27/07/2013
NEWS STORY
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The revelations earlier this week about Formula One's tax rate got a lot of people talking. The original report was on the cover of the Independent newspaper and was written by Pitpass' business editor Christian Sylt. It revealed that in 2011 F1 paid a net total of £945,663 in UK corporation tax on pre-tax profits of £305.6m.
It attracted a great deal of follow-up media coverage which all duly noted that F1's tax arrangements are entirely legal and legitimate as Sylt stressed in his article. However, some of the reports drew rather outlandish conclusions from this which is perhaps hardly surprising given that it is a frightfully complex subject. In fact, on delving into it deeper we even learnt a thing or two more.
Before we get into that, a layman's summary of the situation is in order. The key mechanism F1 uses to reduce its tax bill is a system of intra-group loans. The companies which generate most of F1's profits are based in the UK but they have been lent money by sister companies based offshore in Jersey. The interest paid on the loans by the UK companies outweighs their profit and pushes them into loss. This means that they pay little corporation tax since it is charged on a company's profit.
Money is moved out of the UK companies through the interest payments and this lands in the coffers of the Jersey F1 companies which provided the loans. This money is not taxed in Jersey because of its zero tax rate so it can be paid out there as a dividend with no tax deducted. Any of F1's investors who are based offshore can receive the dividend with no tax lost in the entire process.
You might expect that such an ingenious system designed to maximise profit must have been devised by F1's master-strategist Bernie Ecclestone. However, on investigating this further Pitpass discovered that in fact the tax system was chosen and put in place by F1's accountants and those of its controlling shareholder the private equity firm CVC.
"Ecclestone runs the company but he doesn't organise the tax code. He couldn't change it even if he wanted to," said one source in the City.
As regular readers will be well aware, CVC bought F1 in 2006 from the Ecclestone family trust and three banks – JP Morgan, Lehman Brothers and German lender BayernLB. The acquisition was financed with two loans - one of £633m ($1.1bn) from the Royal Bank of Scotland (RBS) and another of around £555m ($965.6m) from CVC's investment Fund IV. With F1's offshore parent company saddled with external debt from the start it was not a major leap to put in place a system of internal loans to minimise its tax bill. CVC didn't devise this idea – it was already a well-established concept which brings us to one of the more wild blunders made in the recent coverage.
Some of the reports suggested that the revelation about F1's low tax bill could see the company hauled in front of a parliamentary select committee as happened late last year with Amazon, Google and Starbucks. Anyone who thinks that the same could be in store for F1 clearly hasn't read the original article carefully enough and hasn't looked into the background behind it.
The first giveaway to anyone doing research into this subject is that this isn't the first time that F1's low tax rate has come to light. In addition to being Pitpass' business editor, Sylt is also the F1 business correspondent for the Daily/Sunday Telegraph newspapers and has been covering this subject for them since 2005. In May last year he wrote an article for the Sunday Telegraph revealing that F1 pays between 3% and 5% in corporation tax rather than 24% which is the standard rate in the UK.
This was based on conversations with City institutions and analysis of briefing documents produced by the banks involved with the planned flotation of F1 on the Singapore stock exchange. In contrast, the recent news was based on the precise figures contained in the flotation prospectus but the overall message was the same. The news last year was not just reported by the Sunday Telegraph but was also followed-up here at Pitpass and in other media outlets.
F1 was not hauled before MPs after the publication of the article in 2012 so why should it be any different this year? There is a very good reason why it won't be any different and why F1 couldn't be brought before a select committee to discuss its tax arrangements. In a nutshell, they are not only completely legal and legitimate but have also been approved by the UK's tax authority H.M Revenue & Customs (HMRC). How could MPs question F1 on its tax arrangements when another branch of the government has given the green light to them? There would be absolutely no point and this is why it isn't going to happen.
Sylt's article made this abundantly clear as it quoted from the flotation prospectus which states that "in order to obtain greater certainty regarding our affairs we have since 2008 operated pursuant to a formal advance thin capitalisation agreement with the UK's tax authority, HM Revenue & Customs, which...applies until 31 December 2017." The City source adds that "it's all cleared and has been re-confirmed recently."
In fact, the article says more about the UK tax system than F1's tax system because HMRC doesn't just let it happen but has actually endorsed it. There aren't many people who would pay more tax than they need to so why should F1 be any different? It's no surprise that the headline of Sylt's article was ‘Winning Formula'.
As it happens, F1 is paying more corporation tax than Silverstone or any of the eight teams based in the UK and it is paying other taxes such as VAT and PAYE on top. It's not about scoring points but making a tangible difference which filters down the sport contrary to popular belief.
So what is the benefit to the sport from F1 making cost savings such as minimising its tax bill? Well, let's start with what isn't the case. In this week's issue of Autocar magazine its F1 editor claims that around half of F1's revenues leave the sport. In fact, in 2011, the most recent year for which financial statements are available, F1 had revenues of £980m ($1.5bn) whilst the teams received £450m ($698.5m) in prize money and the sport had running costs of £239.6m ($372m). This excludes interest payments and only covers fixed costs such as transport and paying its 313 staff. This means that around 30% of F1's revenues leave the sport if you want to put it that way.
The more tax is paid, the less money there is to flow around this system. If HMRC clamps down on the tax deductibility of intra-group loans you can bet your bottom dollar that the accountants will find another legal alternative. It is no different to F1's technical directors looking for loopholes in the regulations. They will always find a way.
So where does this leave us? The tax revelation may have looked eye-opening on the surface but, on closer inspection, we find that F1 is in fact following the letter of the law and is being endorsed by HMRC. It goes to show that first appearances can be misleading.
It's hardly an isolated example. Just last week Ecclestone was indicted in Germany in a long-running saga which led to many predicting his demise when in fact it hasn't yet been confirmed that the case will even go to court.
Anyone jumping to conclusions could do a lot worse than bearing in mind the episode about F1's tax arrangements. In a sport where intrigue and speculation is commonplace it isn't often that you delve into something and find that everything is being done by the book and endorsed by the highest authorities but this is certainly an example of that.