(For an indepth understanding of the CFC rules please see our blog http://www.taxpartnersuk.com/blog/controlled-foreign-company-cfc-rules-part-i/)
The current law on Controlled Foreign Companies (CFC) charges UK resident companies with tax on profits of certain foreign subsidiaries in which they have a ‘controlling’ interest. A CFC is an overseas company controlled by UK residents that pays less than three quarters of the tax that it would have paid on its income had it been resident in the UK. Directed at companies that artificially divert UK profits to low tax territories and other favourable overseas tax destinations to reduce their UK tax liabilities, CFC rules have been under review for some time now. HMRC has now proposed significant legislative changes to be brought in through the Finance Bill 2012 that seek to completely overhaul the regime.
Current rules define situations where foreign subsidiaries will be taxed unless exempt under rules, whereas the proposed rules exempt all unless otherwise hit by the rules. So under the proposed rules the business profits of a foreign subsidiary will be outside the scope of the new CFC regime unless they meet the specified conditions set out in a “gateway”. These conditions define what is to be treated for the purposes of the regime as profits artificially diverted from the UK. “Safe harbours” for the gateway conditions will be provided covering general commercial business, incidental finance income and some sector specific rules. A foreign subsidiary can rely on these safe harbours to show that some or all of its profits are outside the regime’s scope. As an alternative to the gateway, the regime will also provide exemptions for CFCs. The exemptions will apply to the CFC as a whole and include an excluded territory exemption and a low profits exemption. The lower level of tax test which currently forms part of the definition of a CFC will function as an exemption in the new regime.
