An issue that is ongoing but will not be included in the UK Finance Bill 2015 is the introduction of measures to combat hybrid mismatch arrangements. A consultation on the subject was announced in October 2014 and in December 2014 a consultation document was issued on “implementing the agreed G20-OECD approach for addressing hybrid mismatch arrangements”. The UK consultation is therefore a direct consequence of action 2 of the G20-OECD action plan on base erosion and profit shifting.

Comments were invited by 11 February 2015. The responses from interested parties will be used in framing the UK’s input into the G20-OECD action plan as well as in developing the UK legislation. A summary of the responses is expected to be published in the summer of 2015 and there will be a further consultation on draft legislation before it is included in a future UK Finance Bill. The UK legislation is expected to apply from 1 January 2017.

The UK intends to introduce “primary” and “defensive” rules to restrict the tax deduction for interest or to include amounts in taxable income if there is a hybrid mismatch arrangement, either direct or indirect. This would apply not just to related party arrangements but also to what are referred to as “structured arrangements” between third parties. The rules would apply to both cross-border and UK domestic arrangements although cross-border arrangements would be encountered much more frequently.

If the mismatches are timing mismatches that reverse within a reasonable period such as within five year or that are mismatches in relation to rates of tax these would not fall within the rules. The current UK legislation includes a “motive” element but this would not be present in the new legislation.

In the case of “reverse hybrid” situations the UK government could decide to include UK LLPs as separate taxable entities in certain situations, though these are normally treated as transparent for tax purposes. Comments are invited on the nature and scope of this approach to the issue.

The proposals include the possibility of denying tax deductions in the case of some expenses of dual resident entities. In the case of such entities the UK is considering including determination of residence by the competent authorities in its double tax treaties in future, instead of the tie-breaker clause that is currently included in UK treaties.

Also included in the consultation document is material relating to hybrid regulatory capital issued by banking groups. The document sets out two alternatives for approaching the issues that arise in these cases.

Any legislation on hybrid mismatch arrangements would only apply to corporation tax and would targeted multinational groups engaged in the use of hybrid mismatch arrangements for tax purposes. As there will probably not be a motive test in the legislation all multinationals will need to review their UK operations to identify possible mismatches and situations where the rules could apply.

The consultation document suggests that the legislation will be effective for payments made on or after 1 January 2017. As this is still some way away businesses have time to prepare and there are no provisions for transitional rules.