* Govt sets out draft General Anti-Avoidance Rule
* Companies initially supportive of move
* Say latest proposals too broad and restrictive
* Campaigners warn against too-narrow GAAR
By Tom Bergin
LONDON, Oct 4 (Reuters) - The activists who have protested in recent months at the tax arrangements of some leading British companies are united with many politicians in wanting to cut corporate tax avoidance. On how best to do that, there's less agreement.
When the government first came out with plans to clamp down with a so-called General Anti-Avoidance Rule (GAAR), UK companies were publicly positive, seeing the measure as helping tackle public resentment at corporate behavior as well as creating a more level playing field between companies themselves.
That view changed when proposals over the summer indicated the rule would be tighter than first stated.
Now the government faces opposition from companies, raising the political temperature over the issue and potentially giving the measure a rockier ride through Parliament.
The CBI, the main UK business lobby, said the draft GAAR was so broad as to discourage investment at a time when the government was pushing measures to make the UK's tax system the most competitive in the G20 group of large economies.
"The uncertainty caused by anything other than a narrowly-focused GAAR could undermine the positive effect of these other measures", the CBI said in its response to the consultation.
In theory, a GAAR-type rule should be pretty uncontroversial. Indeed the only surprise is that it took the UK so long to adopt one, given something similar exists in other developed countries, including the United States where an "economic substance doctrine", which functions like a GAAR, was tacked on to President Barack Obama's healthcare law in 2010.
What's less surprising is that fiscal priorities have forced the government's hand.
It needs the money to plug its budget deficit, while also hoping a GAAR will temper public anger at austerity measures by convincing a weary public that the better off and big businesses are being made share the burden of tackling the public debt mountain.
Business at first backed plans for a GAAR as companies unable to use aggressive avoidance techniques - perhaps because of their fear of reputational damage or because they were just too small - felt it would stop rivals from getting an edge by gaming the taxman.
More broadly, executives hoped a GAAR would soothe public cynicism toward big corporations, which could pressure the government into adopting less business-friendly policies.
"Having something like a GAAR is important to give people confidence that egregious behaviours can be prevented ... if your customers feel disaffected because you as a business are doing things that they think are inappropriate, that doesn't help you," said Andrew Bonfield, chairman of the tax committee of the Hundred Group of finance directors, which represents the biggest companies in the UK.
Yet companies' initial support was largely based on a belief that the government was planning a rule which would continue to allow most avoidance techniques employed by business.
Graham Aaronson, the lawyer the government appointed to study the benefits of a GAAR last year, recommended a narrowly-focused GAAR, to the annoyance of tax campaigners who noted Aaronson's history of defending companies in tax cases against the UK tax authority, Her Majesty's Customs and Revenue (HMRC).
Aaronson's report envisaged barring only highly artificial offshore schemes, unconnected to any economic activity, whose only purpose was to cut taxes.
The channeling of profits from genuine sales through tax havens - something a broader GAAR might capture - would be permitted.
However, Bonfield, also finance director of utility National Grid Plc , said the latest draft GAAR, released by HMRC over the summer, had spooked businesses.
"There is some concern about whether this is slightly broader than the Aaronson proposals," he said.
Globalisation and the development of more sophisticated financial tools have created opportunities for multinational corporations and high net-worth individuals to cut their tax bills by constructing arrangements that stick within the letter of tax law but arguably break its spirit.
Governments regularly update tax rules to close loopholes that allow such arrangements. But tax advisers simply go back to the drawing board to find more loopholes.
This leads to a fiscally and economically wasteful cat and mouse game, according to Judith Freedman, a member of the panel which formulated plans for a UK GAAR, characterised by "scheme creation and scheme blocking".
To avoid such games, many countries have adopted so-called principles-based legislation that allow tax authorities to disregard arrangements which they feel are designed largely for tax reduction, rather than for genuinely commercial reasons.
The previous UK Labour government proposed a GAAR in 1997 but the plan was dropped following opposition from big business. The latest push for a GAAR was led by the Liberal Democrats, the left-of-centre junior partner in the Conservative-led government.
Business dropped its opposition to the GAAR, partly because the political climate changed, but also because it felt reassured by the language in Aaronson's report.
While Gordon Brown as finance minister said in 1997 he wanted a GAAR to stop tax avoidance, and current finance minister George Osborne told parliament earlier this year he thought aggressive tax avoidance was morally repugnant, the panel proposed a rule that only targeted "very aggressive" avoidance arrangements.
Tax advisers and campaigners say a "narrow" GAAR would permit tax-reduction tactics such as intercompany loans, the charging of inter-company management fees and the charging of inter-company royalties for the use of intellectual property.
The broad approval to avoid taxes enshrined in a narrow GAAR has also prompted opposition from tax collectors themselves.
The Association of Revenue and Customs, the trade union for tax collectors, said in its official response that a narrowly focused rule would "legitimise what is currently held to be avoidance. In other words, under the guise of tackling avoidance, it may actually facilitate it".
In June, the government published its draft legislation and opened a consultation period that ran to mid-September. It did not specify exactly what arrangements would be allowed or barred, but campaigners said the wording confirmed their fears.
"It is setting back the whole campaign against tax avoidance," Michael Meacher, a legislator for the opposition Labour Party, said in a telephone interview. Meacher has tabled his own anti-avoidance bill with stricter language, though without government support it is unlikely to progress.
Tax advisers said it was impossible to know exactly what would be allowed under a new GAAR until it was implemented and challenged in court. Yet, as they digested the draft law over the summer, they too grew alarmed.
John Overs, tax lawyer at Berwin Leighton Paisner, said the proposals were "unique and exceptional" in their breadth - going far beyond Aaronson's recommendations.
"It raises constitutional issues and is generally quite troubling to the tax community," he said.
David Heaton at Baker Tilley accused HMRC of deliberately drafting rules that it hoped would spook taxpayers.
"The revenue wants uncertainty. It frightens avoiders ... (but) even non-aggressive people will be frightful," he said.
HMRC denied the GAAR's wording was chosen to generate uncertainty and said the planned rules were only targeted "to deter people from using artificial and abusive avoidance".
The CBI said the proposed bar for what might be considered abusive avoidance was lower than in other countries with similar measures, such as China, South Africa and Australia, and more sweeping than the language India plans to use in its GAAR - which the CBI has also criticized for being too broad.
The lobby group complained the UK GAAR should only be triggered if tax avoidance was the sole purpose of an arrangement rather than "one of the main purposes", as proposed by the current draft.
Granted, not all tax specialists are critical.
PricewaterhouseCoopers tax partner Alex Henderson said the proposed UK wording was "common wording you'll find in a lot of modern anti-avoidance legislation".
Yet the CBI also criticized the fact that tax arrangements must meet the hurdle of being "reasonable" in the eyes the HMRC because it said this was "too subjective".
However, GAARs adopted by countries such as Germany, South Africa and China also put the onus on the taxpayer to prove their affairs are reasonable, according to PwC.
Henderson said it was too early to tell if the UK's GAAR will be stricter or more lax than other countries' tax avoidance rules. Even if the proposed wording is retained, the GAAR's impact will be heavily influenced by the HMRC guidance document on how it will be applied - something which is due to be released by the end of the year.
The final element in the operation of the GAAR could be one of the most controversial. The government plans a panel to provide opinions to HMRC on the acceptability of particular tax arrangements and with the power to rewrite the guidance.
The government expects HMRC representation on the panel but the CBI wants the majority of its members to be tax experts from outside HMRC.
John Christensen, director of the Tax Justice Network, which campaigns against avoidance, said this could lead to conflicts of interest, since most tax experts working outside of HMRC are employed at accounting or law firms which advise on tax issues.
"The vast majority of professionals working at this level would want to protect the current arrangements," Christensen said. "They wouldn't take a very critical view."
(Editing by David Holmes)
Keywords: BRITAIN TAX/COMPANIES