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Tech companies operating in the UK need to be prepared for diverted profits tax demands, says expert

Over the next few months many technology companies operating in the UK are likely to receive  diverted profits tax (DPT) notices requiring large up front tax payments, said Ian Hyde, a tax disputes expert at Pinsent Masons, the law firm behind Out-Law.com.25 Oct 2017

"Unlike transfer pricing, DPT has to be paid first and then argued about later and has its own fixed timetable and process which drives a dispute to litigation. It is therefore important not just to regard DPT as a matter for the tax department, but as likely to lead to litigation" Hyde said.

DPT applies in respect of profits arising on or after 1 April 2015. The fact that HMRC has two years from the end of an accounting period to issue a DPT preliminary notice means that companies with 31 December year ends are likely to receive a DPT notice by the end of this year in respect of the 2015 year.

"It is unlikely that a preliminary notice will come out of the blue, but indications are that HMRC is running out of time to complete its review of all the information it has been sent. Notices may therefore be issued in a rush in order to protect time limits" said Ian Hyde.

Once you have a preliminary notice you have 30 days to make representations, and HMRC then has a further 30 days to issue the final charging notice. However, at this stage, representations can only be against a very restricted number of issues such as factual errors, you cannot argue about the fundamental principles. The tax must then be paid within 30 days of the final notice. It cannot be postponed, and you cannot appeal to the Tribunal for another 12 months.

"Any requests from HMRC should be considered in the light of the litigation that is likely to result. For example, the scope of any HMRC information request should be considered for its relevance to the underlying issues, and all information to be disclosed should be fully reviewed and tested for strengths and weaknesses against your understanding of the facts" Ian Hyde said.

"You should also think about how to manage requests for meetings with senior management within the business. Key witnesses should be identified at an early stage so that evidence can be preserved, even if there are personnel changes before your dispute gets to tribunal" he said.

DPT applies in two situations. The first applies where a UK company or UK permanent establishment has entered into transactions with a connected party, and it is 'reasonable to assume' that the transactions were designed to secure a UK tax reduction. One example of this would be if profits are taken out of a UK subsidiary by way of a large tax deductible payment to an associated entity in a tax haven. The second is where a non-UK company has avoided creating a UK permanent establishment.

DPT is charged at a rate of 25%, as opposed to the corporation tax rate of 19%, and has its own regime, entirely separate from corporation tax self-assessment.

When DPT was first introduced HMRC said it was "designed to counter the use of aggressive tax planning techniques used by multinational enterprises to divert profits from the UK".

However, Ian Hyde said "DPT is being applied much more widely than was anticipated when the rules were first introduced. Technology companies have more control over where their operations are based than 'bricks and mortar' companies. They are therefore likely to be firmly within HMRC's sights when it comes to DPT".

"There is a significant overlap between DPT and transfer pricing. It might be thought that an advance pricing agreement (APA) would provide full protection against DPT. However, the actual position is less simple and in some cases HMRC is using DPT to get a second bite of the cherry in respect of existing structures" Hyde said.