Exclusive: The other energy scandal - power giants use loophole to cut their own tax bills

While Britons face soaring energy costs, firms such as Scotia Gas avoid millions in levies. It's perfectly legal and, say critics, 'absolutely shocking'

As Britons buckle under the pressure of soaring energy bills, The Independent on Sunday can reveal the energy companies that are saving millions by exploiting a legal tax loophole.

Scotia Gas, 50 per cent of which is owned by SSE, the energy giant which is about to put its prices up by more than 8 per cent, has avoided an estimated £72.5m in tax. UK Power Networks and Electricity North West, responsible for running large sections of Britain's electricity network, have both saved more than £30m.

More than 30 UK companies have cut taxable profits by racking up interest on debt from their owners. In doing so, this minimises – in some cases wipes out – their UK corporation tax bill. As most of the owners are based abroad, 20 per cent of the interest payments would usually have to be sent straight to HMRC, minimising the overall saving. But as the money is lent via offshore stock exchanges that qualify for a regulatory loophole called the "quoted Eurobond exemption", no tax is withheld.

The revealing extent of the avoidance prompted Labour leader Ed Miliband to say yesterday: "Since David Cameron has been Prime Minister, energy bills have gone up by an average of £300 because he has refused to stand up to big energy companies. On top of failing to address the broken energy market, David Cameron is failing to stamp out tax avoidance. We have a prime minister unwilling to take the side of hard-working people. Unwilling to act against the energy companies, unwilling to clamp down on tax avoidance and close down tax loopholes."

The revelations are part of a joint investigation with Corporate Watch, a not-for-profit research group.

Scotia Gas is the second-largest gas distribution firm in the UK, serving 5.8 million people in Scotland and in the South and South-east of England. While half of it is owned by SSE, the rest is owned by the Ontario Municipal Employees Retirement System and the Ontario Teachers' Pension Plan. After they bought the networks from National Grid Plc in 2005, the new owners lent the majority of their money – about £530m at a 12.5 per cent interest rate – through the Channel Islands Stock Exchange rather than investing it in shares in the company. Scotia has since paid interest of £537.3m on these loans. The £268.7m of this that went to the Ontario pension funds cost the UK an estimated £72.5m in tax revenues. SSE Plc pays full UK corporation tax on the interest it receives as it is based in the UK but will have signed off the scheme.

Clare Welton of the Fuel Poverty Action group said: "It is absolutely shocking that energy firms, including Scotia Gas, owned 50 per cent by SSE, have been using tax loopholes while hiking prices and increasing their profits. Although SSE is happy to put up its prices, further pushing homes into fuel poverty, they are not prepared to stop a tax-avoidance scheme by one of their own companies that's costing the UK more than £70m. This money could have funded vital services for ordinary people at a time when we are being told there is no money for them."

More than 30,000 people contacted the Citizens Advice Bureau in the 13 days after SSE started the latest round of price hikes. It announced its increase on 10 October and was quickly followed by British Gas, npower and Co-operative Energy. The massive rise in those contacting the charity represents a 55 per cent increase on the number of consumers normally seeking advice about the best power deals.

The Ontario Teachers' Pension Plan also owns National Lottery operator Camelot and Bristol Airport, both revealed to be using the tax-avoidance scheme last week. It is among several foreign pension funds investing through this legal loophole.

Dot Gibson, National Pensioners Convention general secretary, said: "Pensioners will be particularly concerned that companies like SSE are raising energy bills for customers, while at the same time one of their companies finds ways to avoid paying tax. The whole world of pension funds and private equity is rather secretive, and many pensioners have no idea what goes on. This is one loophole the Chancellor needs to close when he gives his Autumn Statement."

Two of Britain's 14 privately run electricity networks – Electricity North West and UK Power Networks – also use the loophole. A portion of every Briton's electricity bill payment is given to their local power network to pay for the running and maintaining of cables in their area.

UK Power Networks, which owns and maintains power cables and lines for eight million people in London, the South-east and East of England, has avoided an estimated £38m since 2010 from paying £164.4m via the Cayman Islands to firms controlled by Li Ka-shing, a Hong Kong tycoon and Asia's richest man. His Cheung Kong group also owns Northumbrian Water, among several water firms that use the quoted Eurobond exemption.

Electricity North West owns and operates the region's electricity distribution network, connecting 2.4 million properties to the National Grid. It has avoided an estimated £30m in tax after sending £107.2m to its owners, JP Morgan Infrastructure Investments Fund and Colonial First State, since they bought it in 2007.

A Treasury spokeswoman said: "This government has a strong track record of tackling aggressive tax avoidance. We have invested nearly £1bn in [HMRC] to relentlessly pursue those who avoid their responsibilities, and have significantly increased their yield targets. HMRC has collected over £23bn in extra tax since 2010, through challenging large businesses' tax arrangements.

"We are working with the OECD to address base erosion and profit shifting, and this work will include consideration of rules on the treatment of cross-border transactions."

The Eurobond exemption was introduced in 1984 to encourage third-party investment into UK companies. But analysis of listings on the Channel Islands Stock Exchange and UK company accounts shows firms across the economy are using it to minimise tax bills by borrowing from their owners. More than £2bn a year has left the UK as interest payments to owners, avoiding an estimated £500m compared with if loan amounts had been invested in companies' shares. Given that other stock exchanges such as the Cayman Islands and Luxembourg qualify for the exemption, the total tax avoided is likely to be even higher.

HMRC knows the exemption is being misused and considered restricting it last year, but backed down after lobbying from the financial industry. A tax office spokesman said: "The amount of interest shown as deducted in a company's accounts will not necessarily be the same as the amount allowed for tax purposes, and nor will it necessarily be evident whether or not we are challenging any particular company's returns."

A spokeswoman for Electricity North West said the company did not want to comment on the story.

An SSE spokeswoman would not comment on why it had allowed Scotia's use of legal tax avoidance.

A UK Power Networks spokeswoman said: "I can confirm UK Power Networks fully complies with all applicable regulatory, tax and legal requirements relevant to a group operating in the UK."

A spokeswoman for Scotia would not comment on its use of Eurobonds for tax-avoidance purposes.

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