Profit Diversion Compliance Facility (“PDCF”) has been saved
Profit Diversion Compliance Facility (“PDCF”)
What it is and tips for success
HMRC have this week issued the fifth full batch of the so-called PDCF “nudge” letters to a number of taxpayers who “have been identified as being potentially liable to Diverted Profits Tax (DPT)” on the basis that they have “features commonly associated with arrangements targeted by the DPT legislation”.
These PDCF nudge letters suggest that such taxpayers should consider registering for the PDCF and if they do not, HMRC may start an investigation, specifically reserving the right to involve HMRC’s Fraud Investigation Service at the outset.
Businesses who have received a nudge letter have 90 days to decide whether or not to register for the PDCF.
With the new batch of nudge letters out there, and the PDCF now firmly established as an important feature of HMRC’s compliance toolkit, it is worth revisiting the key points on PDCF, including:
- What is the PDCF and what are the main features of a PDCF process?
- Some of the key considerations on whether or not to register for the PDCF
- Tips for success
What is the PDCF?
The PDCF is a disclosure facility that provides taxpayers with an opportunity to bring their UK tax affairs up to date.
The PDCF is aimed at corporate taxpayers that have arrangements involving low tax entities in the overall value chain.
Tackling profit diversion is a high priority for HMRC. In a high proportion of investigations, HMRC are finding that arrangements involving low tax entities do not stand up to additional scrutiny and that additional UK tax is due. The main areas of focus for HMRC are Transfer Pricing and DPT, but HMRC can also review any other relevant direct tax provisions and the indirect tax position as part of any investigation.
Under the PDCF, and working in close consultation with HMRC, the taxpayer is expected to carry out a detailed investigation and within 6 months put forward a report to HMRC containing:
- A statement of fact signed off as being full and accurate
- An analysis of the tax position – covering Transfer Pricing, DPT and any other relevant anti-avoidance measures (i.e. this is not just a DPT analysis – in our experience. this is one of the major misunderstandings,
- A proposal to pay any additional tax, interest and where applicable, penalties.
The process of using the PDCF is markedly different from a traditional HMRC enquiry or International Tax review project in a number of respects, including in the engagement with HMRC, presentation of evidence, and potentially the use of advisers.
Some of the key considerations on whether or not to register for PDCF
The recipients of the latest batch of nudge letters will all have to decide within 90 days whether to register for the PDCF.
In our experience, on prior batches of nudge letters, HMRC’s risk assessment has been rigorous and, in most instances, they have identified businesses that have arrangements or transactions that HMRC are likely to have some interest in understanding further, with associated complex Transfer Pricing issues.
There has been no particular theme on industry or headquarter location and prior batches have included some companies that have notified for DPT and some that have not. There are some themes emerging in terms of the issues picked up in risk assessment by HMRC, including low risk or loss making UK entities, or senior and regional employees based in the UK, or the presence of a low tax territory in the value chain, amongst others. It is clear that country by country reports are used heavily in the risk assessment process where available, along with many other data sources available to HMRC, including PAYE data.
We have set out below some of the key points that we commonly talk to our clients about when assisting them in the decision of whether or not register for the PDCF. We have also picked out some of the questions that we have been repeatedly asked in these conversations.
First, the benefits of registering for the PDCF. It is sensible to review the benefits through a comparison to an HMRC initiated and led investigation, as in the majority of cases (though not all), our experience is that taxpayers who have not registered after receiving a nudge letter have subsequently faced an HMRC enquiry. Compared to an HMRC enquiry, the PDCF can enable taxpayers to bring their UK tax affairs up to date efficiently and under an accelerated timetable. A disclosure under the PDCF can also give unprompted penalty treatment and provide a low risk outcome for profit diversion for future periods.
However, registering for the PDCF is a significant undertaking. At a most basic level, the body of evidence required for the report is both wide and deep, and likely to require a significant commitment of resource by the taxpayer over a period of c. 6 months. It can also call upon significant input from professional advisers, and may well require difficult decisions to be made along the way (most pertinently on whether to defend or negotiate around key tax judgements that may have been taken in the past). Given this backdrop, it is sensible to use the 90 day period available to: (a) decide whether or not to register, (b) if looking to register, decide whether (and how) you are going to resource the review, and (c) what risks you are going to suggest to HMRC that you will investigate as part of the PDCF process, or (d) if not registering, how you are going to communicate with HMRC on this.
The first thing we suggest is carrying out a high level, clear eyed, review of whether the nudge from HMRC is merited and therefore whether the right comparison to be made on considering whether to register is with an enquiry from HMRC. In this review, it will be useful to consider the supply chain in and out of the UK, together with key financial and employee data for entities involved in that supply chain.
This review will include Transfer Pricing matters that can be subjective in nature and which can make the decision to register, or not a difficult one to make.
If the alternative is an enquiry, having worked through the pros and cons, most taxpayers typically land on registering for the PDCF as being the best option, provided the group is fully committed to the process and all that it entails from the outset. It is important that senior stakeholders within the business are fully engaged with the decision on whether or not to enter into the PDCF and are clear on the requirements, risk profile and resource needed.
On the question of advisors, HMRC do not require taxpayers to engage advisors, however most do in some form – for example, to bring additional resource, objectivity and relevant experience. Any external advice can range from specific advice on particular aspects, all the way through to full support . What is right for you will depend on several factors including:
- Strength, depth and availability of your inhouse tax team for the task in hand, particularly considering the intense periods of activity which will be required
- Independence of your inhouse team from the arrangements being examined – it is important to demonstrate objectivity
- How you want to engage with HMRC
- Have all taxpayers who have received a nudge letter and not registered faced an enquiry?
As noted above, based on what we’ve seen, taxpayers who have not registered have usually faced an HMRC enquiry. This has not always been the case, but it was evident from the risk assessment that there was little risk and crucially that there was very little uncertainty on this point. The taxpayer also actively engaged with HMRC to explain the position, in full.
- Have HMRC accepted nil reports or low adjustment reports?
HMRC have accepted nil and low adjustment reports, obviously, where the evidence is supportive of that conclusion. The key point is ensuring that a full and complete statement of facts is provided and that existing Transfer Pricing policies and results and other tax provisions are tested against this statement of facts in a balanced and objective manner.
- Can I talk to HMRC about why they’ve sent us the nudge letter before I make a decision whether to register?
HMRC’s policy is not to engage in discussions with taxpayers about why they have been sent a nudge letter. This is because they want to ensure that where a taxpayer does decide to register for the PDCF, they are able to achieve unprompted penalty treatment. Where a taxpayer registers for the PDCF, the first action is a Registration Meeting where the taxpayer presents to HMRC the risk assessment and plan for the self-investigation. HMRC will flag to the taxpayer at this point if they consider they have missed a risk identified by HMRC.
- I don’t see any DPT risk, does that mean the PDCF is not for me?
PDCF is about much more than just DPT risk. The vast majority of cases that we’ve seen are focused predominantly on Transfer Pricing matters.
Tips for success
- Try to be objective from the outset: it is important to build objectivity into the process from the start, stand in HMRC’s shoes. If you can’t do that yourself, get someone in who can do that.
- Evidence and facts: PDCF requires a forensic review of evidence to determine the facts.
- Commit the right level of resource: PDCF is resource intensive over a relatively short period of time. If you don’t have sufficient resource, plan for how you can get more.
- Buy-in from senior stakeholders: PDCF is a new concept for tax and finance professionals.. Senior stakeholders need to be engaged and understanding of this – there will be many requests for evidence, the process can be a drain on internal resources, it may require a budget for external advisers and there could be some difficult decisions to make. Without senior buy-in from the start, it can be a challenging process.
- Agree a project plan: start drafting early, build in time for reviews, and try to stick to the timescales.
- Confront difficult issues and decisions as early as possible: discuss the evidence and facts as they emerge and expose senior stakeholders to initial thinking or conclusions to avoid unwelcome surprises down the line.
- Clearly understand what HMRC is expecting from the report: the forum for agreeing the scope of the self-investigation with HMRC is the Registration Meeting which takes place shortly after registering for the PDCF. The more work that goes into preparing for the Registration Meeting, the more focused and efficient the subsequent more detailed investigation phase should be.
In conclusion, the PDCF is now an important feature of the HMRC compliance toolkit and can bring both opportunities and challenges to taxpayers. The facility is not limited to taxpayers in receipt of nudge letters, and where used appropriately and effectively, it can be an efficient and valuable way for multinational groups to obtain certainty over their historical tax arrangements.
We have assisted a number of businesses at all stages of the process. To find out more please contact: