A look at the new loan charge
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The Finance (No 2) Act 2017 has recently gained public attention for a controversial provision within it called the loan charge. While the charge was introduced with the legitimate goal of tackling tax avoidance schemes, it imposes a huge burden on some ordinary taxpayers and their families.
The loan charge aims to combat ‘disguised remuneration schemes’, which have operated since 1999. Under such schemes, rather than receiving salaries, subject to national insurance and income tax, workers were paid via an employee benefit trust in the form of loans on the understanding that they would never be repaid. Many workers were advised to use such schemes by their accountants who at the time – due to a lack of clarity in the law – believed they were legal.
The effect of the new law is that individuals who have used loan-based tax avoidance schemes can now be charged under the current financial year for unpaid tax accrued over the past 10 to 20 years. Her Majesty’s Revenue and Customs (HMRC) estimates that the average amount of tax avoided under the scheme was £20,000 per person per year. Although HMRC is allowing extra time for individuals to pay depending on their income and is encouraging individuals to get in contact to discuss potential settlement options, the loan charge has been linked to a series of suicides following individuals going bankrupt and as a result of individuals finding it difficult to repay as they are now approaching retirement age.
A pressing question is whether Parliament, in its attempt to pull in an addition £3.2 billion in tax, intended to bring about the effects of the new law. One view is that at the time members of Parliament simply did not fully understand the severe consequences the legislation would impose on ordinary families. The act has been subject to little scrutiny since the 2016 snap elections. However, it now stands as good law and has the support of the government, despite challenges by the Loan Charge Action Group, which has been campaigning for a delay in the enforcement of the law. HMRC has justified the controversial piece of legislation by arguing that the schemes that it targets were never legal in the first place.
From a legal perspective, there is a compelling argument that the legislation operates retrospectively and stands at odds with the rule of law. Put simply, individuals who previously followed common industry practice are now liable. However, HMRC argues that the loans charge is not retroactive because “it is a new charge, arising at a future date, on disguised remuneration loan balances outstanding at that date”. Although in a technical sense the law can be interpreted as not operating retroactively, as tax experts have concluded, it feels retroactive in practice and it is difficult to explain to an ordinary member of the public why this would not be the case.
In addition, the loan charge fails to offer the same degree of protection to taxpayers as the general tax regime. Individuals can be investigated for up to 20 years in cases of serious illegalities, including tax evasion or fraud. On the other hand, in cases of tax avoidance individuals are subject to shorter periods of time during which HMRC can conduct investigations. HMRC’s mandate to conduct investigations into an individual’s tax affairs is wider – up to 20 years – in cases where illegality is involved. Therefore, the loan charge disproportionately applies the same treatment to behaviour which was previously regarded as industry practice and treated with leniency by HMRC.
The government has rightfully argued that such schemes should be banned because the loans constituted income. It also fairly points out that allowing some individuals to avoid tax hurts other taxpayers. However, the new law seems to seriously penalise individuals who had no intention of committing tax avoidance.