The UK hybrid and other mismatch rules set out in Part 6A of the Taxation (International and Other Provisions) Act 2010 (TIOPA) (the Hybrid Rules) have been in force since 1 January 2017. So for 18 months now, UK taxpayers have been required to grapple with these rules and consider how they apply to their structures and arrangements.
The difficulties faced by UK taxpayers in applying these rules have been well documented but, generally, arise for three principal reasons:
- Although the Hybrid Rules are purportedly based on the recommendations set out in Action 2 (Neutralising the Effects of Hybrid Mismatch Arrangements) of the Organisation for Economic Co-operation and Development’s Base Erosion and Profit Shifting Project (Action 2), there are important differences between the Hybrid Rules and Action 2.
- The UK was a “first mover” on implementing rules targeting hybrid arrangements. As the story of the Hybrid Rules shows, being a “first mover” is not always an advantage. Successfully drafting rules addressing complex matters is not straightforward; it is generally not appropriate to take a “broad brush” approach. However, unfortunately and as will be explored in this note, this is the approach taken under the Hybrid Rules. As a result there can be unexpected outcomes, with arrangements that one would not anticipate falling within the scope of the Hybrid Rules (on a purposive basis in that the arrangement does not involve any hybridity as that phrase would be commonly understood) resulting in potential counteractions. There is also the added complication that being a “first mover” in respect of rules that incorporate an “imported mismatch” concept can be challenging.
- There is no purpose or motive test when applying the Hybrid Rules; instead the question is whether certain mechanical conditions are satisfied. Whilst such an approach is perhaps understandable from a tax authority perspective, this can result in unexpected outcomes with no scope to mitigate unintended consequences in the absence of a purpose or motive test.
Of course, when any new significant legislation is introduced it is inevitable that there will be uncertainty and difficulty in its practical application. However, that uncertainty and difficulty are even more pronounced where the legislation in question is long and complex with a scope so broad that it potentially captures “innocent” transactions. This is the case with the Hybrid Rules.
As is now customary in order to assist in the application of new legislation in practice, in November 2017 (almost a year after the rules took effect) HMRC finalised their guidance on the Hybrid Rules (the Guidance).
In the absence of HMRC practice and judicial decisions, guidance can be helpful. However, guidance should not be used as a substitute for appropriately targeted legislation. Further, as it is non-binding, it does not fully mitigate the practical uncertainties.
This article is reprinted from British Tax Review Issue 3, 2018 with the permission of Sweet & Maxwell