Tax campaigners should not accuse those who use existing reliefs of "tax dodging", says expert

Heather Self of Pinsent Masons, the law firm behind Out-Law.com, was commenting in response to a series of articles in the Independent newspaper on a tax relief known as the 'quoted Eurobond exemption'. The newspaper described this relief, which was reviewed and retained last year, as a "loophole ... costing the UK economy at least £500 million a year".

The articles accused companies that took advantage of the scheme of "lobbying" HM Revenue and Customs (HMRC) as part of its consultation on the abandoned reforms last year. However, Self said that it was the contributors to the articles who were themselves lobbying.

"The UK has a generous regime for interest deductions," she said. "This is a policy decision, clearly set out in Government decisions and confirmed by HMRC's review."

"In 2012, the Eurobond exemption was reviewed and comments were invited. The almost unanimous response was that the economic benefits to the UK of being a leading financial centre outweighed the potential loss of tax due to lack of withholding tax. These groups that are themselves lobbying had the opportunity to do so in response to HMRC's consultation, but chose not to take it," she said.

Under UK tax laws, companies can deduct the interest that they pay to lenders from their taxable profits. However, if that interest is paid to an overseas lender the company usually has to pay a 20% 'withholding tax' to HMRC. Introduced in 1984 as a way of encouraging international investment into the UK, the quoted Eurobond exemption allows overseas investors to receive the interest without the deduction if the security is listed on a recognised stock exchange as designated by HMRC.

In March 2012, HMRC consulted on limiting the use of the exemption so that it would not apply where the Eurobond was issued to a fellow group company, and was listed on a stock exchange on which there is no substantial or regular trading in the Eurobond, for example in the Channel Islands or Cayman Islands. It announced that it would not be taking the proposals forward in October, as the responses to the consultation were largely against the changes. Respondents said that restricting the exemption could undermine the well-established market in Eurobonds in the UK, reduce inward investment and create compliance burdens for businesses.

In a series of articles running this week, the Independent is naming companies in various sectors which it says have benefited from the use of the quoted Eurobond exemption. So far these include a number of companies operating in the private healthcare sector, water companies, High Street retailers and National Lottery operators Camelot. According to the paper, these companies have benefitted from up to £500m in unpaid tax.

HMRC has a range of anti-avoidance measures which prevent the deduction of interest where there is a tax avoidance motive or where there is a 'group mismatch' on the treatment of deductions. In addition, any UK company wishing to claim tax relief for finance costs has to be able to show that those costs are no more than would be paid to an arm's length third party lender. In a statement, HMRC told the Independent that it would challenge any payments that appeared excessive.

"Companies can pay interest on loans from group companies, but where the special relationship between the companies has increased the amount of loan or the interest rate, transfer pricing will restrict how much interest is recognised for tax purposes," its spokesman said. "HMRC robustly polices such transactions."

"Last year we consulted on the taxation of interest, including the exemption from withholding tax on quoted Eurobonds. Serious concerns were expressed about the impact on inward investment and it was decided to keep this complex area of tax law under review. The rules on cross-border withholding tax are being looked at as part of a package of work on the international tax rules being led by the OECD," he said.