Focus will be on how ‘Scottish GAAR’ anti-avoidance rule works in practice as devolved taxes take effect, says expert

FOCUS: Now that the first devolved Scottish taxes have come into force, the rest of the UK will be watching with interest to see how new tax authority Revenue Scotland manages and deals with avoidance risks.

Much of this interest will be on how the new Scottish General Anti-Avoidance Rule (GAAR) impacts on transactional activity, how its provisions will work in practice and the impact it has on avoidance activity – in particular, whether and to what extent it reduces the need for complex targeted anti-avoidance rules. Wales in particular is currently consulting on the creation of a devolved Welsh equivalent to the Land and Buildings Transaction Tax (LBTT), the Scottish equivalent of the UK’s Stamp Duty Land Tax (SDLT) which came into force on 1 April 2015.
The Scottish government had a blank sheet of paper on which it was able to draw the line on what it perceived to be acceptable tax planning. It has acknowledged and, it is fair to say, taken pride in its stance on avoidance – it was quite clear that it intended to take a “wider and therefore more rigorous approach to tax avoidance” than the UK’s equivalent rules. This is perhaps not surprising since one of the first devolved taxes is replacing SDLT, an area which has been ripe for aggressive tax avoidance schemes in the past.

The Scottish GAAR will apply only to those taxes which are fully devolved: currently LBTT and the Scottish Landfill Tax, which replaced the UK-wide landfill tax in Scotland on 1 April. It will not, for example, apply to income tax even after the Scottish government gains the ability to set thresholds and rates included in the Scotland Bill, even though avoidance activity in relation to income tax will impact on the Scottish tax take.

Advisers and companies operating in both Scotland and the rest of the UK will potentially need to take both the UK and the Scottish GAAR into account in relation to the different taxes applicable or indeed within the same transaction. Understanding the differences between the two rules will therefore be important.

Anti-avoidance, not anti-abuse

The Scottish GAAR is set out in Part 5 of the 2014 Revenue Scotland and Powers Act. It is an anti-avoidance rule, not an anti-abuse rule as is the case with the UK GAAR. The Scottish GAAR applies if two conditions are met:

it would be reasonable to conclude that obtaining a tax advantage is the main purpose or one of the main purposes of the arrangement; and

the arrangement is “artificial”.

Note that the tax advantage needs to be a main purpose or one of the main purposes. This is not inconsistent with the UK General Anti-Abuse Rule (UK GAAR) and indeed many targeted anti-avoidance rules within UK legislation, and is a fact-based test. However, it is obviously not the same as requiring a “sole or main purpose” of tax avoidance – a purpose that is secondary to a legitimate commercial aim could be a “main purpose”.

This is obviously not a clear-cut issue and is an area of increasing debate with HM Revenue and Customs (HMRC) on non-devolved taxes. It will be interesting to see the approach adopted by Revenue Scotland, but debate on the point will be inevitable.

An arrangement is “artificial” if it meets one of two conditions. The first is met if the arrangement is not a reasonable course of action in relation to the tax provisions in question having regard to all the circumstances; and the second is met if the arrangement lacks economic or commercial substance.

Revenue Scotland, taxpayers and advisers

Where a tax avoidance arrangement accords with established practice, and where Revenue Scotland had indicated its acceptance of that practice “clearly and unequivocally” at the time that the arrangement was entered into, this will be treated as a reasonable course of action. This is not dissimilar to one of the tests of reasonableness under the UK GAAR, except that HMRC has been able to make its views on certain types of transaction known publicly over a number of years. We are not yet in that position with Revenue Scotland.

We cannot safely assume that Revenue Scotland will adopt views previously published by HMRC, and we do not yet have a comprehensive ‘white list’ of transactions which Revenue Scotland deem to be acceptable tax planning. This means that, for a period of time, taxpayers and advisers will be navigating uncharted territory in areas which are already viewed as benign tax planning in the rest of the UK. Hopefully Revenue Scotland will be in a position to provide guidance stating “unequivocally and clearly” that certain arrangements that have become market practice do not fall within the GAAR.

Scottish GAAR vs UK GAAR

The obvious difference between the UK GAAR and the Scottish GAAR is in their names: the UK GAAR is an anti-abuse rule whilst the Scottish GAAR focuses on avoidance. This makes the Scottish GAAR significantly wider than the UK GAAR – but, as previously mentioned, this is intentional.

The UK GAAR requires referral to an advisory panel, but there is no such panel in relation to the Scottish GAAR. Although the panel’s rulings are not binding on HMRC, HMRC is required to consult it and the panel’s views will inform a tribunal or court’s views on what can reasonably be determined to be reasonable tax planning, the so-called ‘double reasonableness test’. This was seen as an important safeguard to enable those doing business in the UK to be confident in the GAAR’s operation. Time will tell whether the increased scope of the tax is seen to impact on business activity in Scotland where it relates to the devolved taxes, and whether the uncertainty surrounding operation of the Scottish GAAR impacts on the speed at which commercial activity can be progressed and deals agreed.

UK courts and tribunals are required to take into account any guidance issued by HMRC in relation to the UK GAAR, provided that the guidance has been approved by the GAAR advisory panel. Under the Scottish GAAR, courts are required to take into account guidance issued by Revenue Scotland and there is no panel which would have approved this. This potentially gives Revenue Scotland a wide element of discretion as to what it determines is “artificial” that is not available to HMRC.

The ‘double reasonableness’ test does not feature in the Scottish GAAR. The test in the UK GAAR was intended to require courts to take a range of views into account when determining whether a reasonable view might be held that the arrangement was reasonable. Although the benefit of this additional hurdle in the UK GAAT has been questioned, its absence from the Scottish GAAR is notable.

Finally, guidance that has been issued on the UK GAAR sets out a number of practical examples of areas which fall within the scope of the UK GAAR. Although some have said that these examples fall into the fairly obvious extremes of tax avoidance or normal tax planning, they do at least aid interpretation of the GAAR to an extent. It is a little disappointing that the current Revenue Scotland guidance on its GAAR is sparse on these practical examples; however, the guidance will hopefully evolve over time in this respect.

Taxpayers, advisers and Revenue Scotland are all operating in a brave new world in relation to the newly-devolved taxes. Taxpayers and their advisers will need to make their own assessment of where they believe the line of ‘reasonable’ tax planning sits, and to what extent they can be confident that their view will be shared by Revenue Scotland and, ultimately, the courts.