment of tax.

Equally, the Government has reserved the right to extend the relevant period if pay practices do not conform with its expectations and/or pay restraint measures still to be announced in the Financial Services Bill have not yet taken effect.

6. Are there ways to avoid the tax liability?

If “banks” do not award bonuses in the period, then no charge arises, which is a choice openly given by the Treasury to the banks. However, for a bonus programme successfully to be pulled or scaled back, there can be no arrangement (whether enforceable or not) to pay the relevant sums in the future, in addition to having to address the difficult employment law and employee relations issues this raises in the interim.

7. What is the future?

All the professional tax adviser bodies and industry groups are requesting clarification of the legislation from the Treasury and Revenue. However, the Revenue have now made it clear that there are no plans to publish a further version of the draft clauses of the bank payroll tax legislation before the introduction of the Finance Bill, which is likely to be enacted in March. Banks themselves and relevant companies in their groups should probably budget for the worst and start identifying the following:

• which group companies/businesses are caught
• which employees are caught
• which remuneration is and is not caught – in particular, pre-agreed contractual bonuses
• should bonus programmes be adapted.

And on the basis of this, start considering how to react, whether by accepting the tax (although in which case there are difficult questions about whether the bonus pool should be reduced to cover it) or making other arrangements. It is likely that the Treasury/Revenue will produce a substantial amount of guidance on this in due course as well as publish the necessary regulations for the detailed collection of the tax.

The relevant draft legislation can be found by clicking here.