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Exemption from 45% restitution interest tax charge for life companies and charities

Life insurance companies and charities have been exempted from a 45% UK tax charge on interest on tax repayments, as a result of Treasury regulations made this week.16 Mar 2017

Jake Landman,  a tax disputes expert at Pinsent Masons, the law firm behind Out-law.com, said: "These amendments benefit charitable companies and life companies who have High Court claims for recovery of compound interest on unlawfully paid tax.”

In 2015 the government introduced a 45% tax charge on interest repayments that HM Revenue & Customs (HMRC) is required to pay to taxpayers who overpaid tax under 'a mistake of law' or who are entitled to restitution of tax under the 'woolwich' principle. The charge was introduced in response to a Court of Appeal judgment in May 2015 that said compound interest should be paid to catalogue company Littlewoods on overpaid VAT. HMRC has appealed the Court of Appeal decision and the appeal is due to be heard in the Supreme Court in July.

Littlewoods had mistakenly overpaid VAT on sales dating back to 1973, when VAT was introduced, because it did not deduct the commission it paid to agents who collected sales from its customers from the value of those sales. HMRC has already repaid the VAT together with simple interest. The payment of compound, rather than simple, interest would allow Littlewoods to recover a further £1.2 billion from HMRC. Many other taxpayers also have compound interest claims which are dependent on the final outcome of the Littlewoods litigation.  

In 2012 the Court of Justice of the European Union (CJEU) said that under EU law a taxpayer was entitled to receive 'adequate indemnity' and that it was for national law to decide "in compliance with the principles of effectiveness and equivalence, whether the principal sum must bear 'simple interest', 'compound interest' or another type of interest."

“Other types of company are still potentially subject to the 45% charge on restitution interest recovered from HMRC. There is a test case proceeding which is seeking to challenge the legality of that charge however,” said Jake.

The new regulations exclude from the 45% charge, charitable companies and certain income of life insurance companies because they were "historically either fully or partially exempt from tax on their investment income". Charitable companies are excluded entirely from the tax charge. For life insurance companies the regulations exclude amounts representing policyholder income.

The regulations also introduce anti avoidance provisions to prevent the charge being avoided in some circumstances where rights are assigned or transferred or where companies have been wound up. The changes apply retrospectively from 21 October 2015, the date the restitution charge came into force.

Tax refunds and statutory interest repayments are usually only liable to corporation tax at the prevailing rate, currently 20%, but 19% from 1 April. The 45% restitution interest charge applies only in circumstances where a taxpayer was unlawfully required to pay tax or overpaid tax under a 'mistake of law' and is entitled to compensation or restitution for that overpayment.  The 45% rate was designed to reflect the fact that corporation tax rates were historically much higher so that interest would have been taxed at higher rates had it been paid in the periods to which it relates.

When the charge was introduced HMRC said "This is a unique set of circumstances and this measure ensures that recipients of such restitution interest payments do not enjoy an unfair tax advantage at the expense of the public purse."

At the time, tax disputes expert Stuart Walsh of Pinsent Masons said that by introducing the charge  HMRC was  "readying itself for the prospect of having to make substantial payments of restitution interest to a large number of taxpayers who overpaid VAT for many years." He said that if challenges to the charge were unsuccessful it would "immediately and significantly reduce the value of all open claims that are awaiting the final Littlewoods decision".