Reuters: Bankruptcy News: UK tax man to get tough on perpetual hybrids

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UK tax man to get tough on perpetual hybrids May 1st 2012, 09:30 By Helene Durand Tue May 1, 2012 5:30am EDT LONDON, May 1 (IFR) - A UK HMRC review on how it treats perpetual hybrids and new-style bank debt instruments for tax purposes could be published as soon as this week, market participants familiar with the discussions have said. Sources close to the talks say the review could see the authorities shift their stance on perpetual hybrids, potentially making them less tax-efficient, while they hope some light will be shed on how future bank hybrid instruments will be treated. Historically, HMRC's interpretation of the law has been that undated instruments issued by banks, insurance companies and corporates constituted debt, making them tax-deductible and therefore attractive for borrowers. However, sources say this will not be the case anymore. "It would be major departure from HMRC's previous position," said a source close to the discussions. However, while it is something of a blow, it is only a minor one. Indeed, hybrid structuring specialists argue that the hurdle is easily surmountable with some tweaking in hybrid deals' structures. "It's a shame though, as it adds a layer of complexity that needn't be there," the source said. For example, a USD650m perpetual non-call 5.5-year insurance Tier 1 priced for Aviva last week included a mandatory conversion into shares at year 99 in order to help ensure that the deal remains tax-deductible in the future. "It is possible that the review by H.M. Revenue and Customs of the United Kingdom tax treatment of regulatory capital instruments in this context might also lead to a clarification of or change in HMRC's interpretation in relation to certain aspects of the tax treatment of such instruments under current law," the prospectus stated. "To the extent that any such change in interpretation relates to the treatment of 'perpetual' notes as 'debt' for the purpose of the UK rules relating to deductibility of interest, the issuer expects that any such change in interpretation would not adversely affect the notes in light of the mandatory settlement mechanism." BASEL III/CRD 4 STEER Meanwhile, market participants hope that the release will shed some light on how the HMRC will treat future bank Additional Tier 1 and Tier 2 instruments. The HMRC set up a dedicated working group on the issue and has been investigating on the topic since May 2011. The working group involves a wide range of market participants, including lawyers, accountants, bankers and issuers. "Hopefully, HMRC will clarify its view on Basel III-compliant hybrids," a banker said. However, a lawyer familiar with the discussions added that while the HMRC's view was important, the government would have the ultimate say whether new style hybrids should be tax-deductible or not. "We still don't know whether they will allow it," the lawyer said. "What gives us comfort, however, is that other EU member states' tax regimes allow for tax-deductibility and you have to remember that we live in a competitive tax climate." The issues the HMRC working group have had to grapple with are huge, as shown by the discussion papers. The inclusion of features like conversion into equity or write-down make the treatment of these instruments as debt more complex. Meanwhile, as highlighted by the discussion paper, how an instrument is accounted for also impacts the tax treatment. According to a paper published in August last year on "going concern capital instruments", the planned convergence between the IFRS and US GAAP accounting regimes could have an impact, although it adds that it is unlikely that there will be clarity on the possible impact of the changes in the short term. "Notwithstanding any potential solutions that may be developed in the future on the basis of the terms set out at present, HMRC's view is that it remains difficult to see how any form of liability treatment would be possible under the current rules applicable under IFRS for the host instrument," HMRC's August paper said. "The confirmation of terms indicates that there can be no contractual obligation to deliver cash for the host contract - and suggest that equity accounting is the only outcome." It did add, however, that any wider policy towards these new instruments had to be cognisant of the impact assessment. "Obviously, the question of the cost of new instruments will be fundamental to the viability of any new market, and clearly the question of tax deductibility and the need for instruments to appeal to a suitably wide universe of investors to ensure a deep and liquid market, allied to an assessment of the impact on UK competitiveness, will all be important considerations for ministers," the paper said. Link this Share this Digg this Email Reprints

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