Financial Resource

subsequent borrowing a security was given, then this security would be available equally for the bond issue. If a local authority must provide adequate security when it is borrowing in this country, then it seems that the negative pledge would result in a borrower providing security in the foreign currency market as well. This falls “foul” of the revenue requirements. This is a difficulty, which does not stand in the way of a possible foreign currency issue. An appropriate amendment to the Finance Act is necessary .

A tax problem arose, because the Revenue considered that income paid by a UK borrower does not qualify as foreign source income, and is therefore outside the UK tax net, unless the loan is not secured on any specific assets or revenue in the UK. The problem arises for the GLC and other local authorities from the authorities’ traditional practice of giving a “lien” on the rates and other revenues in respect of their London market loans, and the insistence of Euro-bond subscribers on receiving special most favoured nation treatment. This means that the local authorities will almost certainly be required to agree to insertion in the loan agreement of a security provision on the lines of those in the loan agreement for the cities of Copenhagen, Bergen and Oslo. The result, if Revenue stand by their interpretation of the statutory position, is that the act of creating a lien on rate income in the first Sterling loans after the Euro-bond issue will cause the interest paid by the local authority to revert to the status of UK income source, thus coming within the tax charge .

The position of the local authority would be impossible in this situation. It would be regarded as part of the preliminary negotiations as well as in the loan agreement itself, to indicate that interest would be payable gross and yet would be inserting in the agreement a second provision which would be bound in a relatively short time to frustrate its ability, within the law, to fulfil the first requirement. This problem did not arise for the nationalised industries, because it was never their practice to create a lien on UK assets because they borrow under Treasury guarantee. The solution was to remove the offending Revenue requirement in respect of overseas borrowing by the nationalised industries and commercial borrowers (for simplicity and to avoid highlighting the position of the local authorities) . There were four alternatives: firstly, to abandon the idea of foreign currency borrowing by the local authorities. Secondly for the local authorities to abandon their old-established practice of creating lien to secure their sterling issues. Thirdly, a less statutory interpretation by the Revenue of the statutory position to regard the interest payable on these issues as retaining its foreign source connotation even when the indirect pledge became effective. Finally, to amend the law.

Examining these alternatives, the first alternative was unquestionable, especially since the GLC and Manchester had relative borrowing powers. The second alternative was “impracticable”. The third alternative was “a possibility”. So it seemed that the fourth choice was “fairly obviously the right solution” .

The point was that bond issues could be made in the Euro-bond market only if the borrower undertakes to pay interest gross. That the relative interest income has to be given a foreign source (based on the four requirements). The only point of difficulty arose on the fourth – the requirement that the loan should not be secured on any specific assets or revenue in the UK. The problem had arisen only for the nationalised industries where it may be necessary to create an indirect security where the borrower is called upon to give a direct security in a subsequent loan .

However the Revenue view stated that if by such a provision a loan became subsequently secured on assets or income in the UK, then the source could no longer be regarded as foreign. This problem did not arise for the nationalised industries, as they borrow under Treasury guarantee. Therefore, two possibilities were either to abandon the idea of local authority foreign currency borrowing in the face of this tax difficulty or, alternatively to modify the loan established practice under which the local authorities charge their London market borrowing on their rate income. The first possibility was clearly unsatisfactory, due to the potential gain for the reserves, which would have been forgone. The second was considered impracticable. Therefore the tax position was the only consideration. There was a strong case in the longer term for removing the “loophole” through which income has a UK source in all but the legal sense can be paid gross to non-residents .

The policy was to encourage foreign currency borrowing, and to encourage UK borrowers to use the artificial foreign source route to the fullest extent possible. There was no objection on principle to any modifications on the proposed legislations in order to get the maximum benefit from it. A subsidiary point had arisen as a result, as whether it was necessary or desirable to confine the amendment to the local authorities. The tentative view was that there were advantages in generalising the change to apply for all UK borrowers. As it would have been impractical if the nationalised industries or private sector borrowers were called upon to introduce a charge on UK assets in their loan contracts, and because the tax change was confined to the local authorities, were inhibited from further foreign currency borrowing .

The possibility of local authorities borrowing in foreign currencies unsecured was governed by Section 197 of the Local Government Act 1933 (extended by Schedule 4 (43) of the London Government Act 1963) to include the Greater London Council and the London Boroughs) which required that all moneys borrowed by a local authority in England and Wales should be secured on all revenues of the authority, except any money borrowed by way of a temporary loan or overdraft without security. It seemed that there was no possibility of local authorities being able to borrow unsecured, except at the very shortest term, either in sterling or in foreign currencies. Also that local authorities could have had difficulty in meeting the requirements of the international capital markets for payment of interest gross. A clause was needed in the 1969 Finance Bill to get over the difficulty, giving wider facility to the tax difficulties which obstructs foreign borrowing. As the present tax arrangements had the effect that in order to be able to pay interest gross, borrowers had to arrange loans in contracts ruled by foreign law and with interest payable overseas. This gave rise that there needed to be some changes in the fiscal rules to allow straightforward borrowing in London to qualify for payment of interest gross .

(3). Tax arrangements on borrowing by UK companies from non-residents

Lever with the Inland Revenue and the Treasury reached a conclusion in January 1969, which involved three separate suggestions which were designed to facilitate borrowing by UK companies from non-residents. The conclusion was that there was no particular need for further relaxation and that the three particular suggestions could not be recommended .

Payment of interest gross

The first suggestion was that UK companies should be permitted to pay interest due to non-residents on overseas loans gross of UK tax, irrespective of the source of the interest or the residence of the paying agent.

The suggestion arises because (a) in respect of interest which has a UK source, tax is deductible unless the interest is bank deposit interest, short interest, interest payable on certain British Government securities and interest exempted under a double taxation agreement. (b) Subscribers to Euro-bond issues require payment of interest gross without formality and will not subscribe on other terms .

UK borrowers at the time met the requirement at (b) provided that they arrange their loan contracts so as to give the interest a foreign source; in essence this means that the relative loan contract must be established under foreign law and the interest is paid overseas. Such arrangements are not particularly difficult to set up and they involve no tax or other penalty on the borrowing company. The disadvantages are: first, that it would be slightly easier, and certainly more straightforward, if UK companies could set up their arrangements through London agents; secondly, that the need to use an overseas base may seem to be a little undignified particularly for an important UK company or a nationalised industry; and thirdly, that the modest professional fees and commissions associated with the handling of these arrangements go abroad instead of remaining in London .

None of these objections was particularly powerful, and there was no evidence that they inhibit borrowing possibilities at all. The small inconvenience and possible indignity of arranging a loan contract governed by foreign law, once the decision to borrow from foreign sources has been taken, does not appear to affect potential borrowers – one nationalised industry commented revealingly that it meant no more than a day in Luxembourg for the directors. The amounts involved in professional fees are trifling and there is no suggestion that foreigners involved in the loan arrangements could use them as a point of entry for wider operations.

Against these modest and in part merely presentational advantages, there were strong objections against changes in the principles and practice of taxation of the kind which would be involved in the

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