March 11, 2015 | Michael Plowgian—a principal in KPMG LLP's Washington National Tax practice—discusses the impending U.K. diverted profits tax and what multinationals need to be aware of once the provision becomes effective on April 1, 2015. Visit KPMG's BEPS | Tax Transparency site for more insights.
Michael Plowgian: Hi, I’m Michael Plowgian, a principal in KPMG’s Washington National Tax office. Today I will discuss the U.K.’s proposed diverted profits tax, and the potential impacts on multinationals.
The diverted profits tax, or DPT, is a new tax, separate from the U.K. corporate income tax. The DPT is imposed at a rate of 25 percent, as compared to a U.K. corporate income tax rate of 20 percent as of April 2015. Draft legislative language for the DPT was issued last December. We anticipate that slightly revised legislation will be issued following the U.K. Budget on March 18, and that the DPT will be enacted by the end of March. The DPT is expected to be effective starting April 1 of this year. Administrative guidance regarding the DPT is not expected until later in the year.
The DPT would apply in two scenarios.
The first is what the draft legislation refers to as an avoidance of a U.K. taxable presence, or permanent establishment (PE). This provision would apply when a person carries on activities in the United Kingdom in connection with supplying goods or services to U.K. customers by a non-U.K. person under arrangements that are designed to avoid creating a U.K. PE. In addition, in order for the DPT to apply, either there must be a sufficiently large reduction in tax liability or one of the main purposes of the arrangements must be to avoid a charge to U.K. corporate income tax. The DPT would be imposed on the profits that it is reasonable to assume would have been attributed to the U.K. PE if it had not been avoided. Based on statements by the U.K. government and tax authorities, the provision appears to be intended to capture non-U.K. companies that avoid a PE due to a technicality or contrivance, but the provision is currently drafted much more broadly. For example, the tax avoidance condition does not appear to carve out a situation in which the non-U.K. company bears a higher non-U.K. tax on the relevant income, such as U.S. corporate income tax. This provision would not apply to small- or medium-sized enterprises or to companies that do not have annual sales to U.K. customers that exceed £10 million (assessed on a group-wide basis).
The second scenario in which the DPT would apply is to transactions that the draft legislation refers to as lacking economic substance. This provision would apply when a U.K. resident company or permanent establishment makes payments to a related party under an arrangement that is designed to reduce tax by a specified amount and the transactions lack economic substance. Transactions lack economic substance if it is reasonable to assume that the arrangement was designed to secure the tax reduction, and either the financial benefit of the tax reduction is greater than any other financial benefit of the relevant transactions, or the contribution of economic value by the staff of the related person is less than the financial benefit of the tax reduction. The DPT would be imposed on the amount by which the payments out of the U.K. entity are overstated, or, if there would have been no payment out of the United Kingdom in the absence of the tax mismatch, then the DPT may be imposed on the entire payment. There are also situations where DPT can apply if the income of a U.K. entity is understated on such a transaction. Again, this provision does not apply to small- or medium-sized enterprises.
The DPT is not self-assessed, but a company that meets the requirements is currently obliged to notify the U.K. tax authorities of that fact within three months of the end of the accounting period.
Given the imminent effective date (which will include rules to split accounting periods such that it can take effect immediately regardless of the accounting period of a particular company), multinationals with significant sales into the United Kingdom or operations in the United Kingdom should already be conducting impact assessments and determining whether any action should be taken. U.S. multinationals should also consider whether any DPT imposed would be a creditable foreign income tax for U.S. tax purposes, and how potential exposure to the DPT should be reflected in any periodic reporting requirements and their financial statements.
Multinationals need to stay informed as the U.K. legislation moves forward. More information can be obtained by talking with a KPMG tax professional.
This information is not intended to be “written advice concerning one or more Federal tax matters” subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230.
The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act upon such information without appropriate professional advice after a thorough examination of the particular situation.
The KPMG name, logo and "cutting through complexity" are registered trademarks or trademarks of KPMG International.