The UK has long been lauded as one of the more lucrative places for corporates to do business because of the interest relief it offers to listed companies.

This is despite long and intense criticism from unions and politicians who believe businesses are abusing the rules by loading themselves with debt in order to avoid tax.

However, signs are emerging that times are changing, and not necessarily for the better. This is partly to do with pressure at home, but more to do with pressure from abroad. UK business began to feel prickly about whether its comfort zone could be sustained after a series of decisions by the European Court of Justice that suggest the UK has too lax a tax environment, harbours abuses outlawed elsewhere, and is not sufficiently harmonized with the rest of Europe.

Joy Svasti-Falee, Grant Thornton’s head of international tax, says HM Revenue & Customs announced it would conduct a review of interest relief because it was concerned that Europe might rule that the UK’s current tax system simply didn’t comply with European law and would have to change.

‘The hope of business is that the review will lead to amore simple and competitive tax system which encourages holding companies to settle in the UK,’ Svasti-Falee says.

The review comes at a time when the UK, she says, appears to ‘have put up its shutters’. She adds: ‘Ours is an onerous regime – not least because of complex, controlled foreign company [CFC] legislation; a hefty clampdown on avoidance; and a mainstream corporate tax rate, which, at 30%,compares unfavourably with our neighbours. On the tax front, the UK hasn’t got much going for it and seriously risks losing out on inward investment and employment opportunities.’

More recently, many UK plcs have articulated thoughts about quitting the country for more tax-friendly climes.

Couple that with the increasing number of multinationals avoiding the UK for similarly alternative locations, and you have the makings of a slippery downward slope towards a regulation-heavy and burdensome no-go tax zone.

The government has so far been quiet on exactly what its review of interest relief will actually consist of. Many are awaiting the consultative paper on the review, promised at the time of the Pre-Budget Report, and set to consult further on a number of proposed options for reform.

‘The consultation is now becoming urgent,’ says Svasti-Falee. ‘We had some short-term changes to CFC rules announced in December. It’s very much a stop-gap situation. We need to get a system sorted out.

‘It is very disappointing that we haven’t yet started the substantive consultation. It needs to get going.’ In the meantime, economic secretary Ed Balls recently commented on private equity deals, saying: ‘There is nothing specific to private equity in the tax-deductibility of interest.

Any kind of company can claim it and most quoted companies do. It is also the international norm – that interest is in general treated as a business expense and deductible from taxable profits for companies in any form of ownership. We have no plans to review this principle.’

Unfortunately, little comfort can be taken from this. What Balls did clarify is that government is interested in the treatment of debt and equity, and, in particular, in whether equity is being dressed up as debt for tax purposes to cut company tax bills.

Svasti-Falee says that the fear with the review is that it could see the introduction of restrictions, that would harm the international competitiveness of the UK tax system.

‘The Revenue has said it will review taxation internationally and so also look into anti-avoidance rules of CFCs and dividends,’ she says. ‘Overall, the changes would have to be revenue-neutral, but it might mean that tax relief will have to be restricted elsewhere.’

Gordon Brown’s budget hinted at the possibility of an exemption for dividends and moving to an income-based system for foreign-controlled companies.

‘The worst case scenario will see the UK losing out on future inward investment because we are slipping down the league tables for competitiveness,’ says Svasti-Falee.

‘The best outcome will be for us to get a genuinely simpler and less burdensome tax system which will help make the UK more competitive and attractive for investment.’

The review of interest relief offers some chance of dialogue and perhaps an opportunity for government to provide some much needed reassurance to the corporates. But dialogue is critical as huge amounts of business – and tax revenue – is at stake.