'Budget to build on the spirit of BN66'

Hopes that Budget '09 will be used to repeal a retrospective law that hit hundreds of people who benefited from the UK's double taxation treaties have been dashed.

More than 600 signatories to a petition on the Number 10 website want ministers to revoke the Finance Act's Clause 55, known as BN66, born in last year's Budget.

The clause targets a scheme, popular among freelancers, which relied on a loophole in a 1987 Act of Parliament that let its users pay less income tax and national insurance.

The scheme channelled a UK resident's income to a lower-tax foreign partnership, with foreign trustees, which stayed their own income, by them being a beneficiary of that trust.

Rather than just closing the loophole, which allowed users lower tax bills for seven years, the state backdated it, and set the "clarification" back to the law's commencement in 1987.

As a result, liabilities for taxpayers using such a scheme, which started in 2001, were backdated to when the tax was first payable, rather than when the legislation came in last year.

Raising the reward of the claw back for HMRC, the government decided to also backdate interest charges, serving to increase the tax debt by as much as 50 per cent.

One freelancer whose scheme played upon the wording in the UK's double taxation treaties, like those with the Isle of Man and Channel Isles, faces a £200,000 tax bill.

"Not because I earn a lot, [but] more that I was in the scheme for a long time, coupled with a very serious bill for interest for not paying tax that I did not know was due."

Signatories of the petition to repeal the clause, which is said to have bankrupt hundreds of families, include PCG's John Brazier and, it appears, Vince Cable, deputy leader of the Liberal Democrats.

Adding its implied support for the petition, the Chartered Institute of Taxation yesterday confirmed that it regarded the legislation as "extreme" and "unjustified."

The tax industry is concerned that if BN66 is allowed to stand, the measure could set a precedent for retrospective laws on all sorts of other financial arrangements.

However, the prospect of Alistair Darling seizing today's Budget as the first chance since Clause 55 was introduced to wipe it from the statute book looks slim.

Gordon Brown, seen as the real architect of Budget '08, has written to all British crown dependencies and overseas territories demanding their records go to HMRC.

Thanks to BN66, avoidance of tax is barred via the 'misuse of double taxation treaties' by UK residents, all of whom must pay UK tax on their profits from foreign trusts.

So the PM may be after the removal of secrecy from all British-controlled tax havens, or he may wish to tax investment income equally to income earned via labour.

Ernst & Young reportedly added that other measures tempting Mr Brown may include a new wealth tax for super-earners, or the adoption of a general anti-avoidance rule.

Adviser PKF agreed that action on tax avoiders, particularly if it is all-encompassing, may feature in the Budget, primarily to clampdown on offshore tax structures.

"While legislation is announced in almost every Budget to close specific loopholes used in international tax planning, the government may now feel justified in taking more sweeping action," the firm said.

"It is not inconceivable that it could introduce a new targeted anti-avoidance rule aimed at arrangements that rely on the arbitrage of tax rules between different jurisdictions to reduce liabilities and incorporate transactions that have no commercial rationale."

Accountants warn that if freelancers used a BN66 scheme, or one affected by 'Budget Notice 66', and they are yet to hear from HMRC, then they can still be contacted.

Typically HMRC will find their details on the foreign partnership's tax return and launch an enquiry, claiming the taxpayer failed to record enough detail on their individual return.

Taxpayers given demands under BN66 can pay, or they can appeal on the grounds that the scheme organisers want a judicial review to get the retrospective nature of BN66 thrown out.

A rejection of this appeal would result in the tax being payable, while a victory would be likely to see a case, or cases, brought before the commissioners, with an appeal likely by the losing party.

The House of Lords would then take five years to decide: a ruling against HMRC would result in the income being confirmed as tax-free, while its victory would mean the full liability, including interest up to date, would be payable.