HM Revenue & Customs (HMRC) wants to interest investors earn on peer-to-peer lending but admits trying to work out how to do so is a problem.
HMRC wants to change the law to allow tax deductions at source on interest earned by investors lending their cash.
However, the current law taxing annual interest earned at source does not fit the P2P lending model.
With new ISAs on the way that offer a tax wrapper for P2P lending, HMRC wants to sort the issue out but explains the current tax system cannot cope with the complexities of the system.
P2P lending has emerged as an alternative financial resource for consumers and business in recent years.
Tax man asks for P2P tax help
The model involves an investor staking cash to an online platform which is then divided into smaller amounts and lent out to numerous borrowers.
The borrowers often pay varying rates of interest depending on their risk factor and amount borrowed.
So, a lender staking £10,000 to a P2P platform could see the money divided into dozens of smaller amounts each earning interest at different rates.
The tax treatment of the interest can depend on the tax status and residence of the investor and borrower, and the likelihood is neither knows the identities of the others.
To try and resolve the issue, HMRC has launched a consultation asking tax professionals, investors and P2P platforms for their suggestions about how to tax the interest earned.
HMRC maintains taxpayers must declare the interest they earn, even if the money comes from a foreign P2P platform or borrower.
Concerns over costs of tracking P2P interest
The taxman is also concerned that the cost of adapting P2P platforms to track the small amounts of tax arising from lending would be ‘disproportionate’.
For the moment, HMRC is allowing P2P platforms to pay interest without tax deducted.
The tax man wants to change the law so deducting interest at source depends on the status of the lender and if they are UK resident or not.
Other issues under consideration are whether tax deducted at source should be related to the term of the loan.