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Further Gov’t Tax Crackdown Threatens U.K Industry

Rule changes could be announced Dec. 2

The Hollywood studios and U.K. film producers are bracing themselves for another crackdown on tax financing for British movies, which would substantially increase the cost of shooting in the U.K.

Experts warned that the possible rule changes, which some fear will be announced by Chancellor of the Exchequer Gordon Brown in his pre-budget statement Dec. 2, could drive the U.S. majors out of British film-making and decimate local indie production.

In recent times, big-budget pics such as the “Harry Potter” series, “Alexander,” “Troy” and “Phantom of the Opera” have all accessed British tax relief worth tens of millions of dollars apiece. The total value of the tax incentives to producers last year alone has been estimated at over $1 billion.

The U.K. government seems intent to slash the value of such deals in future, at a time when the weak dollar has already created obstacles to British-based production for Hollywood and other U.S.-based producers.

Senior officials from the Inland Revenue, the tax-gathering arm of the U.K. government, issued a stern warning Nov. 25 to a meeting of film tax specialists that they are “exasperated” over what they see as continued abuse of the Section 48 and Section 42 tax break.

In particular, the Revenue signalled its dismay at the widespread practice of “double dipping,” where tax relief is claimed twice on the same film – once via a production fund, and later via a sale-and-leaseback deal. Tax financiers say that the Inland Revenue previously gave its explicit approval to this method, which can be worth up to 40% of a film’s budget, and has been standard for all U.K. movies, large and small, over the past couple of years.

“‘Phantom of the Opera’ simply wouldn’t have happened without double dipping,” commented Martin Taylor of Scion Films, which provided the tax financing for Andrew Lloyd Webber’s Warner movie.

But the taxmen told the Nov. 25 meeting that they dislike double dipping, although they confirmed the practice is not illegal – yet. “There’s real mischief afoot and we are determined to put an end to it,” David Hartnett, Inland Revenue deputy chairman, reportedly told the meeting.

A Revenue source subsequently briefed the Financial Times that double dipping was “against the spirit” of the tax relief, and warned it would “take all steps to counter such abuse including, where necessary, advising ministers on introducing legislation to put matters beyond doubt.” Several witnesses testified that none of these sentiments were directly expressed by tax officials at the meeting itself, where the tone was far less aggressive than in the FT story. Instead, the officials seemed to concentrate only on a particular form of double-dipping, which takes place in only a small minority of movies, where the production fund and the S&L deal are “packaged” together by a single company. That left those attending the meeting, and the rest of the industry hearing the reports secondhand, in a state of confusion about exactly what the Inland Revenue regards as “abuse,” and what action is likely to prevent it.

Speculation is that Chancellor Brown will use his Dec. 2 speech to unveil new restrictions on Section 48 and Section 42 relief. Section 48, which is due to expire in any case next July, applies to films budgeted under $28 million. Section 42, which has no expiry date and provides a lower level of relief, is used for bigger pics, typically by the Hollywood studios.

Brown is grappling with a reported $19 billion black hole in his Treasury budget because of a shortfall in tax revenues, and is looking at every possible opportunity to claw back some cash. One industryite opined that “the Treasury has always had a bit of an attitude about the film business,” suggesting that officials have long remained skeptical about the benefits of film tax breaks. Experts estimate that the film tax break alone cost the government $1.5 billion last year, so Brown has a strong incentive to reduce that figure.

Many film lobbyists are resisting the impulse to shift into panic, noting there’s still no absolute certainty of a widespread clampdown. The U.K. Film Council has been deep in consultations with the government over the past fortnight, in the hope of mitigating any damage to the production industry. At the very least, it is arguing for sensible transitional arrangements to ensure that films currently in production can be completed under their existing financial structure.

Meanwhile, indie producers are desperately rushing to complete double-dip financing deals for their upcoming projects by Dec. 2, in the belief that such arrangements will be outlawed thereafter.

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