Using an offshore company tax efficiently
A UK resident company is subject to UK corporation tax on its worldwide income and gains. By contrast a non-UK resident company is only subject to corporation tax on its UK income.
At first glance, therefore, it would seem that an offshore company is an effective way of sheltering income and capital gains from the taxman, as all foreign income and gains accruing to the company should be free of UK tax.
In fact using a directly owned offshore company is not a straightforward option to avoid UK taxes. One of the reasons for this is the issue of 'deemed' company residence. A company is regarded as a UK resident if:
• It is a UK incorporated company, or • Its central management and control is in the UK.
Various legal cases have indicated that it is the function of the board of directors to run the company and therefore Revenue and Customs would initially be concerned with where the board of directors meet, when they meet, and whether they actually exercise control over the company and make management decisions.
So if a board of directors meet overseas and review management decisions and strategies this should constitute overseas central management and control.
However, where there is a controlling shareholder in the UK there is a risk that the directors will not correctly exercise their authority over the company with the result that HMRC may argue that the company is run by the controlling shareholder in the UK. In these circumstances the company would be classed as UK resident and subject to UK corporation tax.
HOW THE TAXMAN SPOTS PHONY OFFSHORE MANAGEMENT
HMRC has stated that it will look at offshore companies to identify if there has been an attempt to create simply the appearance of central management and control in a place.
Therefore, care is needed to ensure that any overseas directors are actually running the company.
In order to pass the central management and control test the majority of the directors should be non-UK resident, and the non-UK resident directors should actively participate in making board decisions.
This therefore means that key business decisions should be taken at overseas board meetings. A UK resident shareholder may therefore establish a non-resident company but it is essential to ensure that the running of the business is left to the non-resident directors.
The central management and control test was looked at by the High court and the Court of Appeal in the 2005 case Wood v Holden. The taxpayer in this case successfully argued that the central management and control of an offshore company was overseas.
The facts were complex but essentially a Dutch subsidiary was incorporated which was part of a tax planning scheme. It acquired some shares in a UK company and HMRC felt that, as there was no real business being carried on overseas, the Dutch company should be taxed as a UK resident company.
The appeal commissioners sided with HMRC and took the view that " ... the company resides for purposes of income tax where its real business is carried on where the central control and management actually abides...".
However, both the High Court and the Court of Appeal decided this was wrong. They said that the directors who were non-resident were not sidestepped or bypassed and there was no evidence that UK parties dictated to them. The overseas directors actually executed the board meetings and resolutions. Therefore in the absence of any evidence showing them deferring to other parties, they and the company were non-resident.
This case reinforced the fact that it is essential that overseas directors actually consider the board resolutions and other transactions in order to evidence the fact that they are not under the control of another person. Note that an overseas shareholder having influence over the directors is fine, but there is a problem when the directors simply accept everything the shareholder says and carry out his wishes without any consideration.
ROLE OF A MANAGING DIRECTOR
If there is a managing director who has exclusive power to run the company, there's a good case for arguing that this person has 'central management and control'.
If you want to use this to argue that one overseas director actually exercises central management and control, it would be advisable to also have this laid out in the company's Articles of Association.
RECENT CASE ON COMPANY RESIDENCE
One of the latest cases to be considered in relation to the residence of an offshore company was Laerstate BV v Commissioners.
This case covers a lot of the issues which we have covered above and provides a useful summary of the key points.
The company in question was incorporated in the Netherlands on 1 August 1988 as a wholly owned subsidiary of another Dutch company. Its sole director on incorporation was an individual ('T').
In December 1992 'B' acquired the entire shareholding in the company and was appointed as a director until he resigned on 30 August 1996. Note that for Dutch tax purposes the company was resident in the Netherlands as it was incorporated there.
The company then purchased an investment in December 1992. In October 1996 the investment was sold at a substantial capital gain. B was UK resident as of 1993. HMRC subjected the company to corporation tax on the gain on the basis it was resident in the UK for tax purposes at the time the gain arose. The company argued it was not UK resident as it was controlled from overseas. The Tax Tribunal held that it was UK resident.
Remember in this case the shareholder was UK resident and also a director of the company for part of the period of ownership. After he resigned his directorship, 'T' (non-resident) was the director.
As we've stated above the courts look at the top level strategic management of the company and won't be fooled by attempts to have nominees exercising 'fake' control from overseas.
It was no surprise then that the Tribunal found that the company was UK resident, as it was controlled and managed from the UK.
The Tax Tribunal specifically said:
"…it was not disputed that for tax purposes a company resided where the central management and control (CMC) 'abides'.
That was a test that did not confine itself to a consideration of particular actions of the company, such as the signing of documents or the making of certain board resolutions outside the UK if a more general overview of the course of business and trading demonstrated that central management and control 'abides' in the UK.
There was no assumption that central management and control was found where the directors met. It was entirely a question of fact where it was found. Where a company was managed by its directors in board meetings it would normally be where the board meetings were held. But if the management was carried out outside board meetings one had to ask who was managing the company by making high level decisions and where, even where that was contrary to the company's constitution.
There was nothing to prevent a majority shareholder, whether a parent company or an individual majority shareholder, indicating how the directors of the company should act. If the directors considered those wishes and acted on them it was still their decision. The borderline was between the directors making the decision and not making any decision at all. The mere fact that B was resident in the UK during the relevant period did not of itself mean that the company was resident in the UK. The question was whether he was exercising central management and control in the UK, as he had authority as a director of the company to do. It could not be said that, on the facts in this case, all acts of central management and control of the company took place outside the UK.
B's activities as a director of the company in the UK went much further than ministerial matters or matters of good housekeeping. His activities in the UK were certainly concerned with policy, strategic and management matters, and included decision-making in relation to the company business in that period.
Accordingly, in the period to 30 August 1996, when B resigned as a director, central management and control of the company was exercised in the UK.
In relation to the time after B ceased to be a director, only T could sign for the company in a way that would bind a third party. The issue was whether T acted on B's instructions without considering the merits of them, or whether he considered B's wishes and made the decision himself while in possession of the minimum information necessary for anyone to be able to decide whether or not to follow them.
On the facts found, it could not be said that T made any of those decisions. The decisions were those of B; T signed the necessary documents but no change could be detected in the way the company was managed before and after B ceased to be a director of the company (or before he became a director).
B predominantly made those decisions in the UK and so the company was resident in the UK during the time after B ceased to be a director on 30 August 1996 until at least 31 December 1996."
Therefore this case provides a good indication as to how the Tribunal looks to identify where the 'real' control as opposed to 'apparent' control is exercised from.
It also reinforces the importance of the position of the directors in terms of identifying the central management and control. It's not just a case of looking where the shareholders of a company meet. Instead you look to see where the 'controlling mind' of the company's business is to be found.
You would therefore look at the constitution of the company to see who has the power to manage the company's business. Usually this will be the directors.
As such, provided the directors have not been usurped from their position of control, the case law tends to show that the place of residence is the place where the board meets.
As establishing where the management and control is carried out can be difficult to ascertain, HMRC published some draft guidance in 2010 on this.
They specifically stated that it's not the number of UK directors meetings versus the number of overseas meetings that is important. Rather, it is what activities are actually carried out at the board meetings that is important.
They also confirmed that the location of a directors tax residence doesn't impact on the residence of the company. Instead it is the location where the management and control are carried out that is important (which is not necessarily the same as the country of tax residence of the director).
How to Establish an Offshore Company as Non-Resident
Clearly you should ensure that detailed professional advice is taken based on your specific facts. As a general rule you should ensure there is an active board which meets and takes decisions.
Some of the key points to bear in mind include:
• Hold at least six board meetings a year (Although three or four should be acceptable).
• Keep full minutes which show the directors exercising central management and control.
• Hold meetings in a fixed place (at least usually).
• Do not hold any board meetings in the UK. In addition you should ensure there is not a quorum of directors resident in the UK (to avoid accidental UK meetings).
• Do not allow directors to participate in directors' meetings by telephone/video conferencing or by using e-mail from within the UK. In addition, where directors' resolutions are passed in writing, don't sign them in the UK.
• If the board wants things done in the UK it needs to delegate the activities to be performed to people in the UK and then supervise what they do at the regular (overseas) board meetings.
APPORTIONMENT OF CAPITAL GAINS
UK tax anti-avoidance provisions require the gains of a non-resident 'close' company to be apportioned amongst the member shareholders. Capital gains tax is charged on those who are resident and domiciled in the UK.
Before 6th April 2008 these apportionment rules did not apply to non UK domiciliaries. However, the changes to the remittance basis from April 2008 means that if a shareholder is UK resident but non UK domiciled, they will be subject to the remittance basis on any gains realised by the offshore company. As such they can avoid having gains attributed to them under this section by retaining the proceeds overseas.
The definition of a close company can be complex, however in simple terms it applies to a company that is controlled by its directors or five or fewer shareholders.
Example
Jack and Jill are the sole shareholders of JackJill Ltd, a company registered in the Cayman Islands. They hold 50% of the shares each and are both UK resident and domiciled. Assuming they allow non-resident directors to run the company and can satisfactorily show that the company is not centrally managed and controlled from the UK, then the attribution of gains legislation would mean that any gains of the offshore company would be attributed to Jack and Jill (50% each). However, if Jack was non-UK domiciled and subject to the remittance basis the gains could only be attributed to him to extent he actually brought the gains into the UK.
BENEFITS IN KIND
If the taxman is able to assert that the company is being managed by the shareholder or that the directors of the company are accustomed to act on his directions, he will be classed as a shadow director and income tax will be payable on any benefit in kind received by him or his family. One of the key benefits in kind that may apply is the accommodation charge. This levies a charge on an employee where he or she is provided with accommodation by an employer. However, in the 2007 Budget a change was announced to the tax treatment of overseas property companies. The effect is to remove the benefit-in-kind tax charge for investors who buy overseas holiday homes using a company (in many countries investors are forced to buy property through a company).
There are certain conditions that have to be satisfied (for example, the company must own no other assets) but this change removes one of the main drawbacks of using a company to invest in overseas property. However, it doesn't alter the fact that the investor will still have to pay corporation tax instead of income tax or capital gains tax, which may result in a higher tax bill in many circumstances.
About the Author
The Author of this article is our site Editor, Lee Hadnum. Lee is a rarity among tax advisers having both legal and chartered accountant qualifications. After qualifying a prize winner in the Institute of Chartered Accountants exams, he also went on to become a chartered tax adviser (CTA).
He worked in Ernst & Youngs Entrepreneurial Services department for a number of years before setting up his own tax planning practice. He is now a full time tax author.
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