Corporation Tax Act 2009

2009 CHAPTER 4

Introduction

1.These explanatory notes relate to the Corporation Tax Act 2009 which received Royal Assent on 26 March 2009. They have been prepared by the Tax Law Rewrite project at HMRC in order to assist readers in understanding the Act. They do not form part of the Act and have not been endorsed by Parliament.

2.The notes need to be read in conjunction with the Act. They are not, and are not meant to be, a comprehensive description of the Act. So if a section or part of a section does not seem to require any explanation or comment, none is given.

3.The commentary on each section indicates the main origin or origins of the section. A full statement of the origins of each section is contained in the Act’s Table of Origins.

4.At the end of the commentary there is supporting material in two annexes.

Annex 1 contains details of the minor changes in the law made by the Act.
Annex 2 contains lists of:
- the Extra-Statutory Concessions to which the Act gives effect;
- the minor changes made by the Act which involve giving statutory effect to principles derived from case law; and
- provisions not included in the Act on the grounds of redundancy.

Summary

5.The main purpose of the Corporation Tax Act 2009 is to rewrite the charge to corporation tax and the primary corporation tax legislation used by companies in computing their income.

6.The Act does not generally change the meaning of the law when rewriting it. The minor changes which it does make are within the remit of the Tax Law Rewrite project and the Parliamentary process for the Act. In the main, such minor changes are intended to clarify existing provisions, make them consistent or bring the law into line with well established practice.

Background

The Tax Law Rewrite project

7.In December 1995 the Inland Revenue presented a report to Parliament on the scope for simplifying the United Kingdom tax system (The Path to Tax Simplification). The main recommendation was that United Kingdom direct tax legislation should be rewritten in clearer, simpler language.

8.This recommendation was warmly welcomed, both in Parliament and in the tax community. In his November 1996 Budget speech the then Chancellor of the Exchequer (the Rt Hon Kenneth Clarke QC MP) announced that the Inland Revenue would propose detailed arrangements for a major project to rewrite direct tax legislation in plainer language.

9.The project team has been carrying out this work. The aim is that the rewritten legislation should use simpler language and structure than previous tax legislation. The members of the project are drawn from different backgrounds. They include longstanding HMRC employees, former private sector tax professionals and parliamentary counsel including (as head of the drafting team) a senior member of the Parliamentary Counsel Office.

Steering Committee

10.The work of the project is overseen by a Steering Committee, chaired by the Rt Hon the Lord Newton of Braintree OBE DL. The membership of the Steering Committee as at 31 October 2008 was:

The Rt Hon the Lord Newton of Braintree OBE DL (Chairman)
Dr John Avery Jones CBE
Adam Broke
Baron Christopher of Leckhampton CBE
Nicholas Dee
Dave Hartnett CB
The Rt Hon Michael Jack MP
Eric Joyce MP
District Judge Rachel Karp
Professor John Tiley CBE
John Whiting CBE

Consultative Committee

11.The work is also reviewed by a Consultative Committee, representing the accountancy and legal professions and the interests of taxpayers. The membership of the Consultative Committee as at 31 October 2008 was:

Robina Dyall	Chairman
Brian Atkinson	100 Group
Adam Broke	Special Committee of Tax Law Consultative Bodies
Colin Campbell	Confederation of British Industry
Russell Chaplin	London Chamber of Commerce & Industry
Mary Fraser	Association of Chartered Certified Accountants
Malcolm Gammie CBE QC	The Law Society of England and Wales
Julian Ghosh QC	Revenue Bar Association
Keith Gordon	Chartered Institute of Taxation
Terry Hopes	Institute of Chartered Accountants in England and Wales
Bob McInerney	Federation of Small Businesses
Isobel d'Inverno	Law Society of Scotland
Amy Jones	Institute of Chartered Accountants of Scotland
Simon McKie	Institute of Chartered Accountants in England and Wales
Lakshmi Narain	Chartered Institute of Taxation
Francis Sandison	The Law Society of England and Wales
Michael Templeman	Institute of Directors
Professor David Williams	Office of the Social Security Commissioners
Mervyn Woods	Confederation of British Industry

Consultation

12.The work produced by the project has been subject to public consultation. This has allowed all interested parties an opportunity to comment on draft clauses.

13.This consultation took the form of a series of papers which published clauses in draft. There were 20 of these, published between July 2006 and November 2008 and a draft Bill was published for consultation in February 2008. All these documents are available on the Tax Law Rewrite website.

14.The project also held detailed informal discussions and workshops with leading private sector tax professionals and HMRC specialists to consider the drafting of the more complex areas of rewritten tax legislation, for example, loan relationships and derivative contracts.

15.Those who responded to one or more of the papers, or to the draft Bill, include:

Alma Consulting Group
Chartered Institute of Taxation
Confederation of British Industry
Deloitte & Touche LLP
Ernst & Young LLP
Institute of Chartered Accountants in England and Wales
International Swaps and Derivatives Association, Inc.
KPMG LLP
Law Society
London Investment Banking Association
London Society of Chartered Accountants
PricewaterhouseCoopers LLP

Note: this list excludes those who asked that their responses be treated in confidence.

This Act

The end of the Schedules

16.This Act repeals the Schedules so far as they remain for corporation tax and therefore marks the end of the use of the word “Schedule” to define types of income. Instead, the Act uses terms that describe the nature of the income, such as “trading income”.

Features of the Act

17.The Act:

contains the basic corporation tax provisions including the charge to tax, accounting periods and provisions relating to residence;
contains provisions relating to trading and property income and income from other sources;
contains special provisions for companies affecting the calculation of income, such as those for loan relationships, derivative contracts and intangible fixed assets;
contains provisions governing particular types of expenditure, for example, expenditure on research and development and films; and
will take the place of many provisions within ICTA, FA 1996, FA 2001 and FA 2002 as the main Act for the areas of corporation tax covered by this Act.

18.The Act has 1330 sections and four Schedules.

19.The sections are arranged as follows:

Part 1: Introduction
Part 2: Charge to corporation tax: basic provisions
Part 3: Trading income
Part 4: Property income
Part 5: Loan relationships
Part 6: Relationships treated as loan relationships etc
Part 7: Derivative contracts
Part 8: Intangible fixed assets
Part 9: Intellectual property: know-how and patents
Part 10: Miscellaneous income
Part 11: Relief for particular employee share acquisition schemes
Part 12: Other relief for employee share acquisitions
Part 13: Additional relief for expenditure on research and development
Part 14: Remediation of contaminated land
Part 15: Film production
Part 16: Companies with investment business
Part 17: Partnerships
Part 18: Unremittable income
Part 19: General exemptions
Part 20: General calculation rules
Part 21: Other general provisions

20.The Schedules are:

Schedule 1: Minor and consequential amendments
Schedule 2: Transitionals and savings
Schedule 3: Repeals and revocations
Schedule 4: Index of defined expressions

21.Tables of Origins and Destinations have also been prepared. The Table of Destinations shows the destination not only of repealed provisions but of all provisions rewritten in the Act.

Glossary

22.The commentary uses a number of abbreviations. They are listed below.

CAA	the Capital Allowances Act 2001
CAA 1990	the Capital Allowances Act 1990
CRCA	the Commissioners for Revenue and Customs Act 2005
ESC	Extra-statutory concession
HMRC	Her Majesty's Revenue and Customs
FA 1989	Finance Act 1989 (and similarly for other Finance Acts)
F(No 2)A	Finance (No 2) Act
FISMA	the Financial Services and Markets Act 2000
ICTA	the Income and Corporation Taxes Act 1988
IHTA	the Inheritance Tax Act 1984
ITA	the Income Tax Act 2007
ITEPA	the Income Tax (Earnings and Pensions) Act 2003
ITTOIA	the Income Tax (Trading and Other Income) Act 2005
NIC	national insurance contributions
PAYE	Pay As You Earn
R&D	research and development
TCGA	the Taxation of Chargeable Gains Act 1992
TMA	the Taxes Management Act 1970
VAT	value added tax

Commentary on Sections

Part 1: Introduction

Section 1: Overview of Act

23.This section describes the content of the Act. It is new.

24.Subsections (1) and (2) make it clear that that a large part of the Act is directly concerned with the application of the charge to corporation tax on income.

25.Subsection (3) notes that Part 7 also includes provision for the charge to corporation tax on chargeable gains in relation to derivative contracts.

26.Subsection (4) notes that Parts 5 to 8 have a role in relation to the treatment of deficits and losses in connection with the matters to which the Parts relate.

27.Subsections (5) and (6) describe the particular cases covered by Parts 11 to 18 and subsection (7) the provisions of general application in Parts 19 to 21.

28.Subsection (8) notes where abbreviations and defined expressions used in the Act can be found.

Part 2: Charge to corporation tax: basic provisions

Chapter 1: The charge to corporation tax

Overview

29.The process of separating income tax and corporation tax began with ITTOIA and continued with ITA, which substantially completed the rewrite of income tax legislation for income tax purposes. Following that there were two parallel sets of income tax principles. Those in rewrite style apply only for income tax purposes and, for example, no longer include Schedules such as Schedule D and its Cases.

30.Prior to this Act corporation tax has been dependent on the continuing existence of the income tax rules in unrewritten style so that, for example, those Schedules and Cases continue to be applied for the purposes of corporation tax.

31.This Act continues and finalises the separation process so that the relevant principles apply separately for corporation tax. The adoption of this approach means that section 9 of ICTA (computation of income: application of income tax principles) is repealed by this Act (apart from section 9(5) which theoretically could have a continuing effect). Some of the provisions of section 9 of ICTA are rewritten in section 969 and there is a transitional provision in Schedule 2.

32.This Chapter deals with the charge to corporation tax on profits. The approach retains the principle of a single charge, currently under section 6 of ICTA. The charge under section 2 is on amounts of income and on chargeable gains that together form the “profits pot”.

33.This contrasts with the multiple charges to income tax in the Income Tax Acts, primarily ITTOIA, and reflects the different history of the two taxes.

34.The way the charge on profits operates is explained in the commentary on section 2. This section rewrites both section 6(1) and (4) of ICTA and section 9(1) and (4) of that Act. In the light of the separation of corporation tax from income tax it is necessary to find a different way of expressing the relationship between the general charge to corporation tax on income and the provisions that deal with its application.

35.There are also other charges to corporation tax. These are charges to an amount of corporation tax and they do not feature in the “profits pot”. There is an example of this kind of charge in this Act – in section 75{j032704}(2) (retraining courses: recovery of tax).

36.These are provisions of an administrative nature mainly recovering excessive relief. In some of the charges of this kind there are references to the assessment being made under Schedule D Case VI. The Case VI label will disappear along with Schedule D and the other Cases with the repeal of section 18 of ICTA. The references are removed by consequential amendments in Schedule 1. An example is the amendment to paragraph 27(4) of Schedule 16 to FA 2002.

Section 2: Charge to corporation tax

37.This section provides the charge to corporation tax on profits. It is based on section 6(1) and (4) and section 9(1) and (4) of ICTA.

38.Subsection (1) states that corporation tax on profits is charged for a financial year for which an Act provides. It is based on the two overlapping propositions in section 6(1) of ICTA.

39.Under subsection (2) “profits” in Part 2 means “income and chargeable gains, except in so far as the context otherwise requires”. This interpretation derives from section 6(4) of ICTA. This Act amends section 6(4) of ICTA in Schedule 1.

40.Chargeable gains are defined in section 1(1) of TCGA. In subsection (3) “ the charge to corporation tax on income” is introduced as a label. The expression is defined for corporation tax purposes as a result of an amendment to section 834(1) of ICTA made by Schedule 1 to this Act.

41.Subsection (4) provides that the charge to corporation tax on income in effect depends on there being another provision of the Corporation Tax Acts that applies it.

42.This subsection is based on section 9(1) and (4) of ICTA. Section 9(1) in effect controls the meaning of “income” in section 6 of ICTA. As noted in the overview, this Act will complete the split between income tax and corporation tax and the formulation in section 9(1) of ICTA is no longer apposite since its wording is adapted to the circumstances of applying one body of tax law (income tax principles) for the purposes of another tax (corporation tax).

43.The effect of section 9 of ICTA is that the scope of the charge to income tax determines what is income for corporation tax purposes (except as otherwise provided by the Tax Acts). Income tax, although primarily a charge to tax on things which would be regarded as income in its ordinary sense, is not exclusively a charge on such things. Section 9(4) provides that anything that is within the charge to income tax is within the charge to corporation tax on income “whether expressed to be income or not and whether an actual amount or not”.

44.So the effect of section 9 of ICTA is that (subject to the provisions of the Corporation Tax Acts) the charge to corporation tax on income is driven by the particular heads of the charge to income tax.

45.The purpose of this section is to achieve an equivalent effect, so that the charge to corporation tax on income is driven by the particular heads of the charge to corporation tax on income. In this way the section substitutes the provisions of the Corporation Tax Acts for the income tax provisions. For example section 35 applies the charge to corporation tax on income to the profits of a trade.

Section 3: Exclusion of charge to income tax

46.This section ensures that income of a company within the charge to corporation tax is not chargeable to income tax as well as corporation tax. It is based on section 6(2) of ICTA.

Section 4: Exclusion of charge to capital gains tax

47.This section ensures that chargeable gains of a company within the charge to corporation tax are not chargeable to capital gains tax as well as corporation tax. It is based on section 6(3) of ICTA.

Section 5: Territorial scope of charge

48.This section sets out the territorial scope for the charge to corporation tax. It is based on section 8(1) and section 11(1) and (2) of ICTA.

49.Subsection (1) deals with the position of companies resident in the United Kingdom. It restates section 8(1) of ICTA which, although expressed in general terms, only has effect in relation to UK resident companies (because of the exception under section 11 for non-UK resident companies).

50.Chapter 3 of this Part sets out the statutory rules for company residence. Chapter 4 explains what are chargeable profits in the case of non-UK resident companies.

Section 6: Profits accruing in fiduciary or representative capacity

51.This section deals with profits accruing directly to the company where it is acting in a fiduciary or representative capacity, for example as a nominee. It is based on section 8(2) of ICTA.

52.In this case the charge under section 2 only applies where the company has a beneficial interest in the profits.

53.When a company goes into liquidation it ceases to be the beneficial owner of its assets. The exception in subsection (2) means that in this case the company’s profits remain within the charge to corporation tax.

Section 7: Profits accruing under trusts

54.This section sets out the treatment of profits that do not accrue to the company directly but in which the company has a beneficial interest under a trust. It is based on section 8(2) of ICTA.

55.The words “in any case in which it would be so chargeable if the profits accrued to it directly” are not reproduced because the treatment for which the section provides makes them unnecessary. Profits which are treated as accruing to a company directly are chargeable to corporation tax in the same circumstances that they would have been had they in fact accrued directly to the company.

56.There is no reference to profits arising under a partnership in contrast to section 8(2) of ICTA. Provisions for the charge to corporation tax on the profits of corporate partners are set out elsewhere in this Act and in particular in Part 17.

Section 8: How tax is charged and assessed

57.This section sets out how corporation tax is charged and assessed. It is based on section 8(3) and section 12(1) of ICTA.

58.The reference to deductions in section 8(3) and section 12(1) of ICTA and the words in brackets in section 12(1) “(whether or not received in or transmitted to the United Kingdom)” have not been rewritten since they do not add anything substantive to these provisions. There are rules elsewhere about what deductions can be made and this section together with section 5 make it clear that the charge is on profits wherever arising.

59.Section 70(1) is not rewritten in this Act but is reflected in subsection (3) of this section which contains the general rule about the basis of assessment.

Chapter 2: Accounting periods

Overview

60.This Chapter gives the definition of accounting period. It is based on section 12 of ICTA.

61.The accounting period is a basic building block of corporation tax because corporation tax is charged by reference to accounting periods. For nearly all established UK resident companies the accounting period coincides with the 12 month period for which it makes up its accounts. Most of the Chapter is taken up with rules explaining what happens outside the usual case.

62.The Chapter does not rewrite section 12(8) of ICTA. Section 12(8) is an administrative provision that deals with the validity of assessments. The Chapter is concerned with when accounting periods begin and end, and not with the circumstances in which an officer of Revenue and Customs may make an assessment or determination.

Section 9: Beginning of accounting period

63.This section identifies when an accounting period begins. It is based on section 12 and section 342A of ICTA.

64.Subsection (1)(a) deals with the case in which a company comes within the charge to corporation tax. Subsection (1)(a) states an important general rule. This Act does not reproduce the two examples given in section 12(2)(a) of ICTA of circumstances in which this general rule would apply (becoming UK resident, acquiring a source of income). The examples add nothing useful and might obscure the general rule.

65.Subsection (1)(b) deals with the usual case of a company that is already within the charge to corporation tax so that a new accounting period begins when the previous accounting period ends.

66.Subsection (4) disapplies this section in the case of a company being wound up. Section 12, which makes special provision about companies being wound up, applies instead.

67.Subsection (6) is a general signpost that, in certain circumstances, the rules in this section are modified by rules in other provisions of the Corporation Tax Acts that deal with particular cases. The implications for accounting periods will be clear when considering the cases in question (for example, paragraph 3 of Schedule 10 to FA 2006 (sale of lessor companies) and paragraph 52 of Schedule 22 to FA 2000 (tonnage tax)).

Section 10: End of accounting period

68.This section identifies the end of an accounting period. It is based on section 12 of ICTA.

69.The starting point for the section to apply is that the company has an existing accounting period. The occurrence of any one of the listed events brings that accounting period to an end. In many cases section 9(1)(b) then applies to start a new accounting period.

70.The opening words of subsection (1) provide that an accounting period ends “on the first occurrence of any of” the events listed in paragraphs (a) to (j). These words fall to be read in relation to each accounting period which is commenced. The effect of these words is not that the first event on that list to occur settles how all subsequent accounting periods of that company are to end. Rather, the effect is that each accounting period may be ended by the occurrence of a different event, depending on what happens in that particular accounting period.

71.The rules applying to companies in administration have been integrated into the general rules. The case is different from where a company is being wound up. In that case (see section 12) there is a self-contained set of rules about when a company’s accounting periods end. In the case of a company in administration, the general rules about when an accounting period of a company end continue to apply, but there are two additional circumstances in which an accounting period ends. These are the circumstances mentioned in subsection (1)(i) and (j).

72.The legislation rewritten by subsections (1)(i) and (j), (2), (3) and (4) only applies to companies that enter administration on or after 15 September 2003. This limitation is preserved in Schedule 2 (transitionals and savings).

Section 11: Companies with more than one accounting date

73.This section allows a company carrying on more than one trade to nominate the accounting date which marks the end of the accounting period. It is based on section 12 of ICTA.

74.The section is most likely to apply to a non-UK resident company carrying on more than one trade in the United Kingdom through a permanent establishment. If a UK resident company carries on more than one trade it prepares a single set of accounts to cover all the company’s activities. A non-UK resident company may not be subject to these regulatory requirements. Without this section an accounting period would end at each separate accounting date.

75.The company is allowed to choose which accounting date is used for the purposes of the test in section 10(1)(b). The company’s choice is subject to review by HMRC. In the source legislation this power is exercised by the Commissioners for HMRC. In practice it is exercised by an officer. Subsection (3) reflects that. See Change 1 in Annex 1.

76.The source legislation does not provide for the situation where a company has one or more businesses in addition to its trades, or several businesses but no trade. The effect is that the company’s choice and the officer of Revenue and Customs’ discretion is limited to selection of an accounting date relating to one of the company’s trades. In other words, neither the company nor the officer can choose as the accounting period end date an accounting date of one of the company’s businesses which is not a trade.

Section 12: Companies being wound up

77.This section identifies the beginning and end of an accounting period if a company is being wound up. It is based on section 12 of ICTA.

78.Although the rules applying to companies in administration have been integrated into the general rules (see section 10(1)(i) and (j)), the separate exposition of the rules applying to companies being wound up have been preserved. This is because the scheme of section 12(7) of ICTA is to provide for a self-contained set of rules about when an accounting period ends. It follows that the accounting period of a company being wound up does not end on the occurrence of any of the events listed in section 10(1)(b) to (j). Accordingly, it is not appropriate to add the termination events listed in section 12 to the list of termination events in section 10(1).

79.Subsection (5) is new. It makes provision for when a new accounting period of a company being wound up begins. Section 12(7) of ICTA provides for an accounting period to begin on the commencement of winding up, but does not provide for the commencement of any subsequent accounting period. The rule in section 12(2)(b) of ICTA, now section 9(1)(b) of this Act, continues to apply for that purpose. It is preferable to make separate provision for the commencement of a new accounting period after the end of 12 months, rather than rely on section 9(1)(b) for this purpose.

80.The reason for this is that the rule in clause 9(1)(b) of this Act is that a new accounting period only begins at the end of 12 months if the company is still within the charge to corporation tax. However, section 12(7) of ICTA does not make the company’s remaining within the charge to corporation tax a condition of a new accounting period starting on the company beginning to be wound up. Also, that provision states that “an accounting period shall not end otherwise than by the expiration of 12 months from its beginning”. Given that, section 12(2)(b) of ICTA must necessarily be modified in its application to companies being wound up.

Chapter 3: Company residence

Overview

81.This Chapter gives the statutory rules for company residence outside double taxation conventions.

82.The rules on company residence are both statutory and non-statutory. The oldest of the company residence rules (“central management and control”) is based on common law.

83.The central management and control test is generally considered to be best expressed in De Beers Consolidated Mines v Howe (1905), 5 TC 198 HC. “A company resides, for the purposes of Income Tax, where its real business is carried on … I regard that as the true rule; and the real business is carried on where the central management and control actually abides”. This has been endorsed by subsequent decisions and was described by Lord Radcliffe in Bullock v Unit Construction Company (1959), 38 TC 712 HL as being “as precise and unequivocal as a positive statutory injunction”.

84.Residence may also be determined by the tie-breaker in a double taxation convention. When a company is resident in the territory of both parties a tie-breaker generally awards residence to the country where the effective management of the company is situated.

85.The two main statutory rules are found in section 66 of FA 1988 and section 249 of FA 1994. These two tests are rewritten in this Chapter.

86.Under section 66 of FA 1988 a company incorporated in the United Kingdom is, with some exceptions, regarded as resident here for all tax purposes. This overrides the rule in common law given above, although the common law test continues for companies outside section 66, that is to say companies which are not incorporated in the United Kingdom.

87.Section 249 of FA 1994 treats a company resident in the United Kingdom under the common law test or section 66 of FA 1998 as being non-UK resident if the tie-breaker in the double taxation treaty between the United Kingdom and that other territory would make the company resident outside the United Kingdom.

88.Both these statutory rules apply for the purposes of the Taxes Acts as defined in section 118 of TMA (see section 66(1) and 66A(2) of FA 1988 and section 249(1) of FA 1994). This Act rewrites the rules for the purposes of the Corporation Tax Acts only. Because the Corporation Tax Acts are defined more narrowly (Schedule 1 to the Interpretation Act 1978) than the Taxes Acts, Schedule 1 to this Act inserts new sections into TMA, TCGA and ITA to apply the rules given in this Chapter to those Acts.

Section 13: Overview of Chapter

89.This section sets out which residence rules are dealt with in this Chapter. It is new.

90.Although this Chapter does not legislate the common law test on residence (see above), subsection (3) makes clear that section 15 applies where a company has been resident in the United Kingdom under that test.

Section 14: Companies incorporated in the United Kingdom

91.This section provides that a company incorporated in the United Kingdom is resident here for corporation tax purposes and, under section 5, is within the charge to corporation tax on all its income and chargeable gains. It is based on section 66(1) of FA 1988.

92.Subsection (2) makes it clear that a company which is resident in the United Kingdom under subsection (1) is not resident in any other territory.

93.Although section 66 of FA 1988 and section 249 of FA 1994 refer to a company being “regarded as” resident it is not considered necessary to adopt that or similar wording. A company is simply resident somewhere.

Section 15: Continuation of residence established under common law

94.This section gives rules on residence for companies which are not incorporated in the United Kingdom. Companies which were UK resident immediately before they ceased business or came under the control of a foreign liquidator continue to be treated as UK resident. The section is based on section 66(2) of FA 1988.

95.This section clarifies that the provision applies only to companies which are not incorporated in the United Kingdom. That is less clear in the source legislation. Any United Kingdom incorporated company which ceases business or is being wound up outside the United Kingdom is already UK resident under the rule in the previous section.

96.The purpose of the rule in this section is to provide that a company which is resident in the United Kingdom through central management and control (see above) remains resident here. Such a company could otherwise become non-UK resident if central management and control left the United Kingdom.

97.Section 66(4) of FA 1998 gives effect to Schedule 7 to that Act, the commencement and transitional provisions. Paragraphs of that Schedule which are not spent are rewritten in Schedule 2 (transitionals and savings) to this Act.

Section 16: SEs which transfer registered office to the United Kingdom

98.This section provides that once an SE (“Societas Europaea” – see section 1319) has transferred its registered office to the United Kingdom it becomes and remains resident there, notwithstanding its residence elsewhere under overseas law or the subsequent transfer of its office abroad. The section is based on section 66A of FA 1988.

99.This section applies only to SEs which transfer their registered office to the United Kingdom since SEs that are formed here are resident in the United Kingdom in any event under section 14.

100.Once the registered office is moved to the United Kingdom the SE is effectively treated as if it were incorporated there. It cannot cease to be resident at any time simply by transferring its registered office.

Section 17: SCEs which transfer registered office to the United Kingdom

101.This section provides the same rule for SCEs (European Cooperative Societies – see section 1319) that section 16 provides for SEs. It is based on section 66A of FA 1988.

Section 18: Companies treated as non-UK resident under double taxation arrangements

102.Under this section a company which is resident in the United Kingdom, but treated under a double taxation convention as resident in a territory outside the United Kingdom, is resident outside the United Kingdom for corporation tax purposes. The section is based on section 249 of FA 1994.

103.Section 250 of FA 1994 is spent. It is repealed by this Act.

Chapter 4: Non-UK resident companies: chargeable profits

Overview

104.This Chapter sets out which profits of a non-UK resident company are liable to corporation tax. It is based on sections 11 and 11AA of, and Schedule A1 to, ICTA.

105.The Schedules themselves contain rules on territorial scope. Section 18(1)(a)(i) and (ii) of ICTA brings within the charge to tax under Schedule D annual profits or gains accruing to a UK resident from (a) any kind of property whatever wherever situated and (b) from any trade wherever carried on. Section 18(1)(a)(iii) brings within the same charge to tax annual profits or gains accruing to a non-UK resident from any property in the United Kingdom or from any trade or profession exercised there. Section 18 of ICTA is not itself a charge but a method of computing and marshalling under a Schedule income that is charged to tax under section 6 of ICTA.

106.Section 9 and section 18(4A) of ICTA apply section 18(1) (Schedule D) of ICTA for corporation tax purposes. But section 11 of ICTA sets out another rule on the scope of the corporation tax charge on a non-UK resident company.

107.The scope of Schedule D in section 18 of ICTA is narrower than the charge in section 11 of ICTA. Under section 18 non-UK residents are only liable to tax in respect of annual profits or gains from property in the United Kingdom or from trades exercised there. Under section 11 a non-UK resident company is chargeable to corporation tax on all profits wherever arising that are attributable to its permanent establishment in the United Kingdom and on income from property or rights held by or for the permanent establishment through which it trades. There is no requirement that that property should be in the United Kingdom.

108.The seventh edition (1999) of Taxation of Companies and Company Reconstructions by Bramwell et al (footnote to page 421) says of section 11(2):

These words appear to be rather wider than the income tax “profits or gains arising from any trade exercised within the United Kingdom”. It is possible that the corporation tax charge on trading profits extends beyond the income tax charge, perhaps, for example, in the area of overseas activities connected with a United Kingdom branch.

109.Section 70(3) of ICTA enables a non-UK resident company to be charged to corporation tax under Schedule D Case V.

110.Prior to the removal of Case IV for corporation tax purposes in FA 1996, section 70(3) of ICTA extended Schedule D Cases IV and V to non-UK residents. (The replacement of “Case IV” by “Case III” as a consequential amendment in FA 1996 made little sense since section 18(3A) of ICTA already brought income arising outside the United Kingdom into Schedule D Case III for corporation tax purposes.)

111.The FA 1965 Notes on Clauses for the section on which section 70(3) of ICTA is based read:

(This clause) provides machinery for charging any overseas income attributable to the branch in the United Kingdom of a non-resident company trading here through the branch. Such a branch may have funds which are recognisably attributable to branch operations but deposited abroad and earning interest whilst still held to the branch’s account. The machinery selected is that of Cases IV and V (which applies to overseas income of residents of the United Kingdom).

112.Section 70(3) of ICTA would seem to confirm that non-UK resident companies can be charged on income arising outside the United Kingdom and thus confirm the wider scope and precedence of section 11 of ICTA over section 18(1)(a)(iii) of ICTA (see above).

113.Section 18(1)(a)(iii) of ICTA is therefore redundant for corporation tax purposes because it adds nothing to section 8 of ICTA, which deals with the scope of corporation tax generally, and section 11 of ICTA.

114.Section 70(3) is not rewritten. The section adds nothing to the basic position of a non-UK resident company under sections 5(3) and (4) and 19. Moreover the parenthetical words in section 70(3) (“but without prejudice to any provision of the Tax Acts especially exempting non-residents from tax on any particular description of income”) apply on first principles to income falling within the definition of “chargeable profits”.

115.A reordering of the sections on permanent establishments in this Chapter is intended to clarify the relationship between the various provisions. First comes the charge on the profits attributable to the permanent establishment followed by an introductory section explaining how the sections are set out and how they apply.

116.This is followed by the sections on the separate enterprise principle. Those that apply this principle specifically to banks are at the end of this group of sections. The special rules on deductions then appear at the end of the Chapter.

117.Much of the terminology employed in sections 11 and 11AA of, and Schedule A1 to, ICTA is shared in common with the Model Tax Treaty and Commentary of the Organisation for Economic Cooperation and Development (OECD). Indeed the legislation is intended to reflect to a considerable degree the Model Treaty and Commentary. This terminology is retained so that the relationship between the two is not lost.

Section 19: Chargeable profits

118.This section sets out what profits of the non-UK resident company are charged to tax. It is based on sections 11(1) to (2A) and 11AA(1) of ICTA.

119.Subsection (2) provides that income and chargeable gains form part of the non-UK resident company’s chargeable profits only if they are of a type specified in subsection (3) and are attributable to the company’s permanent establishment. This is a rather different approach to that in section 11(2A) of ICTA but, read with section 11AA(1) of ICTA, it seems that section 11(2A) of ICTA is merely identifying the types of income and gains that are capable of being attributed to the permanent establishment and not giving the amount of those income and gains.

120.Subsection (3)(c) brings into the chargeable profits of a company chargeable gains falling within section 10B of TCGA. The chargeable gains falling within that section are those accruing to a company on the disposal of assets situated in the United Kingdom. Such gains are relevant in this context if the assets in question are connected with the trade carried on by the company through the permanent establishment or are for use by or for the purposes of the establishment.

121.“Permanent establishment” is defined in section 148 of FA 2003 and appears in Schedule 4 (index of defined expressions).

122.Neither the words “subject to any exceptions provided for by the Corporation Tax Acts” nor the second sentence of section 11(2) of ICTA are rewritten as they are considered unnecessary.

Section 20: Profits attributable to permanent establishment: introduction

123.This section describes how the sections that follow are set out and how they apply. It is based on section 11AA(1) of ICTA.

Section 21: The separate enterprise principle

124.This section sets out the basic rule of the separate enterprise principle. It is based on section 11AA(2) and (3) of, and paragraph 1(2) of Schedule A1 to, ICTA.

125.The terms “distinct and separate enterprise” and “credit rating” in this section are unique to section 11AA of ICTA. The former term is taken from Article 7 of the Model Treaty and the latter from the commentary on that article. The meaning of the former is well understood from its use in double taxation conventions while the latter takes its normal commercial meaning, a meaning that is well established through credit ratings given by agencies such as Moody’s or Standard and Poor.

Section 22: Transactions treated as being on arm’s length terms

126.This section provides the rule for dealing with transactions between the permanent establishment and the rest of the non-UK resident company. It is based on paragraph 2 of Schedule A1 to ICTA.

Section 23: Provision of goods or services for permanent establishment

127.This section sets out the rule for goods and services provided by the non-UK resident company to the permanent establishment. It is based on paragraph 6(1) to (3) of Schedule A1 to ICTA.

128.Although this section deals with both a deduction (expense) – see subsection (3) – and the separate enterprise principle, it is grouped with other sections dealing with the separate enterprise principle as that is the main rule here and to separate these elements would be unhelpful.

Section 24: Application to insurance companies

129.This section provides the power for the making of regulations in respect of the application of section 21 to insurance companies. It is based on section 11AA(5) of ICTA.

Section 25: Non-UK resident banks: introduction

130.This section introduces sections 26 to 28 which contain particular provisions applying the separate enterprise principle to banks. It is based on paragraph 7(1) and (2) of Schedule A1 to ICTA.

131.While these provisions are an application of the separate enterprise principle with particular relevance to banks, the principles behind them are applicable to companies other than banks and subsection (2) clarifies this point.

Section 26: Transfer of financial assets

132.This section applies the separate enterprise principle to loans or financial assets transferred between the permanent establishment and any other part of the company. It is based on paragraphs 7(1) and 8(1) and (2) of Schedule A1 to ICTA.

133.Each of the sections applying the separate enterprise principle to banks contains the phrase “in accordance with the separate enterprise principle” to clarify that the provisions given are all within the general principle in section 21 and not expressing new principles.

134.Subsections (3) and (4) retain the term “valid commercial reasons” in paragraph 8(2) of Schedule A1 to ICTA notwithstanding that the usual phrase adopted in rewrite Bills is either “commercial reason” or “genuine commercial reason”. This is because “valid commercial reason” is the term used in the Commentary (paragraph 15.2) to Article 7(2) of the treaty.

135.Subsection (4) also contains the term “tax advantage”. The term is undefined (as in the source legislation) although its use elsewhere in the Taxes Acts refers to the definition in section 709 of ICTA. The absence of a definition in paragraph 8(2) of Schedule A1 is intentional. It was considered that any attempt to define all possible and future forms of tax advantage in this context would have added complexity for no good purpose.

Section 27: Loans: attribution of financial assets and profits arising

136.This section explains how a financial asset (eg a loan) made by the non-UK resident company and the profits arising from it should be attributed (whether to the permanent establishment or another part of the company). It is based on paragraphs 7(1) and 9(1) and (3) to (5) of Schedule A1 to ICTA. An example would be where a permanent establishment in the United Kingdom obtains new business and passes that business back to the overseas part of the company. Resulting loans, derivatives etc can be attributed to the permanent establishment under this section notwithstanding that they have been issued by an overseas office.

Section 28: Borrowing: permanent establishment acting as agent or intermediary

137.This section applies the separate enterprise principle where a permanent establishment of a non-UK resident bank acts as an agent or intermediary in borrowing funds for another part of the company. It is based on paragraphs 7(1) and 10(1) and (2) of Schedule A1 to ICTA.

Section 29: Allowable deductions

138.This section brings together some general rules on deductions allowable in arriving at the profits of a permanent establishment. It is based on section 11AA(4) of, and paragraph 3(1) and (2) of Schedule A1 to, ICTA.

139.“Executive and general administrative expenses” in subsection (2) are not defined. The term is borrowed from Article 7(3) of the OECD Model Treaty. The Commentary on the Model Treaty does not define the term further but “executive expenses” would seem to cover the expenses of higher management of the permanent establishment.

Section 30: Restriction on deductions: costs

140.This section is the first of three sections which restrict deductions in arriving at the attributable profits of a permanent establishment. It provides that no deduction for costs should exceed what would be payable under the separate enterprise principle. It is based on section 11AA(3) of ICTA.

Section 31: Restriction on deductions: payments in respect of intangible assets

141.This section disallows a deduction for inter-company payments for the use of intangibles where the intangible assets are held by the company. The reasoning here is that it is difficult to allocate ownership of intangibles to any one part of a company as if it were an independent enterprise. The section is based on paragraph 4(1) to (3) of Schedule A1 to ICTA.

Section 32: Restriction on deductions: interest or other financing costs

142.This section applies the same principle as the previous section but to interest payments. An exception is, however, made for companies dealing in loans, debts commodities and futures. It is based on paragraph 5(1) to (3) of Schedule A1 to ICTA.

Chapter 5: Supplementary

Section 33: Trade includes office

143.This section provides that trade includes an office in Part 2 of this Act, subject to context. It is based on section 6(4) of ICTA which applies the definition of “trade” in paragraph (b) of that subsection to various provisions of ICTA, except in so far as the context otherwise requires.

144.The reference to “carrying on a trade” in paragraph (b) is new. It reflects one of the usages of “trade” in Part 2.

145.The interpretation does not refer to employment or vocation. The treatment of vocations is discussed in Change 2 in Annex 1. A company does not hold an employment but it is not uncommon for a company to hold an office such as that of company secretary and the charge to corporation tax on income from an office is set out in section 969.

146.Section 969 applies the charge to corporation tax on income under section 2 to income from the holding of an office.

Part 3: Trading income

Overview

147.This Part contains the rules relating to trading income. The Part charges:

the profits of a trade (charged in the source legislation under Schedule D Case I or V); and
post-cessation receipts (charged in the source legislation under Schedule D Case VI).

148.The structure of the Part is to:

identify the income taxed as profits of a trade (Chapter 2);
calculate the profits of the trade (Chapters 3 to 7);
apply the rules for particular trades (Chapters 8 and 9);
apply other rules affecting the calculation of profits of the trade (Chapters 10 to 14); and
identify the other component of trading income – post-cessation receipts – (Chapter 15).

149.This Part is not an exhaustive statement of the rules for the calculation of trading income. Other regimes may affect that calculation. In particular, Parts 5 to 8 and 11 to 15 of this Act contain rules that may affect trade profits.

150.References to “profits or gains” in the source legislation which relate only to income are rewritten in this Part omitting the reference to “gains”. This continues the tidying up of such references started in section 46(3) of, and Schedule 7 to, FA 1998.

Chapter 1: Introduction

Section 34: Overview of Part

151.This section provides an overview of this Part. It is new. The corresponding income tax rule is in section 3 of ITTOIA.

152.In contrast to section 3 of ITTOIA, this section makes no reference to adjustment income. This is because for corporation tax purposes adjustments on a change of basis of accounting are brought into account in computing trading profits rather than being treated as a distinct category of income.

Chapter 2: Income taxed as trade profits

Overview

153.This Chapter explains what is taxed as profits of a trade. It identifies a number of activities and receipts and sets out how they are treated.

Section 35: Charge to tax on trade profits

154.This section applies the corporation tax charge on income to the profits of a trade. It is based on section 18 of ICTA. The corresponding rule for income tax is in section 5 of ITTOIA.

155.The section does not rewrite the reference to “profession or vocation” in Schedule D Case II. See Change 2 in Annex 1.

156.Section 832(1) of ICTA provides that “trade” includes “every trade, manufacture, adventure or concern in the nature of trade”. This brings within the meaning of trade an isolated transaction (or a small number of transactions) which, while in the nature of trade, is not sufficiently extensive to amount to a trade.

Section 36: Farming and market gardening

157.This section has two functions. First, it treats all farming or market gardening carried on in the United Kingdom as a trade. Second, it treats all farming carried on in the United Kingdom by a particular person as a single trade. It is based on section 53 of ICTA. The rules for income tax are rewritten in section 9 of ITTOIA.

158.Subsection (1) deals with the first function. In most cases there will be no doubt that farming is a trade on first principles. Like section 38 of this Act this section can trace its origins back to the time when there was a charge to income tax under Schedule B on the occupation of land. Farming was originally charged under Schedule B. The purpose of section 53 of ICTA and its predecessor provisions was to take the charge on farming out of Schedule B and into Schedule D. With the abolition of Schedule B that function is now spent.

159.But section 53 of ICTA does make clear that even uncommercial farming is treated as a trade. This section preserves that effect.

160.Subsection (2) deals with the second function of the section. It provides that all farming carried on by a company in the United Kingdom is treated as a single trade. It makes clear that farming carried on as part of another trade is not included in the single trade of farming.

161.The restriction of subsection (2) to farming in the United Kingdom is derived from the definition of “farming” in section 832(1) of ICTA.

162.Section 53(2) of ICTA uses the expression “particular company or partnership” to make clear that the single trade rule applies also to a firm. It follows that farming carried on by a company as a member of a firm is separate from any farming carried on by that company alone. This rule is dealt with in section 1270 in Part 17 (Partnerships). The corresponding provision for income tax is section 859 of ITTOIA.

163.The definition of “farming” and “market gardening” is given in section 1317 in Part 21 (Other general provisions). The corresponding provision for income tax is section 996 of ITA.

Section 37: Commercial occupation of woodlands

164.This section provides that the commercial occupation of woodlands is not treated as a trade for any corporation tax purpose. It is based on section 53 of ICTA and paragraph 3 of Schedule 6 to FA 1988. The corresponding rule for income tax is in section 11 of ITTOIA.

165.Subsection (3) makes clear that when this section is read together with related sections any profits and losses arising from the commercial occupation of woodlands are wholly outside the corporation tax code.

166.This section prevents any charge to tax as trading income and denies any claim for relief for a trade loss. Section 208(b) of this Act performs a similar function in relation to property income. Section 980 prevents there being any charge to tax under Chapter 8 of Part 10 (income not otherwise charged). The corresponding rule for income tax is in section 768 of ITTOIA.

Section 38: Commercial occupation of land other than woodlands

167.This section deals with the commercial occupation of land for purposes other than farming or woodlands. It is based on section 53 of ICTA. The corresponding rule for income tax is in section 10 of ITTOIA.

168.The section treats the commercial occupation of land in the United Kingdom as the carrying on of a trade. It provides certainty of treatment if land is occupied on a commercial basis in circumstances that do not amount to the carrying on of a trade on first principles.

169.The origins of section 53 of ICTA go back to the time when there was a charge to income tax under Schedule B on the occupation of land. The purpose of the Schedule B charge was to tax the profit that an occupier of the land could earn from the land itself, for example, by farming it. The tax was charged whether or not the occupier actually exploited the land.

170.The Schedule B charge was calculated by reference to the annual value of the land. This amount could be considerably less than the amount of profit an occupier could in fact derive from the land. For this reason the basis of charge was switched from Schedule B to Schedule D Case I if the land was farmed or otherwise managed on a commercial basis.

171.The last remnant of Schedule B was repealed by FA 1988. Schedule 6 to FA 1988 exempted any profits and losses from the occupation of commercial woodlands from corporation tax.

172.The provisions of section 53 of ICTA relating to farming are rewritten as section 36 of this Act. The provisions relating to the occupation of commercial woodlands are rewritten as section 37 of this Act.

Section 39: Profits of mines, quarries and other concerns

173.This section treats the profits and losses of certain concerns as if they were the profits and losses of a trade. It is based on section 55 of ICTA. The corresponding rule for income tax is in section 12 of ITTOIA.

174.The feature that most of these concerns have in common is that they exploit land for its natural resources. The section applies only if the activity carried on by the concern does not amount to a trade on first principles. If the activity is a trade on first principles the profits and losses will be taxed in accordance with section 35 of this Act.

175.The section does not deem the concern to be carrying on a trade. The company will not qualify for roll-over relief under section 152 of TCGA on any chargeable gain. That section requires the taxpayer to be carrying on a trade as defined in section 158(2) of TCGA. If the concern is operated by a company not resident in the United Kingdom that company does not become liable to corporation tax through the application of section 5(2). Section 5(2) requires a trade to be carried on in the United Kingdom.

176.Subsections (1) and (2) provide that the profits and losses of the concern are calculated and charged to tax as if the concern were a trade. The source legislation was not explicit in this regard. See Part A of Change 3 in Annex 1. This change reproduces Change 2 in ITTOIA and so brings the income tax and corporation tax codes back into line.

177.Subsection (3) provides that the normal loss rules apply. See Part B of Change 3 in Annex 1.

178.Subsection (4) lists the concerns to which the section applies. It updates the reference to “fishings” to “rights of fishing”.

179.Subsection (5) makes clear that section 38 of this Act has priority over section 39. This is because section 38 treats the activity as if it were a trade. This contrasts with the approach of this section, which is to treat the profits and losses as trade profits and losses. Section 38 may be more beneficial for the company. For example, the activity would qualify as a trade for chargeable gains purposes. See section 158(2) of TCGA.

Section 40: Credit unions

180.This section ensures that most credit unions are not treated as carrying on a trade for tax purposes. It is based on section 487 of ICTA.

181.Credit unions are profit-sharing financial co-operatives, owned and managed by their own members, which offer a convenient way of saving and loans to their members.

182.The members make regular savings, as little or as much as they wish. These savings then form a common pool of money from which loans are made to members. When members have been saving for a certain period of time (usually about 12 weeks) they can apply for a loan from the pool. Interest on the loan is charged at about 1% per month on the monthly reducing balance.

183.There are other rules about credit unions:

in Part 5 (loan relationships);
in section 133; and
in section 1218.

184.Subsection (1) is the rule that the usual activities of a credit union are not to be treated as a trade. The rule applies only in the calculation of the credit union’s income. So, if the carrying on of a trade is relevant for some other purpose (for instance, the taxation of chargeable gains), and the credit union is in fact carrying on a trade, the position is not disturbed by this rule.

Section 41: Effect of company starting or ceasing to be within charge to corporation tax

185.This section treats a company as starting or ceasing to carry on a trade in particular circumstances. It is based on section 337 of ICTA. The corresponding rule for income tax is in section 18 of ITTOIA.

186.Section 337 of ICTA requires the company’s trade or property business income to be calculated as though it had started or ceased to carry on a trade or a property business in two cases. Section 41 deals with trades and section 289 with property businesses.

187.The first trade case is when the company begins or ceases to carry on the trade (section 337(1)(a) of ICTA). Then its profits from that trade are calculated as though the trade had, at that time, begun or ceased. It is not necessary to rewrite this case. It is dealt with automatically in the rewritten rules because they are “person-based” and do not assume that a particular trade can continue independently of the person actually carrying it on.

188.The second case involves movement by the company into or out of the corporation tax regime (section 337(1)(b) of ICTA). Non-UK resident companies are within the charge to corporation tax only if they are trading, are trading in the United Kingdom, and through a permanent establishment in the United Kingdom. Then they are chargeable to corporation tax on all the profits attributable to that permanent establishment. First meeting or ceasing to meet those conditions can result in a change of taxing regime from income tax to corporation tax or vice versa.

189.Section 41 says what happens when a company enters or leaves the corporation tax regime in respect of the trade: then its trade profits are calculated as though it had started or ceased to carry on the trade. The corresponding income tax rule in section 18 of ITTOIA is a complementary, mirror-image rule which applies when the company enters or leaves the income tax regime in respect of the trade.

Section 42: Tied premises

190.This section treats rent received by a company carrying on a trade, for premises let to persons to whom the company supplies goods sold or used on those premises, as a receipt of the trade rather than a receipt of a property business. It is based on section 98 of ICTA. The corresponding rule for income tax is in section 19 of ITTOIA.

191.Section 98 of ICTA is expressed in general terms. But it most commonly applies to rent received by a brewing company which lets premises to tied tenants.

Section 43: Caravan sites where trade carried on

192.This section allows a company which carries on a trade associated with the operation of a caravan site to include in the receipts of that trade income from letting pitches or caravans where the letting does not itself constitute a trade. It is based on ESC C36. The corresponding rule for income tax is in section 20 of ITTOIA. See Change 4 in Annex 1.

193.See section 1314 and Change 96 in Annex 1 for the definition of “caravan”.

Section 44: Surplus business accommodation

194.This section allows income from letting surplus business accommodation to be treated as a trade receipt instead of as rent. It is based on the practice known as “Revenue Decision 9” set out in the HMRC publication Tax Bulletin of 15 February 1994. The corresponding rule for income tax is in section 21 of ITTOIA. See Change 5 in Annex 1.

Section 45: Payments for wayleaves

195.This section applies if a trader receives rent from a wayleave granted in respect of land on which a trade is carried on. It is based on section 120 of ICTA. The corresponding rule for income tax is in section 22 of ITTOIA.

196.Rent received in respect of a wayleave is normally taxed as property income either by Chapter 2 of Part 4 of this Act (property businesses) or by section 277 (charge to tax on rent receivable for a UK electric-line wayleave). But if the rent is received in respect of land on which a trader carries on a trade and the trader receives no other rent in respect of the same land the rent, and any associated expenses, can be included in the calculation of the trade profits. See Change 6 in Annex 1. This change enacts a non-statutory practice, and also makes changes to both practice and the law. It reproduces Change 5 in ITTOIA and so brings the income and corporation tax codes back into line.

197.Subsection (4) defines “rent”. Section 120 of ICTA uses the definition of “rent” in section 119(3) of ICTA (rent etc. payable in connection with mines, quarries and similar concerns). Section 119 of ICTA is rewritten in Chapter 7 of Part 4 of this Act. The definition of rent in that Chapter and in this section must be the same. See the commentary on section 271 of this Act for a fuller description of the rewrite of the word “rent” in Chapter 7 of Part 4 of this Act.

198.Subsection (5) defines “wayleave”. Section 120 of ICTA uses the word “easement” as defined in section 119(3) of ICTA to describe the nature of the right for which the rent is paid. This section uses “wayleave” as that is how most of the payments covered by this section are usually described in practice. The definition of “easement” in section 119(3) of ICTA gives that word a meaning that is much wider than its usual legal meaning. See the comments of Uthwatt J at pages 329 and 330 of Mosley v George Wimpey & Co Ltd (1945), 27 TC 314 CA.

199.The definition of “wayleave” preserves the generality of the words in section 119(3) of ICTA and includes a reference to the Scottish equivalent, “servitude”.

200.The definition has no territorial limitation. So the section covers services other than UK electric-line wayleaves.

201.The section does not rewrite the reference to “profession or vocation” in Schedule D Case II. See Change 2 in Annex 1.

Chapter 3: Trade profits: basic rules

Section 46: Generally accepted accounting practice

202.This section sets out the starting point for the calculation of trade profits. It is based on section 42 of FA 1998. The corresponding rule for income tax is in section 25 of ITTOIA.

203.Subsection (1) is the general rule that requires profits to be calculated “in accordance with generally accepted accounting practice”, an expression defined in section 50 of FA 2004. In particular, such practice generally requires account to be taken of debtors and creditors and of the value of stock. The general rule is subject to any special rule of law whether expressed in statute or explained by the courts.

204.The relevant statutory laws are mainly those that are rewritten in this Part. But there are also provisions not included in Part 3 of this Act which may affect the calculation of profits: for example, the pension contributions deductions provisions in FA 2004 and some anti-avoidance provisions in ICTA that apply to all income types.

205.Subsection (2) makes clear that subsection (1) does not bring with it any of the other accounting requirements, such as a formal audit.

206.Subsection (3) sets out exceptions to the general rule in subsection (1). Lloyd’s underwriters have their own special rules (mostly in Chapter 3 of Part 2 of FA 1993); there are special rules for insurance companies (mostly in Chapter 1 of Part 12 of ICTA and Chapter 1 of Part 2 of FA 1989); and tonnage tax companies (see Schedule 22 to FA 2000) are subject to “special rules” for the calculation of profits.

Section 47: Losses calculated on same basis as profits

207.This section ensures that profits and losses are calculated on a consistent basis. It is based on section 46 of FA 1998. The corresponding rule for income tax is in section 26 of ITTOIA.

Section 48: Receipts and expenses

208.This section is based on section 46 of FA 1998. The corresponding rule for income tax is in section 27 of ITTOIA.

Section 49: Items treated as receipts and expenses

209.This section signposts rules affecting trade profits that are elsewhere in the Corporation Tax Acts. It is new. The corresponding rule for income tax is in section 28 of ITTOIA.

210.In particular the CAA rules override the rules against the inclusion of capital items in sections 53 and 93 of this Act.

Section 50: Animals kept for trade purposes

211.This section contains the basic rule for the corporation tax treatment of animals. It is based on paragraphs 1, 7 and 9 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 30 of ITTOIA. The animals are treated as trading stock unless a herd basis election is made under Chapter 8 of this Part.

Section 51: Relationship between rules prohibiting and allowing deductions

212.This section makes clear the interaction between those provisions that allow a deduction and those provisions that prohibit a deduction. It is new. See Change 7 in Annex 1. The corresponding rule for income tax is in section 31 of ICTA.

213.The general principle is that a rule allowing a deduction takes priority over a rule prohibiting a deduction. But this is subject to a number of exceptions.

Section 52: Apportionment etc of profits and losses to accounting period

214.This section provides for apportionment of profits and losses when a company’s period of account does not coincide with an accounting period. It is based on section 72 of ICTA. That section is rewritten for income tax purposes in sections 203 and 871 of ITTOIA.

215.This section does not carry over the rewrite change in sections 203(4) and 871(5) of ITTOIA whereby apportionment is permitted by a measure of time other than the days permitted by section 72(2) of ICTA. HMRC has a long-established view that days cannot be split into accounting periods. That helps prevent exploitation of the wider range of reliefs available in the rather different context of corporation tax.

Chapter 4: Trade profits: rules restricting deductions

Overview

216.This Chapter contains provisions prohibiting various deductions in calculating the profits of a trade or restricting the extent to which such deductions can be made.

Section 53: Capital expenditure

217.This section prohibits deductions for capital expenditure and is based on section 74(1)(f) of ICTA. The corresponding rule for income tax is in section 33 of ITTOIA.

218.It is a long-established and generally accepted principle that capital items are ignored in calculating the profits of a trade and the question whether a sum is income or capital is ultimately a question of law, not accountancy. For judicial authority for this proposition, see, for example the words of Brightman J on page 173 of ECC Quarries Ltd v Watkis (1975), 51 TC 153 ChD(1):

…unchallenged evidence, or a finding, that a sum falls to be treated as capital or income on principles of correct accountancy practice is not decisive of the question whether in law the expenditure is of a capital or an income nature.

219.A sum which is of a capital nature may however be allowed as a deduction in calculating the profits of a trade because of a statutory exception to the general rule on the deduction of such items in this section. See, for example, section 89 (expenses connected with patents).

220.In the absence of general agreement on what constitutes capital expenditure “items of a capital nature” is not defined.

221.Section 74(1)(g) of ICTA is redundant as the deduction of capital employed in the improvement of premises is covered by the general prohibition on the deduction of “items of a capital nature”. So this Act repeals section 74(1)(g) of ICTA without rewriting it.

Section 54: Expenses not wholly and exclusively for trade and unconnected losses

222.This section contains rules for the deduction of expenses and losses in calculating the profits of a trade. It is based on section 74(1)(a) (expenses) and (e) (losses) of ICTA. The corresponding rules for income tax are in section 34 of ITTOIA.

223.Section 74(1)(a) of ICTA provides that in calculating the profits of a trade no deduction is allowed for expenditure which is not incurred “wholly and exclusively” for the purposes of that trade. This could be construed to mean that if expenditure is incurred partly for trade purposes and partly for some other purposes, no part of that expenditure can be deducted in arriving at the trade profits.

224.But section 74(1)(c) of ICTA, which prohibits any deduction in respect of the rent of premises used for residential or “domestic” purposes, provides for the apportionment of rent paid for premises used partly as residential accommodation and partly for the purposes of a trade. And in practice a deduction is allowed for any expenditure which can be apportioned between trade and non-trade expenditure – for example, expenditure on a car used partly for trade and partly for private purposes.

225.There is judicial support for allowing a deduction where expenditure incurred for more than one purpose can reasonably be apportioned between expenditure incurred for the purpose of the trade and non-trade expenditure. See, for example, Lochgelly Iron and Coal Company Ltd v Crawford (1913), 6 TC 267 CS, in which a deduction was allowed for part of a subscription to a trade association and Copeman v William Flood & Sons Ltd (1941), 24 TC 53 KB, in which the High Court remitted the case to the Commissioners to find as a fact whether the remuneration paid to certain directors who were also shareholders in the family company was wholly and exclusively expended for the purpose of the Company’s trade, and if not, how much of the remuneration was so expended.

226.Conversely, the courts have held that if it is not possible to identify any part of the expenditure that is incurred wholly and exclusively for the purposes of the trade, no apportionment is possible. See, for example, Mallalieu v Drummond (1983), 57 TC 330 HL(2) in which no deduction was allowable for clothing worn for warmth and decency as well as being required by the taxpayer’s profession.

227.So subsection (2) of this section provides for the deduction of any part or proportion of expenses incurred partly for the purposes of the trade and partly for some other purpose that can be identified as incurred wholly and exclusively for the purposes of the trade. Rent on dual purpose accommodation can be apportioned under subsection (2) of this section. So this Act repeals section 74(1)(c) of ICTA without rewriting it.

Section 55: Bad debts

228.This section is based on the rule restricting relief for some debts in section 88D of ICTA. It also rewrites the relief in section 89 of ICTA for debts proved irrecoverable after a trade is treated as having ceased. See Change 8 in Annex 1. The corresponding rule for income tax is in section 35 of ITTOIA.

229.Subsection (2)(a) refers to a deduction “by way of impairment loss”. That expression is not defined for the purpose of this section. But section 476(1) defines “impairment loss” for the purposes of the loan relationships legislation as “a debit in respect of the impairment of a financial asset”. “Impairment” includes “uncollectability”.

230.Subsection (2)(b) deals with debts released as part of a “statutory insolvency arrangement”, which is defined in section 834(1) of ICTA.

231.Subsection (3) provides a definition that clarifies the scope of the section. All money debts (see section 303) arising in a trade that produce an impairment loss are within the loan relationships rules (see section 479). Even if a money trade debt is released as part of a statutory insolvency arrangement any loss on the debt is within the extended meaning of “impairment” in section 476(1).

232.There is a corresponding rule for income from holding an office in section 970.

Section 56: Car or motor cycle hire

233.This section restricts the amount that a company can deduct in respect of the cost of hiring certain cars or motor cycles with a retail price (when new) of more than £12,000. The restriction increases in line with the retail price. The section is based on sections 578A and 578B of ICTA. The corresponding rule for income tax is in section 48 of ITTOIA.

234.Section 578B(1) of ICTA says that for the purposes of section 578A of ICTA “car” includes a motor cycle. So this section and section 57 refer to a “car or motor cycle” throughout.

235.Section 578A(4) of ICTA provides for amounts in respect of hire charges brought into account as a receipt of the trade under section 94 of ICTA (see section 94 of this Act) to be reduced in the same proportion as the deduction in respect of those charges is reduced under section 578A(3) of ICTA. Subsection (4) of this section extends the same treatment to amounts in respect of hire charges taxed as a post-cessation receipt under section 193 (debts released after cessation). See Change 9 in Annex 1.

Section 57: Car or motor cycle hire: supplementary

236.This section defines various terms and is based on section 578B of ICTA. The corresponding rule for income tax is in section 49 of ITTOIA.

237.Section 578B(2) of ICTA defines “qualifying hire car” for the purposes of section 578A of ICTA as a car hired under a hire-purchase agreement subject to an option to purchase which is exercisable for a nominal amount.

238.Not all hire-purchase agreements require the hirer to exercise an option at the end of the hire period. Under some types of agreement, ownership of the vehicle passes automatically to the hirer at the end of the hire period. So subsection (2)(a) of this section extends the definition of “qualifying hire car or motor cycle” to include a car or motor cycle where ownership passes without the exercise of an option to purchase. See Change 10 in Annex 1.

Section 58: Hiring cars (but not motor cycles) with low CO2 emissions before 1 April 2013

239.This section excludes certain cars hired before 1 April 2013 under a contract entered into before that date from the restriction in section 56. It is based on section 578A(2A) and (2B) of ICTA and section 60 of FA 2002. The corresponding rule for income tax is in section 50 of ITTOIA.

240.Subsection (2) defines low emissions by reference to section 45D of CAA. A transitional rule in Schedule 1 to this Act provides that, for a car hired on or before 31 March 2008, the carbon emissions limit in section 45D(4) of CAA remains 120 grams instead of the new limit of 110 grams.

Section 59: Patent royalties

241.This section prohibits a deduction for patent royalties. It is based on section 74(1)(p) of ICTA.

242.For most patent royalties this rule is overridden by the rules of the intangible fixed assets regime (rewritten in Part 8 of this Act) which provide relief for trades as well as other commercial activities (see, in particular, section 728(5) and Chapter 6 of Part 8 of this Act). But for a minority of cases, this section will remain relevant and will continue to prevent a deduction. That includes, for example, cases where the royalty is in respect of an intangible asset that is not a fixed asset of the payer’s trade.

Section 60: Expenditure on integral features

243.This section draws attention to the rule in section 33A(3) of CAA. There is a signpost to that rule in section 74(1)(da) of ICTA. That subsection is repealed. The signpost is not formally rewritten but it is replaced in this section (and in the property income section 263).

Chapter 5: Trade profits: rules allowing deductions

Overview

244.This Chapter contains provisions allowing various deductions in calculating the profits of a trade.

Section 61: Pre-trading expenses

245.This section gives relief for expenses incurred before a trade starts. It is based on section 401 of ICTA. The corresponding rule for income tax is in section 57 of ITTOIA.

246.Subsection (1) sets the scene. Consistent with other rules in this Part, it refers to the “date” on which (instead of the “time” when) a company starts to trade.

Section 62: Tenants under taxed leases: introduction

247.This section provides for the following five sections to apply where a tenant, under a taxed lease, uses land for the purposes of a trade. It is based on section 87(1), (2), (8) and (9A) of ICTA. The corresponding provision for income tax is in section 60 of ITTOIA.

248.Chapter 4 of Part 4 (profits of property businesses: lease premiums etc) contains provisions (in sections 217 to 222) treating certain premiums, and other amounts, relating to a lease (“the taxed lease”) as giving rise to receipts of a property business (of amount X). Chapter 4 of Part 4 also provides that in certain cases a tenant under the taxed lease obtains relief in respect of all, or part, of X:

by reducing the amount of another property business receipt (sections 227 to 230), or
by being treated as an expense of a property business (sections 231 to 234).

249.Sections 62 to 67 provide for certain cases in which a tenant under the taxed lease obtains relief as a trading expense in respect of all, or part, of X.

250.Subsection (1) extends relief to cases in which X arose in relation to a lease of land outside the United Kingdom. See Change 11 in Annex 1. This is in accordance with the policy of treating UK and overseas property businesses in the same way as far as possible.

251.The amount which a tenant can deduct in respect of rent which it is treated as paying under section 87(2) of ICTA is qualified by:

the general rules as to deductions not allowable in computing the profits of a trade in section 74(1) of ICTA; and
rules prohibiting or restricting the deduction of specific expenditure elsewhere in ICTA.

252.In this Act, the rules restricting deductions are in Chapter 4 of this Part and section 74(1)(a) of ICTA is rewritten in that Chapter in section 54. Subsection (3) preserves the interaction of section 87(2) of ICTA and the general and specific rules restricting deductions in ICTA by providing that a deduction for an expense which a tenant is treated as incurring under section 63 is subject to the application of any provision of Chapter 4 of this Part.

Section 63: Tenants occupying land for purposes of trade treated as incurring expenses

253.This section treats a tenant under a lease, in respect of which an amount is brought into account by the landlord, (a “taxed lease”) as incurring an expense for each day on which the property held under the lease is occupied for the purposes of the tenant’s trade. It is based on section 87(2), (3) and (9) of ICTA. The corresponding rule for income tax is in section 61 of ITTOIA.

254.Sections 217 to 222 provide for a company to bring an amount into account as a receipt of a property business in cases where the company has granted a short-term lease at a premium (or in certain other cases).

255.Sections 277 to 282 of ITTOIA make corresponding provision for a person to bring an amount into account as a receipt of a property business for income tax.

256.Subsection (1) treats a tenant which, for a qualifying day, occupies land for the purposes of a trade as incurring an expense. This corresponds to the treatment of the landlord who has been, or would have been (see section 227(4)), treated as receiving a receipt (“taxed receipt”) of the landlord’s property business.

257.The formula in subsection (4) calculates the expense for each qualifying day by spreading an amount in respect of the taxed receipt evenly over the receipt period of that receipt. Defining “A” in that formula as “the unreduced amount of the taxed receipt” makes clear that the amount of the expense which the tenant is treated as incurring for each qualifying day is calculated by reference to the amount of the taxed receipt before any reductions or deductions.

258.Subsection (5) modifies that formula for a qualifying day on which the tenant occupies only part of the land subject to the taxed lease for the purposes of a trade. The subsection requires the fraction of the land which is occupied by the tenant for the purposes of the trade to be calculated “on a just and reasonable basis”, where section 87(3) of ICTA requires a “just apportionment”. See Change 12 in Annex 1.

Section 64: Limit on deductions if tenant entitled to mineral extraction allowance

259.This section prevents a double deduction where a tenant is entitled under section 403 of CAA to an allowance in respect of qualifying expenditure on acquiring a mineral asset. It is based on section 87(7) of ICTA. The corresponding rule for income tax is in section 62 of ITTOIA.

Section 65: Tenants dealing with land as property employed for purposes of trade

260.This section applies to a tenant which, while not occupying a property, uses the property for the purposes of a trade – for example a company which lets premises held under a taxed lease to a person who sells only goods supplied by that company. It is based on section 87(4) and (6) of ICTA. The corresponding rule for income tax is in section 63 of ITTOIA.

261.Subsection (2) treats the tenant as if it occupied the property, or part of it, for the purposes of relief under section 63.

262.Subsection (3) prevents the tenant obtaining relief under section 63 to the extent that relief for the same day is allowed in calculating the profits of the tenant’s property business under section 232.

Section 66: Restrictions on section 63 expenses: lease premium receipts

263.This section restricts the expenses that section 65 treats a tenant as incurring, under section 63, by reference to the unreduced amount of a taxed receipt under a taxed lease if:

a sublease has been granted out of the taxed lease; and
in respect of the sublease, the unreduced amount of the taxed receipt reduces an amount which is brought into account as a receipt under Chapter 4 of Part 4 of this Act or the corresponding provisions in ITTOIA (the “lease premium receipt”).

This section is based on sections 87(5) and 87A of ICTA. The corresponding rule for income tax is in section 64 of ITTOIA.

264.The restriction in this section extends to cases where the unreduced amount of the taxed receipt reduces a lease premium receipt of an overseas property business. See Change 11 in Annex 1.

265.Section 63 treats the tenant as incurring an expense for each qualifying day in the receipt period of the taxed receipt relating to the taxed lease. The expense is calculated by reference to the unreduced amount of the taxed receipt.

266.If, in respect of the sublease, the unreduced amount of the taxed receipt is used to reduce:

under section 228, the amount brought into account as a lease premium receipt under Chapter 4 of Part 4 of this Act; or
under section 288 of ITTOIA, the amount brought into account as a lease premium receipt under Chapter 4 of Part 3 of ITTOIA,

this section makes a corresponding reduction to the amount of the expense which section 63 treats as incurred by the tenant for a qualifying day in the receipt period of the lease premium receipt.

267.Subsections (3) to (5) treat the tenant as incurring an expense for a qualifying day of the amount, if any, by which the “daily amount” of the taxed receipt exceeds:

the “daily reduction” of the lease premium receipt; or
if the qualifying day falls within the receipt period of more than one lease premium receipt, the “total of the daily reductions” of those lease premium receipts.

268.This corresponds to the treatment in section 233 of cases where lease premium receipts, with overlapping receipt periods, are reduced by reference to the unreduced amount of a single taxed receipt. See Change 13 in Annex 1.

269.Subsection (6) contains formulas for calculating the “daily amount” of a taxed receipt and the “daily reduction” of a lease premium receipt. The subsection provides that the “daily reduction” only takes account of the taxed receipt in question. This corresponds to the treatment in section 233 of cases where more than one taxed receipt reduces a single lease premium receipt. See Change 13 in Annex 1.

Section 67: Restrictions on section 63 expenses: lease of part of premises

270.This section adapts section 63 if section 66 applies but the sublease does not extend to the whole of the premises subject to the taxed lease. It is based on sections 87(5) and 87A of ICTA. The corresponding rule for income tax is in section 65 of ITTOIA.

271.Subsection (4) deals with the case where, for a qualifying day, there is more than one lease premium receipt, relating to subleases that do not extend to the whole of the premises, that has been reduced by the taxed receipt. This corresponds to the treatment in section 234(5) of expenses under sections 232 and 233 where more than one lease premium receipt falls to be reduced by reference to the same taxed receipt. See Change 13 in Annex 1.

272.Subsection (5) adapts the formulas in sections 63(4) and 66(6) by multiplying the unreduced amount of the taxed receipt in those formulas (“A”) by the fraction of the premises to which the sublease relates.

273.Subsection (6) requires the fraction in subsection (5) to be calculated “on a just and reasonable basis”, where section 87(5) of ICTA, which applies section 37(6) of ICTA, is not explicit about the necessary basis of apportionment. See Change 12 in Annex 1.

Section 68: Replacement and alteration of trade tools

274.This section allows a deduction for the cost of replacing or altering trade tools if the only reason a deduction would not be allowed is that the expenditure is of a capital nature. It is based on that part of section 74(1)(d) of ICTA which relates to deductions in respect of the replacement (“supply”) or alteration of implements, utensils or other articles employed for the purposes of the trade. The corresponding rule for income tax is in section 68 of ITTOIA.

275.Expenditure on repairing trade premises or tools is revenue under the normal rules. And following the Special Commissioners decision in Jenners Princes Street Edinburgh Ltd v CIR (1998), SpC000166(3), it is generally accepted that the reference in section 74(1)(d) of ICTA to expenditure “beyond the sum actually expended” does not prohibit the deduction of a provision for repairs if the cost of the repairs would be allowable. So that part of section 74(1)(d) of ICTA which deals with repairs is redundant and is not rewritten.

Section 69: Payments for restrictive undertakings

276.This section allows a company to deduct certain amounts paid to employees for restrictive undertakings. Such amounts might not otherwise be deductible to the extent that they are capital in nature or fall foul of the “wholly and exclusively” rule. The section is based on section 73(2) of FA 1988. The corresponding rule for income tax is in section 69 of ITTOIA.

277.Section 73(2) of FA 1988 applies only to amounts brought into charge on the employee as earnings under section 225 of ITEPA. The former cross-refers to the latter where the definition of the amounts concerned is set out:

In this section “restrictive undertaking” means an undertaking which restricts the individual’s conduct or activities.

For this purpose it does not matter whether or not the undertaking is legally enforceable or is qualified.

278.Subsection (1) provides for the deduction. In so doing it focuses on the key element for the rule to apply: the fact of payment.

279.Subsection (2) provides a timing rule. The deduction allowed by section 73 of FA 1988 is taken in the accounting period in which the payment is made and no deduction is allowed in any other period. Similar words are used in sections 77 and 88. This ensures that the timing rules for deductions in this Chapter which depend on payment are explicit and consistent.

Section 70: Employees seconded to charities and educational establishments

280.This section allows a company carrying on a trade to deduct the cost of an employee seconded to a charity or educational establishment in calculating the trade profits. It is based on section 86 of ICTA. The corresponding rule for income tax is in section 70 of ITTOIA.

281.Section 86 of ICTA allows a company which seconds an employee to a charity or educational establishment to deduct the cost of employing the seconded person to the extent that those costs would have been deductible if the employee continued to be employed for the purposes of the employer’s trade. This section allows the employer to deduct all costs attributable to the seconded employee during the period of the secondment, regardless of whether those costs would have been allowed if the employee had not been seconded. See Change 14 in Annex 1.

Section 71: Educational establishments

282.This section defines “educational establishment” for the purposes of section 70. It is based on section 86 of ICTA. The corresponding rule for income tax is in section 71 of ITTOIA.

283.Section 86(4)(c) of ICTA refers to an independent school registered under section 465 of the Education Act 1996. Section 465 of the Education Act 1996 was repealed by the Education Act 2002. So subsection (1)(c) of this section refers instead to an independent school registered under section 161 of the 2002 Act.

284.Schedule 1 to this Act makes corresponding amendments to section 71 of ITTOIA.

Section 72: Payroll deduction schemes: contributions to agents’ expenses

285.This section allows an employer a deduction for expenses incurred in operating a payroll deduction scheme. It is based on section 86A of ICTA. The corresponding rule for income tax is in section 72 of ITTOIA.

286.The main rules for payroll deduction schemes are found in Part 12 of ITEPA. Under such a scheme an employer deducts charitable donations from employees’ salaries and pays them to an agent, who distributes them to the employees’ chosen charities.

287.The agent’s administrative costs may be deducted from the donations. But many employers voluntarily pay the costs themselves so that the employees’ full donations can go to the chosen charities.

288.Normally, payments made voluntarily to meet someone else’s expenses are not made wholly and exclusively for the purposes of a trade and therefore would not be deductible. Employers might get relief for donations to charitable agencies under the Gift Aid scheme. But there are restrictions on the operation of that scheme and relief would not be available if the agent was not itself a charity.

289.This section gives relief for the expenses as a trading deduction.

290.The section does not rewrite the reference to “profession or vocation” in Schedule D Case II. See Change 2 in Annex 1.

Section 73: Counselling and other outplacement services

291.This section allows a deduction for certain expenses of counselling provided for employees. It is based on sections 589A and 589B of ICTA. The corresponding rule for income tax is in section 73 of ITTOIA.

292.Subsection (3) cross-refers to ITEPA for the conditions that need to be met for the deduction to be allowed (section 310 of ITEPA exempts the employee from tax in respect of counselling received).

Section 74: Retraining courses

293.This section allows a deduction for certain expenses of retraining provided for employees. It is based on section 588 of ICTA. The corresponding rule for income tax is in section 74 of ITTOIA.

294.Subsection (2) cross-refers to ITEPA for the conditions that need to be met for the deduction to be allowed (section 311 of ITEPA exempts the employee from tax in respect of qualifying retraining courses).

295.The section does not rewrite section 588(3)(b) of ICTA. That provision makes a deduction in calculating the employer’s trade profits conditional on the employee’s exemption under section 311 of ITEPA in respect of the expenditure in question. This condition is not consistent with the similar provision rewritten in section 73 and does not serve any material purpose. See Change 16 in Annex 1.

Section 75: Retraining courses: recovery of tax

296.This section allows the recovery of tax when a deduction under section 74 proves to have been wrongly allowed. It is based on section 588 of ICTA. The corresponding rule for income tax is in section 75 of ITTOIA.

297.Subsection (2), like section 74(2) of this Act, cross-refers to the relevant provisions in ITEPA to refer to the conditions that have not been met.

Sections 76 to 81: Redundancy payments etc

Overview

298.These six sections are based on the trading income rules relating to redundancy payments in sections 90, 579 and 580 of ICTA. The rules that deal with the employee’s liability are in section 309 of ITEPA. The corresponding rules for income tax are in sections 76 to 80 of ITTOIA.

299.The trading income rules were introduced to reverse the decisions in CIR v Anglo Brewing Co Ltd (1925), 12 TC 803 and Godden v A Wilson’s Stores (Holdings) Ltd (1962), 40 TC 161. In those cases the courts held that certain payments to employees on the closing down of a trade were not deductible in arriving at trading profits. In neither case was the payment made in accordance with a pre-existing obligation.

300.In 1999 HMRC announced (Tax Bulletin 39G, February 1999) that they would be guided by the decision in Commissioner of Inland Revenue v Cosmotron Manufacturing Co Ltd (1997), 70 TC 292(4).

301.In that Hong Kong case the Privy Council decided that redundancy payments made under a pre-existing obligation are deductible. Although that decision is merely persuasive in the United Kingdom, HMRC do not argue that payments made under a pre-existing obligation (including a statutory obligation) are covered by the Anglo Brewing and Wilson’s Stores decisions. The announcement in Tax Bulletin means that it may not be necessary to give the employer a statutory right to a deduction in calculating trading profits. But these sections put the matter beyond doubt.

Section 76: Redundancy payments and approved contractual payments

302.This section sets out the circumstances in which the following three sections apply and explains the terms used in the main provisions. It is based on section 579 of ICTA. The corresponding rule for income tax is in section 76 of ITTOIA.

303.The sections retain the label “redundancy payment” (from section 579 of ICTA) and the expression “additional payment” (from section 90 of ICTA). This section also introduces the label “approved contractual payment” to describe the payments that may replace redundancy payments in some cases.

Section 77: Payments in respect of employment wholly in employer’s trade

304.This section sets out the main rule governing redundancy payments made by an employer. It is based on section 579 of ICTA. The corresponding rule for income tax is in section 77 of ITTOIA.

305.If a payment is otherwise allowable (possibly as a result of the Cosmotron decision – see the overview for this group of sections), this section does not interfere with the accountancy treatment of the payment. In that case, the normal accounting basis applies.

306.The deduction allowed by section 579 of ICTA is for “a redundancy payment ... made”. It is clear that a deduction is allowed only if a payment has been made. It follows that the deduction is to be taken in the accounting period in which the payment is made and that no deduction is allowed in any other period.

307.Section 579(2)(b) of ICTA sets out the rule that applies if a redundancy payment is made after the discontinuance of the employer’s trade. The rule applies if the company ceases to carry on a trade or to be within the charge to corporation tax (see section 41 of this Act).

308.In the case of a trade carried on by a company in partnership, section 114(1)(c) of ICTA deals with a change of membership of a partnership. The profits of the trade are calculated as if there is a transfer of the trade from one deemed company to another, unless a particular company carries on the trade before and after the change. Such a transfer means that the first deemed company ceases to carry on the trade. This brings it within the rule in section 579(2)(b) of ICTA.

309.Subsection (5) of the section sets out the partnership rule.

310.Subsection (6) has a timing rule expressed in words similar to those used in sections 69 and 88 of this Act. This ensures that the timing rules for deductions in Chapter 5 of Part 3 of this Act which depend on payment are explicit and consistent. This special timing rule applies if the payment is allowable only as a result of this section.

Section 78: Payments in respect of employment in more than one capacity

311.This section deals with the case where the employee is employed in more than one capacity. It is based on section 579 of ICTA. The corresponding rule for income tax is in section 78 of ITTOIA. The section covers the case where there is a non-trade element in the employment and makes clear what part of the payment is allowed as a deduction in calculating trade profits.

312.Section 579(5) of ICTA does not specify the basis on which to apportion the payment. This section adopts the “just and reasonable” apportionment that is used consistently in this Act. See Change 12 in Annex 1.

Section 79: Additional payments

313.This section deals with any voluntary payments that an employer makes in addition to the statutory (or approved) payments dealt with in section 77. It is based on section 90 of ICTA. The corresponding rule for income tax is in section 79 of ITTOIA.

314.Unlike the payments in section 77, these additional payments are allowable only if the sole reason for their disallowance is the cessation of the trade.

315.The section applies to payments in connection with the cessation of part of a trade in the same way as it applies to payments in connection with the cessation of a whole trade. See Change 17 in Annex 1.

Section 80: Application of section 79 in cases involving partnerships

316.This section clarifies what happens on a change of partnership. It is based on sections 90 and 114 of ICTA. The corresponding rule for income tax is in section 79A of ITTOIA (inserted by Schedule 1 to this Act).

317.Section 90(3) of ICTA refers to the “discontinuance” of a trade. That word has to be interpreted in the light of sections 114 and 337 of ICTA: the trade is not treated as discontinued unless there is a complete change in the companies carrying it on.

318.A redundancy payment is not disallowable solely on account of a partial change of companies carrying on a trade. This section puts it beyond doubt that a partial change of companies carrying on a trade does not count as a cessation.

Section 81: Payments made by the Government

319.This section sets out what happens if it is not the employer who makes the redundancy payment to the employee. It is based on section 579 of ICTA. The corresponding rule for income tax is in section 80 of ITTOIA.

320.In some cases the Government makes the payment and is reimbursed by the employer. This section ensures that the employer is allowed a trading deduction.

321.The references in ICTA to section 166 of the Employment Rights Act 1996 and Article 201 of the Employment Rights (Northern Ireland) Order 1996 (SI 1996/1919 (NI 16)) are corrected to section 167 and Article 202.

322.Subsection (1)(b) reflects the effect of the devolution settlements. See Change 15 in Annex 1.

Section 82: Contributions to local enterprise organisations or urban regeneration companies

323.This is the first of five sections that allow deductions for contributions to local enterprise agencies, training and enterprise councils, local enterprise companies in Scotland, business links and urban regeneration companies. The sections are based on sections 79, 79A and 79B of ICTA. The corresponding rules for income tax are in sections 82 to 86 of ITTOIA.

324.Contributions to these bodies are generally donations and are likely to be made for benevolent reasons, rather than wholly and exclusively for the purposes of the trade (see section 54 of this Act).

325.Subsection (3) is an anti-avoidance rule. It prevents a company using the section to obtain a deduction for non-trade expenditure, such as funding the training of a member of a shareholder’s family, by passing funds through one of these bodies. The source legislation disallows any deduction if there is a benefit to the company (or a connected person). This section merely restricts the deduction by the value of the benefit. See Change 18 in Annex 1.

326.Subsections (5) and (6) set out what happens if the company (or a connected person) receives a benefit in connection with the contribution. The charge on the benefit applies if the benefit is received by a person “connected with” the company. That expression is explained in section 1316.

327.Subsection (6)(b) deals with the case where the recipient’s trade has ceased before the benefit is received. It treats the benefit explicitly as a post-cessation receipt. See Change 19 in Annex 1.

328.Subsection (7) makes clear the extent of the disallowance under subsection (3) or charge under subsection (6).

329.The subsection limits the “disqualifying benefit” in accordance with HMRC practice. See Change 18 in Annex 1.

Section 83: Meaning of “local enterprise organisation”

330.This section lists some of the organisations that qualify for deductions to be allowed under section 82. It is based on the definitions in sections 79(4) and 79A(5) of ICTA. The corresponding rule for income tax is in section 83 of ITTOIA.

331.Subsection (2) deals with local enterprise agencies. These agencies may take a number of forms and do not have an approval procedure for any other purpose. So the tax legislation specifies that they must be approved for this purpose.

332.The subsection introduces the expression “relevant national authority”. The expression is used also in sections 84 and 85.

333.The subsection reflects the effect of the devolution settlements. See Change 15 in Annex 1. The National Assembly for Wales (Transfer of Functions) Order 1999 (SI 1999/672) devolves the functions of the Secretary of State under section 79 of ICTA to the National Assembly for Wales. So the “relevant national authority” may be the Assembly. But the Order does not refer to section 79A of ICTA. So the equivalent functions in subsections (3) and (5) of this section are still exercised only by the Secretary of State.

334.Subsections (3) to (5) deal with other bodies to which section 82 applies. These other bodies have to be set up in a particular way for other reasons and the tax legislation merely follows the existing procedures.

Section 84: Approval of local enterprise agencies

335.This section and section 85 set out the detailed rules that apply for the approval of local enterprise agencies and the withdrawal of such approval. They are based on section 79 of ICTA. The corresponding rule for income tax is in section 84 of ITTOIA.

336.The section sets out the basic procedure for approving a local enterprise agency. The references to “relevant national authority” are explained in section 83(2).

Section 85: Supplementary provisions with respect to approvals

337.This section and section 84 set out the detailed rules that apply for the approval of local enterprise agencies and the withdrawal of such approval. They are based on section 79 of ICTA. The corresponding rule for income tax is in section 85 of ITTOIA.

338.The references to “relevant national authority” in this section are explained in section 83(2).

Section 86: Meaning of “urban regeneration company”

339.This section sets out the detailed rules that apply for the designation of urban regeneration companies. It is based on section 79B of ICTA. The corresponding rule for income tax is in section 86 of ITTOIA.

Section 87: Expenses of research and development

340.This section gives relief for the cost of research and development undertaken by or on behalf of a company carrying on a trade. It is based on section 82A of ICTA. The corresponding rule for income tax is in section 87 of ITTOIA.

Section 88: Payments to research associations, universities etc

341.This section gives relief for payments by a company carrying on a trade to various bodies engaged in scientific research. It is based on section 82B of ICTA. The corresponding rule for income tax is in section 88 of ITTOIA.

342.The amendments to section 82B of ICTA in section 15 of F(No 2)A 2005 have effect in relation to sums paid to an association within subsection (1)(a) of this section during any accounting period of the association beginning on or after a day to be appointed by the Treasury under section 13(6) of F(No 2)A 2005.

343.Section 82B(1) of ICTA allows a deduction for “the sum paid”. So subsection (2) allows a deduction for the accounting period in which the payment is made. The wording is similar to that used in sections 69 and 77. This ensures that the timing rules for deductions in Chapter 5 of this Part of this Act which depend on payment are explicit and consistent.

344.Section 82B(4) of ICTA provides that “the Board” shall refer any question as to whether, or to what extent, activities constitute scientific research for the purposes of section 82B to the Secretary of State. Section 832(1) of ICTA defines “the Board” as “the Commissioners of Inland Revenue”.

345.In practice, the function in section 82B of ICTA is exercised by an officer of Revenue and Customs. So subsection (6) of this section provides that any question as to what constitutes scientific research must be referred to the Secretary of State by “an officer of Revenue and Customs”. This Change corresponds to Part B of Change 149 in ITTOIA (as amended by CRCA) and so brings the income tax and corporation tax codes back into line. See Change 1 in Annex 1.

Section 89: Expenses connected with patents

346.This section allows a deduction for expenses connected with patents. It is based on section 83 of ICTA. The corresponding rule for income tax is in section 89 of ITTOIA.

347.The section sets out the expenses that are allowable. The deduction is on the basis of expenses incurred. This relaxes any requirement in the source legislation that fees have to be paid before a deduction can be made. See Change 20 in Annex 1.

348.For most expenses connected with patents this rule is overridden by the rules of the intangible fixed assets regime (rewritten in Part 8 of this Act) which provide relief for trades as well as other commercial activities (see Chapter 6 of that Part). But, for a minority of cases, this section remains relevant and allows a deduction.

Section 90: Expenses connected with designs or trade marks

349.This section allows a deduction for expenses connected with designs or trade marks. It is based on section 83 of ICTA. The corresponding rule for income tax is in section 90 of ITTOIA.

350.The section sets out the expenses that are allowable. The deduction is on the basis of expenses incurred. This relaxes any requirement in the source legislation that fees have to be paid before a deduction can be made. See Change 20 in Annex 1.

351.For most expenses connected with designs or trade marks this rule is overridden by the rules of the intangible fixed assets regime (rewritten in Part 8 of this Act) which provide relief for trades as well as other commercial activities (see Chapter 6 of that Part). But, for a minority of cases, this section remains relevant and allows a deduction.

Section 91: Payments to Export Credits Guarantee Department

352.This section allows a company carrying on a trade to deduct the cost of certain payments to the Export Credits Guarantee Department (“ECGD”). It is based on section 88 of ICTA. The corresponding rule for income tax is in section 91 of ITTOIA.

353.Section 88 of ICTA refers to payments made under arrangements made by the Secretary of State in pursuance of section 11 of the Export Guarantees and Overseas Investment Act 1978. This section refers instead to arrangements made under section 2 of the Export and Investment Guarantees Act 1991 which replaced the 1978 Act.

354.Section 13(1) of the Export and Investment Guarantees Act 1991 delegates the functions of the Secretary of State under section 2 of the 1991 Act to the ECGD. So the reference to the Secretary of State in section 88 of ICTA is not rewritten in this section.

355.Section 88 of ICTA allows a trader to deduct “sums paid” to the ECGD. This section instead allows a deduction for any “sum payable” by the trader. See Change 21 in Annex 1.

Section 92: Levies etc under FISMA 2000

356.This section provides for the inclusion, in a calculation of trading profits, of certain payments arising from FISMA. It is based on section 76A of ICTA. The corresponding rule for income tax is in section 155 of ITTOIA.

357.Subsection (1) applies the section to any company that pays a “levy” and removes three minor restrictions.

Section 76A of ICTA applies only to an “authorised person”. This section removes that restriction.
The section does not reproduce the restriction in section 76A(2)(e) of ICTA for some “costs”.
A trading company that also has investment business may qualify for a deduction under this section which is denied by section 76A(1)(b) of ICTA.

See Change 22 in Annex 1.

358.Subsection (1) provides for a deduction. Most FISMA levies would be allowable expenses under the basic trade profit calculation rules. The purpose of this provision is to deal with the exceptional case where deduction of a levy would otherwise be prevented by a prohibitive rule.

359.The expenses allowable are determined by reference to FISMA. Subsections (2) and (3) provide the links with FISMA.

360.There is a similar rule about FISMA repayments in section 104.

Chapter 6: Trade profits: receipts

Overview

361.This Chapter contains provisions on how various receipts are to be treated in calculating the profits of a trade.

Section 93: Capital receipts

362.This section is the mirror image of section 53 (capital expenditure). It is new. The corresponding rule for income tax is in section 96 of ITTOIA.

363.Subsection (1) sets out the general rule that items of a capital nature are not to be treated as receipts of a trade.

364.It is a long-established principle that capital receipts are ignored in calculating tax on income.

365.Subsection (2) disapplies the general rule in subsection (1) where there is statutory provision for a capital sum to be taken into account as a receipt in calculating the profits of a trade. See, for example, section 103 (sums recovered under insurance policies etc) and the rules in Part 5 (loan relationships), Part 7 (derivative contracts) and Part 8 (intangible fixed assets).

Section 94: Debts incurred and later released

366.If an amount owed by a company is released, this section treats the amount released as a trading receipt. The section is based on section 94 of ICTA. The corresponding rule for income tax is in section 97 of ITTOIA.

367.Subsection (1)(c) sets out the exception that applies if the debt is released as part of a “statutory insolvency arrangement”, which is defined in section 834(1) of ICTA.

368.The source legislation treats the sum as a receipt “in the period in which the release is effected”. The section makes it clear that the period in question is an accounting period. If the company is no longer carrying on the trade when the debt is released, the amount released is charged to tax as a post-cessation receipt (see section 193 of this Act).

Section 95: Acquisition of trade: receipts from transferor’s trade

369.This section sets out what happens if a successor to a trade receives a sum that arose from the trade when it was carried on by the predecessor. It is based on section 106 of ICTA. The corresponding rule for income tax is in section 98 of ITTOIA.

370.If a sum arises from a trade that has ceased, the usual rule is that the sum is a post-cessation receipt (see Chapter 15 of this Part). But, if the right to receive the sum is transferred with the trade to a company which takes over the trade, this section applies instead.

371.Subsection (1) refers to a “person” ceasing to carry on a trade. That person may be one of the partners in a firm. If a firm ceases to carry on a trade, all its partners must also cease. So the section applies in either case.

372.Subsection (2) treats the sum as a receipt of the successor’s trade. It is not charged on the predecessor. The source legislation treats the sum as a receipt “in the period in which it is received”. The section makes it clear that the period in question is an accounting period.

373.Different rules apply if the right to receive sums is transferred to a person who does not take over the trade (see section 194 of this Act).

Section 96: Reverse premiums

374.This is the first of a group of five sections based on section 54 of, and Schedule 6 to, FA 1999. This legislation was introduced following the decision of the Privy Council in Commissioner of Inland Revenue v Wattie and another (1998), 72 TC 639(5). An inducement (a “reverse premium”) paid to a tenant to take a lease of land is taxed as income in the hands of the tenant. The corresponding rules for income tax are in sections 99 to 103 of ITTOIA.

375.Subsection (2) introduces the term “the recipient”, which is used throughout this group of sections.

376.Subsection (3) identifies the transaction which gives rise to a reverse premium.

377.Subsection (4) refers to an interest in land being “granted”. This distinguishes such a transaction from one in which an interest is assigned. The general rule is that a charge to tax on a reverse premium arises on the grant of an interest in land but not on its assignment. But assignment can give rise to a charge if the assignor is connected with the grantor.

378.The meaning of “reverse premium” in this section is applied for the purpose of section 250 by subsection (6) of that section.

379.Schedule 2 to this Act rewrites the transitional provision in section 54(2) of FA 1999. These sections do not apply to pre-1999 reverse premiums.

Section 97: Excluded cases

380.This section brings together the various exclusions from the charge on reverse premiums. It is based on paragraphs 5 and 7 of Schedule 6 to FA 1999. The corresponding rule for income tax is in section 100 of ITTOIA.

381.Subsection (2) rewrites the rule in paragraph 6 of Schedule 6 to FA 1999 as it was before it was repealed by ITTOIA. It is possible for a company to receive a reverse premium in connection with a property transaction entered into by an individual involving the individual’s only or main residence. The income tax relief is rewritten in section 100(2) of ITTOIA. It was not intended that ITTOIA should withdraw this relief from a company. So this subsection restores the position as it was before ITTOIA. See Change 23 in Annex 1.

Section 98: Tax treatment of reverse premiums

382.This section treats a reverse premium as a revenue receipt, rather than a capital item. It is based on paragraph 2 of Schedule 6 to FA 1999. The corresponding rule for income tax is in section 101 of ITTOIA.

383.If the transaction giving rise to the reverse premium is at arm’s length there is no statutory timing rule; the normal accountancy treatment applies. If the transaction is not at arm’s length, there is a timing rule in section 99.

Section 99: Arrangements not at arm’s length

384.If a property transaction is not at arm’s length there is a special timing rule. This section provides that the whole of the reverse premium is taxed when the property transaction is entered into. It is based on paragraph 3 of Schedule 6 to FA 1999. The corresponding rule for income tax is in section 102 of ITTOIA.

385.Subsection (1) refers to “connected persons”. That expression is defined for the purpose of this section in section 100.

386.Subsection (5) deals with the case where the recipient enters into a property transaction for the purposes of a trade but the trade has not yet started. In that case, the reverse premium is brought into account when the trade starts.

Section 100: Connected persons and property arrangements

387.This section sets out the special meaning of “connected persons” that applies for the group of sections on reverse premiums. The basic definition is in section 1316, which imports the definition of “connected persons” in section 839 of ICTA. The section is based on paragraph 8 of Schedule 6 to FA 1999. The corresponding rule for income tax is in section 103 of ITTOIA.

Section 101: Distribution of assets of mutual concerns

388.This section deals with the consequences for a trader of receiving a distribution from a mutual concern that is a corporate body. It is based on section 491 of ICTA. The corresponding rule for income tax is in section 104 of ITTOIA.

389.Subsection (1) sets out the circumstances in which a distribution may give rise to a tax charge. It refers to a distribution out of assets that “represent profits” of the concern. This is not quite the same as “assets of a body corporate, other than assets representing capital”, as identified in section 491(1) of ICTA. The difference is that the section excludes assets that represent capital gains of the concern. See Change 24 in Annex 1.

390.Subsection (2) is the general rule: the distribution is treated as a receipt of the trade.

391.Subsection (3) deals with the case where the distribution is received after the trade has ceased. The section treats the distribution explicitly as a post-cessation receipt. See Change 19 in Annex 1.

392.In this Part the rules apply to the company carrying on a trade rather than to the trade itself. So section 337(1)(a) of ICTA is not needed to treat a trade as ceasing when there is a change of company carrying it on. Subsection (3) of this section reproduces the combined effect of section 491(3)(b) and (4) of ICTA.

393.Subsection (5) is a special rule that applies if the right to receive a distribution is transferred other than at arm’s length. Market value is substituted for the actual amount received.

394.The section omits the references to mutual insurance and industrial and provident societies in section 491(9) and (11) of ICTA. Those examples were intended to help readers but there is no comprehensive definition of “mutual business”. The subsections were intended to deal with particular doubts which were common when the provision was enacted in 1964. Those doubts do not exist today.

Section 102: Industrial development grants

395.This section deals with the treatment of certain grants under the Industrial Development Act 1982 or the corresponding provision in Northern Ireland. It is based on section 93 of ICTA. The corresponding rule for income tax is in section 105 of ITTOIA.

396.This section does not rewrite the references in section 93(2)(a) of ICTA to section 7 or 8 of the Industry Act 1972 or in section 93(2)(b) to section 1 of the Industries Development Act (Northern Ireland) 1966 and section 4 of the Industries Development Act (Northern Ireland) 1971. These enactments were repealed or replaced in 1982 and there are no outstanding instalments under the old enactments.

397.Section 93(3) of ICTA disapplies section 93(1) of ICTA in the case of grants towards the payment of all or part of a corporation tax liability made under Article 7 of the Industrial Development (Northern Ireland) Order 1982. Grants in respect of corporation tax liabilities cannot be made under any of the enactments listed in subsection (1) of this section other than Article 7 of the Industrial Development (Northern Ireland) Order 1982. So subsection (2) excludes all grants in respect of corporation tax liabilities.

Section 103: Sums recovered under insurance policies etc

398.This section concerns insurance recoveries. It is based on section 74(1)(l) of ICTA. The corresponding rule for income tax is in section 106 of ITTOIA.

399.Section 74(1)(l) of ICTA prohibits the deduction in computing a trader’s profits of “any sum recoverable under an insurance or contract of indemnity”. This is regardless of whether the sum is revenue or capital in nature.

400.When a sum is recovered under an insurance policy or contract of indemnity in an accounting period other than the accounting period in which the event in respect of which it is received occurs, section 74(1)(l) of ICTA requires any deduction made in respect of that event to be adjusted to reflect the recovery.

401.This section provides instead that a capital sum recovered by a trader under an insurance policy or a contract of indemnity is brought into account as a receipt in calculating the profits of the trade to the extent that the loss or expense has been deducted in calculating those profits. This means that the timing of the receipt will follow the accountancy treatment. See Change 25 in Annex 1.

402.No special provision is needed for sums of a revenue nature.

Section 104: Repayments under FISMA 2000

403.This section provides for the inclusion in a calculation of trading profits of certain receipts arising from FISMA. It is based on section 76A of ICTA. The corresponding rule for income tax is in section 155 of ITTOIA.

404.Subsection (2) provides for a repayment under FISMA to be treated as a trade receipt. Most FISMA repayments would be charged to tax under the basic trade profit calculation rules. The purpose of this provision is to deal with the exceptional case where the FISMA repayment would not otherwise be a trade receipt.

405.The receipts chargeable are determined by reference to FISMA. Subsections (3) and (4) provide the links with FISMA.

406.There is a similar rule about FISMA levies etc in section 92.

Chapter 7: Trade profits: gifts to charities etc

Section 105: Gifts of trading stock to charities etc

407.This section sets out the main rule for gifts of trading stock. It is based on sections 83A and 84 of ICTA, which give relief for gifts to charities and educational establishments respectively. The corresponding rule for income tax is in section 108 of ITTOIA.

408.When a company disposes of trading stock other than in the course of a trade the general rule is that the market value of the stock is taken into account in calculating the profits of the trade (see Chapter 10 of this Part of this Act). This section sets out an exception to this general rule and applies if the company disposes of trading stock by way of gift to a charity etc.

409.There is a test for gifts to educational establishments in section 84(1)(a) of ICTA concerning the use to which the gift is put in the business of the educational establishment. There is no equivalent test in the rules for the relief for gifts to charities, in section 83A of ICTA. This section does not reproduce the condition in section 84(1)(a) of ICTA. See Change 26 in Annex 1.

410.Subsection (1) combines the ICTA reliefs for gifts to charities and gifts to educational establishments. It includes the extension of the relief to registered clubs in Part 3 of Schedule 18 to FA 2002. The relief covers gifts “for the purposes of” charities etc. See Change 27 in Annex 1.

411.The section does not require a claim by the company. In this respect, the section is different from section 84(3) of ICTA (but not from section 83A). See Change 28 in Annex 1.

412.Subsection (4) does not reproduce the references to the British Museum and the Natural History Museum. These bodies are charities within subsection (1)(a) of the section.

Section 106: Meaning of “designated educational establishment”

413.This section defines “designated educational establishment” for the purpose of section 105. It is based on section 84 of ICTA. The corresponding rule for income tax is in section 110 of ITTOIA.

414.Section 84(6) of ICTA provides that “the Board” shall refer any question as to whether a particular establishment is a designated educational establishment for the purposes of the section to the Secretary of State or the Department of Education for Northern Ireland. Section 832(1) of ICTA defines “the Board” as “the Commissioners of Inland Revenue” (to be taken as a reference to the Commissioners for Her Majesty’s Revenue and Customs, in accordance with section 50(1) of CRCA).

415.In practice, the function in section 84 of ICTA is exercised by an officer of Revenue and Customs. So subsection (3) of this section provides that any question as to whether a particular establishment is a designated educational establishment must be referred to the Secretary of State by “an officer of Revenue and Customs”. See Change 1 in Annex 1.

416.The National Assembly for Wales (Transfer of Functions) Order 1999 (SI 1999/672) devolves the functions of the Secretary of State under section 84 of ICTA to the Welsh Ministers. So this section refers to the Welsh Ministers (and the Assembly).

Section 107: Gifts of medical supplies and equipment

417.This section sets out the main rule for gifts of medical supplies and equipment. It is based on section 55 of FA 2002. It also gives a trading deduction for expenses connected with such gifts.

418.As in section 105, this section overrides the rule in Chapter 10 of this Part of this Act that the market value of a gift should be treated as a trade receipt.

419.Subsection (3) is the special rule that the costs of getting the medical supplies and equipment to the recipient are allowed as a deduction.

420.Subsection (5) is based on section 55(6) of FA 2002. The power of the Treasury to exclude certain medical supplies and equipment has not been used.

421.There is no corresponding rule for income tax. So section 55 of FA 2002 is repealed by Schedule 1 to this Act. See Change 29 in Annex 1.

Section 108: Receipt of benefits by donor or connected person

422.This section sets out what happens if a company receives a benefit in connection with a gift of trading stock or plant and machinery. It is based on sections 83A and 84 of ICTA and section 55 of FA 2002. The corresponding rule for income tax is in section 109 of ITTOIA.

423.Subsection (1) applies the section if a benefit is received by the company or a connected person. Section 82 of this Act (contributions to local enterprise organisations or urban regeneration companies) uses the same approach. The benefit must be in connection with a gift for which relief has been given under section 105, section 107 or the corresponding capital allowances rule.

424.Subsection (2) extends the recovery charge to a benefit attributable to the costs associated with making a gift of medical supplies and equipment.

425.If the donor is still carrying on the trade when the benefit is received the value of the benefit is treated as a trading receipt.

426.If the donor has ceased to carry on the trade when the benefit is received the value of the benefit is treated as a post-cessation receipt. This treatment replaces the general charge under Schedule D Case VI. See Change 19 in Annex 1.

Chapter 8: Trade profits: herd basis rules

Overview

427.This Chapter gives the rules for what is commonly known as the “herd basis”. It is based on Schedule 5 to ICTA. The corresponding rules for income tax are in Chapter 8 of Part 2 of ITTOIA.

428.The object of the herd basis is to treat a herd of animals in a similar fashion to a capital asset. Without the election the individual animals in the herd would be treated as separate items of trading stock. With the election:

there is no tax allowance for the initial cost of, or any subsequent increase in the size of, the herd;
the net cost of replacing animals in the herd is allowable;
any profit or loss on the sale of a single animal or a small number of animals from the herd without replacement is included in the profits of the trade; and
if the whole, or a substantial part, of the herd is sold and not replaced the resulting profit or loss is not included in the profits of the trade.

429.An election can be made only in respect of animals kept for their produce.

Section 109: Election for application of herd basis rules

430.This section allows a taxpayer to elect for the “herd basis rules” to apply and introduces some basic concepts. It is based on paragraphs 1, 2, 3 and 9 of Schedule 5 to ICTA. The corresponding rules for income tax are in section 111 of ITTOIA.

431.Subsection (1) allows a company or firm of which a company is a member to make a “herd basis election” if it keeps, or has kept, a “production herd”. “Production herd” is defined in section 110(1)(c). The effect of a “herd basis election” is that the “herd basis rules” apply. These rules are set out in sections 112 to 121. The time limits for making the election are set out in sections 122 to 124.

Section 110: Meaning of “animal”, “herd”, “production herd” etc

432.This section provides various definitions used in the Chapter. It is based on paragraphs 8 and 9 of Schedule 5 to ICTA. The corresponding rules for income tax are in section 112 of ITTOIA.

433.This section would be the natural home for the rule in paragraphs 7 and 9(5) of Schedule 5 to ICTA that prevents the herd basis rules applying to working animals. Paragraphs 7 and 9(5) of Schedule 5 to ICTA exclude certain animals from being part of a production herd. These are animals kept for the work they do in connection with the trade or those kept for public exhibition, or racing or other competitive purposes. This rule is unnecessary because animals in a production herd must be kept wholly or mainly for the sake of their produce. So the exclusions are not rewritten.

434.Subsection (1)(a) rewrites the definition of “animal” in paragraph 9 of Schedule 5 to ICTA. Most of the definitions in paragraph 9 of Schedule 5 to ICTA refer to “animals and other living creatures”. The main reason for the reference to “other living creatures” is to make clear that the Schedule applies to birds.

435.Subsection (1)(c) rewrites the definition of “production herd” in paragraph 8(5) of Schedule 5 to ICTA. Herd basis elections are made by reference to classes of production herd. See section 122. Section 111(2) identifies when different production herds are treated as being of the same class.

436.Subsection (6) makes clear that an immature animal can be treated as added to the herd when it becomes mature. There is a definition of maturity for female animals in section 111(5).

Section 111: Other interpretative provisions

437.This section provides further definitions. It is based on paragraphs 3, 8 and 9 of Schedule 5 to ICTA. The corresponding rules for income tax are section 113 of ITTOIA.

438.Subsection (2)(a) applies if production herds of animals of different species are kept for the same product; for example, a herd of cows and a herd of goats both kept for milk production. Each herd satisfies the definition of production herd. Subsection (2)(a) prevents them being treated as of the same class.

439.Subsection (2)(b) prevents animals of the same species being treated as of the same class if they are kept for different products; for example, one herd of cows kept for milk production and another herd of cows kept for its calves.

440.Subsection (6) clarifies what is meant by “a substantial part of the herd”. This is a question of fact depending on the circumstances. But 20% of the herd is always regarded as substantial. This change clarifies this practice. This change reproduces Change 32 in ITTOIA. See Change 30 in Annex 1.

441.The following sections refer to “a substantial part of the herd”.

Section 116(1) (sale of animals from the herd);
Section 117(1) (sale of whole or substantial part of herd);
Section 118(4) and (5) (acquisition of new herd begun within five years of sale);
Section 120(1) (replacement of part sold within five years of sale); and
Section 124(1) (slaughter under disease control order).

Section 112: Initial cost of herd and value of herd

442.This section sets out the treatment of the initial cost, and value, of the herd. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 114 of ITTOIA.

Section 113: Addition of animals to herd

443.This section sets out the treatment of additions to the herd. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 115 of ITTOIA.

444.Subsection (1) makes clear that there is a difference between additions, to which this section applies, and replacements dealt with in section 114.

445.Subsection (2) prevents a deduction for the cost of the additional animal. It is a similar rule to section 112(1).

Section 114: Replacement of animals in herd

446.This section sets out the treatment if an animal in the herd is replaced. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 116 of ITTOIA.

447.Subsection (1) introduces the terms “old animal” to describe an animal leaving the herd and “new animal” to describe the animal that replaces it. The circumstances in which an animal is treated as sold and the meaning of “sale proceeds” are extended by the definitions in section 111(3) and (4).

448.Subsection (4) deals with the deduction due for the replacement animal. The basic principle in paragraph 3(4)(b) of Schedule 5 to ICTA is that the cost of the second animal is deducted as a trading expense. But paragraph 3(4)(b) of Schedule 5 to ICTA provides for an exception - “in so far as that cost consists of such costs as are allowable apart from the provisions of this Schedule as deductions in computing profits of farming under Case I of Schedule D”.

449.It is not clear from ICTA what these costs are. In fact the exception is aimed at the case where the replacement animal comes from trading stock. Here the costs of breeding or acquiring it and, if relevant, rearing it to maturity have already been allowed. The farmer is not allowed a double deduction for costs that have already been allowed.

450.This section does not reproduce that part of paragraph 3(4)(b) of Schedule 5 to ICTA which refers to the cost of the new animal being subject to paragraph 3(6) of Schedule 5 to ICTA. This reference appears to be an error made in the 1988 consolidation of ICTA. It is generally accepted that it is the rule in paragraph 3(4)(a), and not paragraph 3(4)(b), of Schedule 5 to ICTA which should be qualified by paragraph 3(6) of Schedule 5 to ICTA.

Section 115: Amount of receipt if old animal slaughtered under disease control order

451.This section limits the amount of the receipt taxed under section 114 if the old animal is slaughtered under a disease control order. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 117 of ITTOIA.

452.Paragraph 3(6) of Schedule 5 to ICTA restricts the amount of the receipt to “the amount allowable as a deduction”. It is not immediately clear what this amount is. This section makes clear that it is the amount allowable as a deduction in respect of the new animal. This is called “the equivalent amount for the new animal”.

453.Subsections (4) and (5) define “the equivalent amount for the new animal”. Subsection (4) deals with the case in which the replacement animal comes from the farmer’s trading stock. Subsection (5) deals with all other cases.

Section 116: Sale of animals from herd

454.This section sets out the rules that apply if an animal is sold from the herd and not replaced. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 118 of ITTOIA.

Section 117: Sale of whole or substantial part of herd

455.This is the first of three sections that set out the rules relating to the sale of all or a substantial part of the herd within 12 months. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 119 of ITTOIA.

456.The section merges the rules in paragraph 3(7) to (9) of Schedule 5 to ICTA. This Change reproduces Change 33 in ITTOIA. See Change 31 in Annex 1.

Section 118: Acquisition of new herd begun within 5 years of sale

457.This section sets out the rules that apply if, following the sale of the herd (either all at once or within 12 months), the farmer begins to acquire a new herd within five years. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 120 of ITTOIA.

458.Subsection (4) applies if the number of animals in the new herd is smaller than the number of animals in the old herd but the difference is not substantial. See Change 31 in Annex 1.

459.Subsection (7) clarifies what is meant by a “substantial difference”. See Change 30 in Annex 1.

Section 119: Section 118: sale for reasons outside farmer’s control

460.This section limits the amount taxed as a trade receipt under section 118 if the sale is for reasons outside the farmer’s control and the replacement animal is of a worse quality. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 121 of ITTOIA.

461.The section is similar to section 115 although it is not limited, as that section is, to disposals under a disease control order. The source legislation for both sections refers to the amount of the trading receipt being restricted to “the amount allowable as a deduction”. It is not immediately clear what this amount is.

462.Subsection (2) makes clear that it is the amount allowable as a deduction in respect of the new animal. The section calls this “the equivalent amount for the new animal”.

463.Subsections (3) and (4) define “the equivalent amount for the new animal”. Subsection (3) deals with the case in which the replacement animal comes from the farmer’s trading stock. Subsection (4) deals with all other cases.

Section 120: Replacement of part sold begun within 5 years of sale

464.This section sets out the rules that apply if, following the sale of a substantial part of a herd (either all at once or within a year), the farmer begins to replace it within five years. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 122 of ITTOIA.

Section 121: Section 120: sale for reasons outside farmer’s control

465.This section limits the amount taxed as a trade receipt under section 120 if the sale is for reasons outside the farmer’s control and the new animal is of a worse quality. It is based on paragraph 3 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 123 of ITTOIA.

466.The section is similar to section 115 although it is not limited, as that section is, to disposals under a disease control order. The source legislation for both sections refers to the amount of the trading receipt being restricted to “the amount allowable as a deduction”. It is not immediately clear what this amount is.

467.Subsection (2) makes clear that it is the amount allowable as a deduction in respect of the new animal. The section calls this “the equivalent amount for the new animal”.

468.Subsections (3) and (4) define “the equivalent amount for the new animal”. Subsection (3) deals with the case in which the replacement animal comes from the farmer’s trading stock. Subsection (4) deals with all other cases.

Section 122: Herd basis elections

469.This section sets out the rules for the making of herd basis elections. It is based on paragraph 2 of Schedule 5 to ICTA. The corresponding rules for income tax are in section 124 of ITTOIA.

470.Paragraph 2 of Schedule 5 to ICTA requires that the election must be made “in writing” and to an officer of Revenue and Customs. The general rules in Part 7 of Schedule 18 to FA 1998 that apply to claims and elections mean it is not necessary to repeat these requirements.

471.Subsection (2) sets out the time limits for making the election. The election is made by the farmer. The farmer can be a company or a firm in which one of the partners is a company. The time limits are different depending on whether the farmer is a company or a firm.

472.If the farmer is a firm the same time limit applies whether the partners are all income tax payers, all corporation tax payers or a combination of the two. Because of the possible involvement of income tax payers the time limit is set by reference to income tax years. The time limit in section 122(2)(b) is the same as that in section 124(2)(a) of ITTOIA.

473.The different time limits for a company or a firm are reflected in the other two sections that deal with herd basis elections, sections 123 and 124. Those sections identify the difference by referring to the “accounting period” (company) or the “period of account” (firm).

474.Subsection (4) expands on subsection (1), which provides that an election must specify the class of production herd to which it relates. This means separate elections must be made for each class of production herd and that an election may not relate to more than one class of production herd. Separate elections may be made for different classes.

475.Subsection (7) identifies the period for which the herd basis election has effect. This depends on whether the farmer is a company (accounting period) or firm (period of account).

476.Subsection (8) deals with the case in which the farmer is a firm and there is a change in the partners in the firm. Paragraph 2 of Schedule 5 to ICTA refers to “the farmer making the election”. If the farming trade is carried on in partnership, the “farmer” means the firm. If there is a change in the members of a firm, the question arises whether there is a new “farmer”. Subsection (8) makes clear that there is.

Section 123: Five year gap in which no production herd kept

477.This section deals with the case where there is a period of at least five years when the farmer does not keep a production herd of the particular class for which a herd basis election has been made. It is based on paragraph 4 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 125 of ITTOIA.

478.Subsection (2) explains the consequences for the herd basis rules if the farmer starts to keep another production herd of the same class after the end of the five year period. Subsection (2) enacts an extra-statutory practice. See Change 32 in Annex 1. This Change reproduces Change 36 in ITTOIA.

Section 124: Slaughter under disease control order

479.This section sets out the rules for making an election outside the normal time limits following slaughter under a disease control order. It is based on paragraph 6 of Schedule 5 to ICTA. The corresponding rules for income tax are in section 126 of ITTOIA.

Section 125: Preventing abuse of the herd basis rules

480.This section provides anti-avoidance rules that may apply if a farmer transfers the whole or part of a production herd in a transaction that is not an open market sale. It is based on paragraph 5 of Schedule 5 to ICTA. The corresponding rules for income tax are in section 127 of ITTOIA.

481.Section 164(3) in Chapter 11 of this Part (trade profits: valuation of stock) makes clear that this section takes priority over the provisions of that Chapter.

Section 126: Information if election made

482.This section allows an officer of Revenue and Customs to obtain information about the animals kept for the purposes of the trade. It is based on paragraph 10 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 128 of ITTOIA.

Section 127: Further assessment etc if herd basis rules apply

483.This section enables effect to be given to a herd basis election made after an assessment has become final, either by amendment or by repayment of tax. It is based on paragraph 11 of Schedule 5 to ICTA. The corresponding rule for income tax is in section 129 of ITTOIA.

Chapter 9: Trade profits: other specific trades

Overview

484.This Chapter contains special rules for the taxation of particular trades.

Section 128: Taxation of amounts taken to reserves

485.This section contains a special rule for the treatment of securities held by a company carrying on a banking or insurance business, or a business of dealing in securities, and on which profits and losses are calculated by reference to the “fair value” of the securities rather than on a realisation basis. It is based on section 472A of ICTA. The corresponding rule for income tax is in section 149 of ITTOIA.

486.Financial assets can be dealt with in a number of ways for accounting purposes.

487.Where a company dealing in securities uses United Kingdom generally accepted accountancy practice (“UK GAAP”), profits and losses calculated by reference to the fair value of securities treated as trading assets are taken to profit and loss account. “Fair value” is an accounting term, the meaning of which is broadly equivalent to market value. UK GAAP is defined in section 50(4) of FA 2004.

488.Where a company dealing in securities prepares accounts in accordance with international accounting standards, the securities would usually fall to be accounted for as at fair value, in accordance with paragraph 9 of International Accounting Standard 39 (“IAS 39”), and any profits and losses calculated by reference to the fair value of securities taken to the profit and loss account. But the company may instead account for certain securities as “available for sale” if they do not meet the conditions for being treated as at fair value through profit or loss. In such a case profits and losses calculated by reference to the fair value of securities are taken initially to a statement of changes in equity.

489.Since 2005, UK GAAP in this area follows IAS 39. Under UK GAAP the profits and losses on “available for sale” assets are taken to the statement of total recognised gains and losses.

490.Section 46 of this Act provides that the calculation of profits or losses from a trade must be based on accounts drawn up in accordance with generally accepted accountancy practice, subject to any adjustment authorised by law. Implicit in this rule is that the profits must appear in the profit and loss account. There is no tax law (apart from this section) which allows profits on equity securities taken to any form of reserve to be treated for corporation tax purposes as if they were taken to profit and loss account.

491.Subsection (3)(b) provides that subsection (2) does not apply to “an amount recognised for accounting purposes by way of correction of a fundamental error”. This refers to the requirement in International Accounting Standard 8 (Accounting Policies, Changes in Accounting Estimates and Errors) that the correction of a fundamental error should be treated as a prior period adjustment. “For accounting purposes” is defined in section 832(1) of ICTA as “for the purposes of accounts drawn up in accordance with generally accepted accounting practice”.

492.Section 472A(4)(a) of ICTA defines “securities” to include rights, interests or options treated as shares for the purposes of sections 126 to 136 of TCGA by virtue of sections 135(5) or 136(5) of TCGA. Sections 135(5) and 136(5) of TCGA define “shares” in the case of a company with no share capital as “any interests in the company possessed by members of the company.” So subsection (4)(c) of this section defines “securities” to include such interests.

Section 129: Conversion etc of securities held as circulating capital

493.This section provides for relief on the conversion or exchange of securities held as part of the circulating capital of a company dealing in securities. It is based on section 473 of ICTA. The corresponding rule for income tax is in section 150 of ITTOIA.

494.Section 473(1) of ICTA applies to securities to which a company carrying on a banking or insurance business, or a business of dealing in securities, is beneficially entitled, the profits from the sale of which would “form part of the trading profits of that business”. This section does not stipulate that the company must be beneficially entitled to the securities in question. See Change 33 in Annex 1.

495.Subsection (3) excludes securities brought into account at “fair value” in calculating the profits for the period in which the relevant transaction takes place. These are instead dealt with in section 128.

496.Section 137(1) of TCGA provides that sections 135 and 136 of TCGA do not apply to an exchange of shares unless the exchange is:

effected for bona fide commercial reasons and does not form part of a scheme or arrangements of which the main purpose, or one of the main purposes, is avoidance of liability to capital gains tax or corporation tax.

497.Subsection (7) of this section adapts the rule in section 137(1) of TCGA to include the avoidance of income tax. This covers, for example, a scheme or arrangement the purpose of which is the avoidance of income tax by a director of, or participator in, the company rather than the avoidance of corporation tax by the company itself.

Section 130: Traders receiving distributions etc

498.This section provides that distributions of a UK resident company, and payments “representative of” such distributions, are brought into account in calculating the profits of a trade if those distributions and payments are receipts or expenses of the trade on first principles. It is based on section 95 of ICTA. The corresponding rule for income tax is in section 366(1) of ITTOIA.

499.A payment “representative of” a distribution may arise, for example, if shares are on loan at the dividend date. The dividend is received by the person to whom the shares are lent. A payment made by that person to compensate the lender for the dividend which would have been received if the shares had not been lent “represents” that dividend.

500.Section 95 of ICTA operates by bringing the distribution or representative payment into account in calculating the profits of a company which is a dealer in relation to that distribution or payment. That company holds the shares in respect of which the distribution is received (or the payment made) as assets on current account rather than as investments.

501.Subsections (1) and (2) focus on the nature of the receipt rather than on the recipient. Similarly, subsections (3) and (4) focus on the nature of the payment. See Change 34 in Annex 1.

502.Section 1285 of this Act is the general rule that no liability to corporation tax arises on dividends or other distributions of a UK resident company. Subsection (2) of this section disapplies section 1285 in the case of a UK distribution or a payment representing such a distribution.

503.Section 1305 of this Act is the general rule that no deduction is allowed in respect of a dividend or other distribution. Schedule 23A to ICTA contains special rules for the treatment of amounts representative of dividends on UK shares. In accordance with paragraph 2(2)(b) of Schedule 23A, a payment representative of a UK dividend is treated, in relation to the company by which it is paid, as if it were a dividend on its own shares.

504.Subsections (3) and (4) override section 1305. So a payment representative of a UK distribution is to be taken into account in calculating the corporation tax profits of the company making the payment.

505.Subsection (3) applies to a payment which would be allowed but for section 1305. A payment in respect of which a deduction is disallowed under paragraph 7A of Schedule 23A of ICTA is not within subsection (3). So it is not necessary to rewrite section 95(1C) ICTA in this section.

Section 131: Incidental costs of issuing qualifying shares

506.This section allows a deduction to building societies for the incidental costs of issuing shares. It is based on section 477B of ICTA.

507.Most shares issued by building societies fall with the loan relationship rules in Parts 6 and 7 of this Act. This is because they are excluded from the definition of “share” in section 476(1) of this Act. The result is that most of the incidental costs associated with the issue of the shares are relieved under section 307 of this Act.

508.But it is possible for some building society shares not to qualify as loan relationships. And, even if they do, some incidental costs may not fall within section 307. So this section deals with the costs that are not relieved under the loan relationship rules.

Section 132: Dividends etc granted by industrial and provident societies

509.This section ensures that a “divi” paid by an industrial and provident society is allowed as a trading deduction. It is based on section 486 of ICTA.

510.The main rules about industrial and provident societies are in Chapter 5 of Part 6 of this Act (loan relationships).

511.A definition of “registered industrial and provident society” is inserted into section 834(1) of ICTA (see Schedule 1).

512.Subsection (1) sets out the sort of society to which the section applies. An example is an agricultural co-operative that sells (or buys) on behalf its farming members.

513.Subsection (2) is the trading income rule. In practice it is likely that the payments with which the section is concerned would be allowable under the normal trading income rule. But this section puts the matter beyond doubt.

514.The source legislation refers to the calculation of any profits “for the purpose of any provision of the Tax Acts relating to profits chargeable under Case I of Schedule D”. It is probable that the quoted words, read with sections 21A and 21C of ICTA, apply the rule for the purpose of a calculation of Schedule A profits. But, in the context of a property business, a “divi” is not paid “on account of the recipient’s transactions with the society”. So in practice the rule does not apply to a property business and the section refers simply to calculating the profits of the trade.

515.Subsection (5) is a signpost to the rule (inserted into ICTA by Schedule 1) that the “divi” is not a distribution.

Section 133: Annual payments paid by a credit union

516.This section denies a trading deduction for an annual payment made by a credit union. It is based on section 487 of ICTA.

517.Most credit unions do not carry on a trade for tax purposes. This is the consequence of section 40. But it is possible that some of the activities of a credit union fall outside the scope of the rule in that section. In that case, a calculation of the profits of the trade is required.

518.It is also possible that a credit union carries on a property business. So section 210(2) applies the trading income rule to property businesses.

Section 134: Purchase or sale of woodlands

519.This section applies to a person carrying on a trade of dealing in land who buys and sells land on which trees are growing. It is based on section 99 of ICTA. The corresponding rule for income tax is in section 156 of ITTOIA.

520.Any profit on the sale of the trees and underwood is tax-free because of the exemption for the occupation of commercial woodlands. See section 37 of this Act. Subsection (2) prevents the dealer in land obtaining a trade deduction for that part of the cost of the land that is attributable to the cost of the trees.

521.The legislation rewritten by subsection (2) only applies to woodlands purchased under a contract entered into on or after 1 May 1963. This limitation is preserved in Schedule 2 (transitions and savings). The corresponding provision for income tax is paragraph 42 of Schedule 2 to ITTOIA.

Section 135: Relief in respect of mineral royalties

522.This section gives relief if trade receipts include mineral royalties. It is based on section 122 of ICTA. The corresponding rule for income tax is in section 157 of ITTOIA.

523.Most mineral royalties are taxed under Chapter 7 of Part 4 of this Act. That Chapter rewrites the charge under Schedule D Case VI if rents are received from a concern listed in section 55 of ICTA. That list includes mines and quarries. In nearly all cases the rents are taxed under Chapter 7 of Part 4 of this Act as they are not received in respect of a trade. But it is possible that the receipt of the rent will be incidental to a trade. In that case section 287 of this Act provides that the rent is taxed under Part 3 of this Act. This is only likely to happen if the rent is received by a property developer in respect of land held as trading stock.

524.The mineral royalties are halved. The relief is rewritten under the italicised heading “dealers in land” because they are the traders who are most likely to benefit from the relief. But the relief is not confined to dealers in land.

Section 136: Lease premiums etc: reduction of receipts

525.This section prevents a person, carrying on a trade of dealing in land, from being taxed on all or part of a lease premium, or of certain other amounts received in respect of a lease, both as a receipt of the trade under this Part and as a receipt of a property business under Part 4 of this Act. It is based on section 99(2) and (3) of ICTA. The corresponding rule for income tax is in section 158 of ITTOIA.

Section 137: Mineral exploration and access

526.This section deals with intangible drilling costs of production wells in the oil and gas industry. It is based on section 91C of ICTA. The corresponding rule for income tax is in section 161 of ITTOIA.

527.Intangible costs are those which do not result in the acquisition or creation of machinery or plant. An example would be the cost of hiring a drilling rig. Production wells are wells that are drilled after the presence of oil in an area has been established and which are used to extract the oil.

528.Before the enactment of section 91C of ICTA, a deduction was allowed for the intangible drilling costs of the second and subsequent production wells in any area. This reflected a Special Commissioners decision in 1920 that this expenditure is of a revenue nature. This section disallows a deduction for such costs. It does this by denying a deduction for expenditure which, if it had been carried out while exploring for oil, would not have been allowed as a deduction.

529.These costs are capital expenditure and qualify for mineral extraction capital allowances (see Part 5 of CAA).

Section 138: Payments by companies liable to pool betting duty

530.This section gives a special deduction to companies which pay pool betting duty. It is based on those parts of section 126 of FA 1990 and section 121 of FA 1991 which relate to the calculation of the profits of traders. The corresponding rule for income tax is in section 162 of ITTOIA.

531.In 1990, following the Hillsborough disaster, pool betting duty was reduced on condition that the money saved be paid to the Football Trust 1990 to implement Lord Justice Taylor’s recommendations on safety and comfort at football grounds. In 1991 the duty was reduced again, this time on condition that the money be paid to the Foundation for Sport and the Arts, a charitable trust which supports athletic sports and games and promotes the arts. The reductions were initially for a limited period, but have so far been maintained.

532.Subsection (1) sets out the circumstances in which the section applies. It introduces the expression “qualifying payment”.

533.Subsection (2) defines a “qualifying payment” to which the section applies. It does not specify that payments in consequence of the 1990 reduction in pool betting duty must be paid for football safety and comfort, and that payments in consequence of the 1991 reduction must be paid to the Foundation for Sport and the Arts. Instead the section applies to a payment for either purpose in consequence of any reduction in pool betting duty. See Change 35 in Annex 1.

534.The section retains a general description of the payments, without identifying the bodies which were the targets of the original legislation. It is clear that payments made as a consequence of a reduction in pool betting duty to either body would qualify for relief under the section.

535.The source legislation is restricted to the 1990 and 1991 reductions in pool betting duty. This section applies to payments made in consequence of any reduction in the duty. See Change 36 in Annex 1.

536.Subsection (3) is the rule that allows the payments as a trading deduction. Without this rule the payments might be disallowed because they are not made wholly and exclusively for the purposes of the company’s trade.

Section 139: Deduction for deemed employment payment

537.This section sets out the trading income rules that were originally part of the “IR35” scheme for the taxation of workers supplied by an intermediary. It is based on paragraph 17 of Schedule 12 to FA 2000. The corresponding rule for income tax is in section 163 of ITTOIA.

538.The worker is treated as receiving a “deemed employment payment” and is taxed accordingly (see Chapter 8 of Part 2 of ITEPA). This section ensures that an equivalent amount is allowed as a trading deduction in calculating the profits of the intermediary.

539.Subsection (3) is a timing rule. Generally, the deemed employment payment is treated as made at the end of the tax year (see section 50(3) of ITEPA). In some circumstances the payment is treated as made earlier (see section 57 of ITEPA). In either case, the trading deduction is given for the period of account in which the payment is treated as made.

540.Subsection (4) is the rule that prevents any double deduction. It caters for the possibility that the payment may qualify as a trading deduction on first principles and also qualify as a trading deduction in a period of account different from that specified in subsection (3).

Section 140: Special rules for partnerships

541.This section sets out two additional rules that apply if a deduction under section 139 is to be given in calculating the trading profits of a firm. It is based on paragraph 18 of Schedule 12 to FA 2000. The corresponding rule for income tax is in section 164 of ITTOIA.

542.Section 1257 of this Act explains that “firm” is used in this Act to refer to persons carrying on a trade in partnership. It includes a limited liability partnership (see section 1273).

543.Subsection (2) is the rule that a deduction under section 139 of this Act cannot be used to create a loss in a firm. It operates by reference to the firm’s period of account. See Change 37 in Annex 1.

544.Subsection (3) is the rule that limits the trading deduction to the amount that would have been deductible if the worker had been an employee of the intermediary, plus a margin to cover the expenses of the firm.

545.In accordance with paragraph 244 of Schedule 6 to ITEPA, “deemed Schedule E payment” in paragraph 18 of Schedule 12 to FA 2000 is replaced by “deemed employment payment”. Similarly, in the same paragraph, “Schedule E” is replaced by “the employment income Parts of the Income Tax (Earnings and Pensions) Act 2003”.

546.But the specific statutory references, such as those to “paragraph 7” (of Schedule 12 to FA 2000), are covered by the general rule in paragraph 5 of Schedule 7 to ITEPA. That general rule is that any reference to a repealed provision is to be read as a reference to the rewritten provision.

547.Paragraph 7 of Schedule 12 to FA 2000 has been repealed and rewritten as section 54(1) of ITEPA. So the reference to that paragraph in paragraph 18 of Schedule 12 is to be read as a reference to section 54(1) of ITEPA. This section updates the references to paragraph 7.

Section 141: Deduction for deemed employment payments

548.This section gives a trading deduction if a managed service company (“MSC”) makes a “deemed employment payment” to a worker under section 61D of ITEPA. It is based on paragraph 10 of Schedule 3 to FA 2007. The corresponding rule for income tax is in section 164A of ITTOIA.

549.The worker is treated as receiving a “deemed employment payment” and is taxed accordingly (see Chapter 9 of Part 2 of ITEPA). This section ensures that an equivalent amount (and no more) is allowed as a trading deduction in calculating the profits of the MSC.

550.Subsection (5) prevents any double deduction. It caters for the possibility that the payment may qualify as a trading deduction on first principles and also qualify as a trading deduction in a period of account different from that specified in subsection (3).

Section 142: Deduction for site preparation expenditure

551.This section sets out the rules for expenditure on preparing a site so that it can be used for waste disposal. It is the first of four sections that deal with waste disposal. They are based on sections 91B and 91BA of ICTA. The corresponding rules for income tax are in sections 165 to 168 of ITTOIA.

552.This section covers expenditure which is not deductible because it is capital and which is not eligible for capital allowances; in other words, expenditure that would otherwise go unrelieved for corporation tax purposes.

553.Subsection (1) introduces the concept of waste materials being deposited on a “waste disposal site”, an expression defined in section 144.

554.Subsection (2) is the link to section 143, which calculates the amount of expenditure that is allowed as deduction.

555.A deduction under section 91B of ICTA is allowed only if the company makes a claim (in such form as the Commissioners for HMRC may direct) and submits such plans and other documents (if any) as the Commissioners may require. This section drops the requirement for a claim. See Change 38 in Annex 1.

556.Schedule 2 to this Act rewrites the transitional provision in section 91BA(1) of ICTA. Expenditure cannot be “inherited” if the site changed hands before March 2000.

557.Subsection (4) treats the company’s trade as the same as that of its predecessor. This is necessary because the activities taken over may amount to less than the whole of the predecessor’s trade (see subsection (3)(a)).

Section 143: Allocation of site preparation expenditure

558.This section spreads site preparation expenditure over the useful life of the site. It is based on section 91B of ICTA. The corresponding rule for income tax is in section 166 of ITTOIA.

559.Some waste disposal sites, notably in the nuclear waste industry, have preparation expenditure dating from before 6 April 1989. So this section preserves the rules for the pre-1989 expenditure.

Section 144: Site preparation expenditure: supplementary

560.This section contains the definitions of the expressions used in the waste disposal sections and sets out the rules for pre-trading expenditure. It is based on sections 91A, 91B and 91BA of ICTA. The corresponding rule for income tax is in section 167 of ITTOIA.

561.Although the definitions are expressed to apply “for the purposes of sections 142 and 143”, the definition of “waste disposal licence” is also used to define a “site restoration payment” in section 145(5).

562.In subsection (1)(b) the corresponding Northern Ireland provision is Part 2 of the Waste and Contaminated Land (Northern Ireland) Order 1997 (SI 1997/2778 (N.I.19)).

563.Subsection (1)(c) identifies more specifically the provisions described in section 167(1)(c) of ITTOIA. It reflects the amendments to section 91A(6) of ICTA made by:

the Pollution Prevention and Control (England and Wales) Regulations (SI 2000/1973);
the Pollution Prevention and Control (Scotland) Regulations (SI 2000/323); and
paragraph 3 of Schedule 11 to the Pollution Prevention and Control Regulations (Northern Ireland) 2003 (SR 2003/46).

Section 145: Site restoration payments

564.This section deals with payments for the restoration of a site after it has been used for waste disposal. It is based on section 91A of ICTA. The corresponding rule for income tax is in section 168 of ITTOIA.

565.In subsection (6)(a), (c) and (d) the corresponding Northern Ireland provision is Article 40 of the Planning (Northern Ireland) Order 1991 (SI 1991/1220 (N.I. 11)).

Section 146: Cemeteries and crematoria: introduction

566.This section, and the following three sections, contain special rules for companies carrying on a trade of operating a cemetery or crematorium. They are based on section 91 of ICTA. The corresponding rules for income tax are in sections 169 to 172 of ITTOIA.

567.Without special provisions, no allowance would be due for the cost of land sold for interments, memorial gardens attached to crematoria or the surrounding land and buildings because expenditure on such land and buildings is in the nature of capital. The provisions in sections 146 to 149 recognise that most land and buildings in a cemetery or memorial garden are of little value when the cemetery or memorial garden is full.

568.This section introduces the provisions in sections 147 to 149 and defines some of the terms used in those sections.

569.Section 91(7)(a) of ICTA adapts the rules for cemeteries in section 91 of ICTA to crematoria and treats “land which is devoted wholly to memorial garden plots” as a cemetery, or as land in a cemetery. Subsection (1) of this section instead includes the carrying on of a crematorium, and the maintenance of “memorial gardens plots” in the trades to which sections 146 to 149 apply.

570.Section 91(5) of ICTA provides that a change of ownership is ignored in calculating the relief due to the person then carrying on the trade. So subsection (4) of this section includes expenditure incurred by “a predecessor” of the company carrying on the trade in the definition of ancillary capital expenditure.

Section 147: Deduction for capital expenditure

571.This section provides for a deduction for certain capital expenditure incurred by the trader or a predecessor. It is based on section 91 of ICTA. The corresponding rule for income tax is in section 170 of ITTOIA.

572.Section 91 of ICTA refers to “land” in a cemetery or crematorium. Subsection (1) refers instead to “an interest in” such land. This accommodates better the possibility that operators of cemeteries and crematoria might sometimes hold land in leasehold rather than in freehold form.

Section 148: Allocation of ancillary capital expenditure

573.This section contains special rules for allocating ancillary capital expenditure to a period of account. It is based on section 91 of ICTA. The corresponding rule for income tax is in section 171 of ITTOIA.

574.See section 146(4) for the definition of “ancillary capital expenditure”.

Section 149: Exclusion of expenditure met by subsidies

575.This section excludes certain expenditure for the purposes of section 147. It is based on section 91 of ICTA which applies the provisions of section 532 of CAA for the purposes of section 91 of ICTA. The corresponding rule for income tax is in section 172 of ITTOIA.

576.Subsection (3) refers to a grant made under Northern Ireland legislation and declared by the Treasury to correspond to a grant under Part 2 of the Industrial Development Act 1982. The term “Northern Ireland legislation” is defined by Schedule 1 to, and section 24(5) of, the Interpretation Act 1978.

577.The Capital Allowances (Corresponding Northern Ireland Grants) Order 2001 (SI 2001/810) lists various grants made in Northern Ireland and declared by the Treasury to correspond to a grant under Part 2 of the Industrial Development Act 1982 in so far as they are made towards capital expenditure. The Industrial Development Act 1982 has been repealed. But a deduction under section 147 of this Act continues to be allowed for expenditure met by a grant corresponding to a grant under Part 2 of the 1982 Act incurred by the trader, or by a predecessor.

Section 150: Revenue nature of expenditure

578.This section provides for the trader’s expenditure, on producing or acquiring the original master version of a sound recording, to be treated as expenditure of a revenue nature. It is based on section 48 of FA 2006.

579.Where this section applies to a sound recording any of the trader’s receipts from it are treated as having a revenue nature.

Section 151: Allocation of expenditure

580.This section provides for the allocation of a trader’s expenditure on producing or acquiring the original master version of a sound recording except where that master version is trading stock. It is based on section 49 of FA 2006.

581.Subsection (3) sets out the basis for the allocation and subsection (4) provides for an enhanced allocation in certain cases.

Section 152: Interpretation of sections 150 and 151

582.This section provides definitions of terms used in the previous two sections. It is based on sections 31 and 50 of FA 2006.

Section 153: Reserves of marketing authorities and certain other statutory bodies

583.This section, and the following two sections, contain special rules for the treatment of the statutory reserve funds which must in certain circumstances be maintained by certain statutory authorities. It is based on section 509 of ICTA.

584.This section allows a qualifying statutory body a deduction in calculating its trade profits for any amount of its trade surplus that it is required to pay into a reserve fund. Any amount withdrawn from the fund is taxed as a trade receipt unless it is a repayment of the levy or paid to the producers or a Government Department.

585.Subsections (1) and (2) identify the statutory bodies to which this section applies.

586.Subsection (5) provides definitions for the purposes of this section.

587.The roll of statutes which confer functions that are relevant to these sections and the population of statutory authorities to which these sections might apply has declined in recent years. The Cereals Marketing Act 1965 and the Agriculture Act 1967 still confer functions that are relevant for the purposes of these sections. See, in particular, the powers to make schemes under section 16 of the 1965 Act and section 13 of the 1967 Act.

Section 154: Conditions to be met by reserve fund

588.This section contains conditions which must be met by the reserve fund if the relief under section 153 is to be available. It is based on section 509 of ICTA.

Section 155: Interpretation of sections 153 and 154

589.This section provides definitions of constitutional authorities for the purposes of the two previous sections. It is based on section 509 of ICTA, paragraph 11 of Schedule 12 to the Northern Ireland Act 1998 and section 85 of the Government of Wales Act 2006.

590.Subsections (1) and (2) rewrite the source legislation to reflect the effect of devolution settlements. See Change 15 in Annex 1.

591.The Government of Wales Act 2006 created a new devolution settlement for Wales. It replaced the National Assembly for Wales constituted under the Government of Wales Act 1998 (“the old Assembly”) with a new National Assembly for Wales. Schedule 11 to the 2006 Act provides for functions conferred on the old Assembly (with certain exceptions that are not relevant here) to be transferred to the Welsh Ministers. It is in theory possible that schemes such as are mentioned in section 509(1) of ICTA could have been approved by the old Assembly before its functions were transferred to the Welsh Ministers. A paragraph in Schedule 2, the Schedule of transitionals and savings (reserves of marketing authorities etc), affecting section 153(5), covers this possibility.

592.Subsection (1) refers to “a Minister within the meaning of the Northern Ireland Act 1988”. This rewrites the reference in section 509(3) of ICTA to a “head of department” read with paragraph 11(1) of Schedule 12 to the Northern Ireland Act 1998.

Chapter 10: Trade profits: changes in trading stock

Overview

593.This Chapter rewrites the rules in Part 2 of Schedule 15 to FA 2008. The rules relate to the corporation tax consequences of taking stock from, or introducing stock to, a trade.

Section 156: Meaning of “trading stock”

594.This section provides a definition for the purposes of this Chapter. It is based on paragraph 5 of Schedule 15 to FA 2008. The corresponding income tax rule is in section 172A of ITTOIA (inserted by Part 1 of Schedule 15 to FA 2008).

595.Subsection (2) sets out the main difference between this definition and the one used in Chapter 11 of this Part.

Section 157: Trading stock appropriated by trader

596.This section sets out the rule for trading stock taken by a trader. It is based on paragraph 6 of Schedule 15 to FA 2008. The corresponding income tax rule is in section 172B of ITTOIA (inserted by Part 1 of Schedule 15 to FA 2008).

Section 158: Trading stock supplied by trader

597.This section sets out the rule for something that is supplied by a trader for use as trading stock. It is based on paragraph 7 of Schedule 15 to FA 2008. The corresponding income tax rule is in section 172C of ITTOIA (inserted by Part 1 of Schedule 15 to FA 2008).

Section 159: Disposals not made in the course of trade

598.This section sets out the rule for trading stock disposed of by a trader. It is based on paragraph 8 of Schedule 15 to FA 2008. The corresponding income tax rule is in section 172D of ITTOIA (inserted by Part 1 of Schedule 15 to FA 2008).

599.The rule in this section applies to non-trading disposals to a person other than the trader. If the stock is taken by the trader section 157 applies instead.

Section 160: Acquisitions not made in the course of trade

600.This section sets out the rule for trading stock acquired by a trader. It is based on paragraph 9 of Schedule 15 to FA 2008. The corresponding income tax rule is in section 172E of ITTOIA (inserted by Part 1 of Schedule 15 to FA 2008).

601.The rule in this section applies to non-trading acquisitions from a person other than the trader. If the stock is acquired from the trader section 158 applies instead.

Section 161: Transfer pricing rules to take precedence

602.This section gives priority to the transfer-pricing rules in Schedule 28AA to ICTA. It is based on paragraph 10 of Schedule 15 to FA 2008. The corresponding income tax rule is in section 172F of ITTOIA (inserted by Part 1 of Schedule 15 to FA 2008).

603.The rule in this section ensures that none of the exemptions in Schedule 28AA to ICTA can be overridden by an adjustment imposed by this Chapter of the Act.

Chapter 11: Trade profits: valuation of stock on cessation of trade

Overview

604.This Chapter sets out the rules for valuing stock when a company ceases to carry on a trade. The rules for valuing work in progress are not rewritten because, for tax purposes, a company cannot carry on a profession (see Change 2 in Annex 1). If a company has incomplete services when it ceases to carry on a trade they are included in its trading stock (see section 163(2) of this Act) and valued in accordance with the rules in this Chapter.

Section 162: Valuation of trading stock on cessation

605.This section sets out two general propositions. It is based on section 100 of ICTA. The corresponding rule for income tax is in section 173 of ITTOIA. The first proposition is that a valuation has to be made. The second is that the valuation has to be made in accordance with the rules in this Chapter.

606.Subsection (3) is the rule for trades carried on in partnership. The general rule in ICTA is that a change in the companies carrying on a trade is treated as the cessation of the trade. But, in the case of a trade carried on in partnership, section 114(1) of ICTA provides that there is a cessation for the purpose of calculating the profits of the firm’s trade only if there is a complete change in the companies carrying on the trade.

Section 163: Meaning of “trading stock”

607.This section defines trading stock. It is based on sections 100 and 101 of ICTA. The corresponding rule for income tax is in section 174 of ITTOIA.

608.The definition of trading stock applies:

in section 151 (sound recordings);
in this Chapter;
in section 185 (adjustment on change of basis); and
in section 195 (post-cessation receipts).

609.Section 101(3) of ICTA is invoked by section 100(2) of that Act and is concerned with valuation of incomplete services “at the discontinuance”. So the definition in this section refers to incomplete services “at the time of the cessation”.

Section 164: Basis of valuation of trading stock

610.This section introduces the five sections that follow. It is based on section 100 of ICTA. The corresponding rule for income tax is in section 175 of ITTOIA.

611.The five sections (including section 168 which defines “connected persons”) deal with the valuation of stock that is transferred to another trader. In each case, the requirement in section 100 of ICTA that the transferee carries on a trade is relaxed to include transfers to a person carrying on a profession or vocation. The income tax rules are amended to bring the income tax and corporation tax codes into line. See Change 39 in Annex 1.

612.Subsection (4) of this section deals with the case where the stock is not transferred to a person carrying on a trade, profession or vocation.

Section 165: Sale basis of valuation: sale to unconnected person

613.This section sets out the rule for the common case where the trading stock is transferred to an unconnected trader. It is based on section 100 of ICTA. The corresponding rule for income tax is in section 176 of ITTOIA.

614.The section leads directly to the use of the sale price of the stock as the basis of valuation. If the transfer is other than by sale, section 170 explains how the expressions used in this section are to be interpreted.

Section 166: Sale basis of valuation: sale to connected person

615.This section sets out the rule for the case where the stock is transferred to a connected person. It is based on section 100 of ICTA. The corresponding rule for income tax is in section 177 of ITTOIA.

616.The section preserves the concept of an arm’s length price. This will usually be the same as the open market value (see section 164(4)) but sometimes there will be a difference.

617.For example, in a capital transfer tax case, IRC v Spencer-Nairn [1991] STC 60, the Court of Session considered the meaning of an arm’s length price and distinguished it from open market value. This was on the basis that the seller in that case had imperfect information. A sale at arm’s length by that seller would not assume that the seller had better information; a sale in the open market would assume perfect information on both sides of the bargain.

618.Furthermore, in the case of an actual sale to a connected trader, there is no need to assume there is a sale. It is enough to treat the sale as made at arm’s length. This leaves open the possibility that the stock is worth something different from open market value to a person who intends to use the stock in the trade.

Section 167: Sale basis of valuation: election by connected persons

619.This section allows the seller and purchaser of stock that would otherwise be valued at arm’s length under section 166 to elect to use instead the price paid for the stock. It is based on section 100 of ICTA. The corresponding rule for income tax is in section 178 of ITTOIA.

620.The election cannot be made unless the arm’s length value of the stock is greater than its “acquisition value” in the hands of the seller.

621.The “acquisition value” of the stock for the company which ceases to trade is effectively book value, but the definition in subsection (5) is more complicated than this. In the case where the net realisable value of stock has fallen below cost in the period leading up to cessation, a new period is deemed to start just before the deemed sale. That allows the new, lower, net realisable value to be used. It may be possible to manipulate net realisable value by selling the stock at an undervalue after the accounting date. So paragraph (a) of the definition assumes that the sale is at an arm’s length value.

622.The election substitutes the price paid for the arm’s length value of the stock. But the price paid must be higher than the acquisition value. Otherwise, the election substitutes the acquisition value for the arm’s length value.

623.This section does not specify that the election is to be made to “the inspector”. But the general rules about claims and elections in Schedule 18 to FA 1998 require elections to be made in a return or, if that is not possible, to “an officer of Revenue and Customs” in accordance with Schedule 1A to TMA.

Section 168: Connected persons

624.This section provides a definition of connected persons for the stock valuation sections. It is based on section 100 of ICTA. The corresponding rule for income tax is in section 179 of ITTOIA.

625.This section is one of the exceptions to the general rule in section 1258 that a firm is not to be regarded for tax purposes as a separate entity. If a firm is connected with the seller or purchaser of its stock, section 166 (rather than section 165) applies but the firm may make an election under section 167.

Section 169: Cost to buyer of stock valued on sale basis of valuation

626.This section sets out the rule for the buyer of the stock. It is based on section 100 of ICTA. The corresponding rule for income tax is in section 180 of ITTOIA.

627.In a “sale basis” case, the value given to the trading stock of the company whose trade has ceased is also used to calculate the profits of the buyer of the stock.

628.The reference to ITTOIA caters for the case where the stock is acquired from a person liable to income tax. The valuation under that Act for income tax purposes is used as the cost to the buyer who is liable to corporation tax.

Section 170: Meaning of “sale” and related expressions

629.The stock valuation sections refer to a sale of stock. This section explains how the sections are to be interpreted if the stock is transferred other than by way of sale. It is based on section 100 of ICTA. The corresponding rule for income tax is in section 181 of ITTOIA.

Section 171: Determination of questions

630.This section treats any “question” arising under sections 164 to 167 as an appeal (to be determined by the tribunal). It is based on section 102 of ICTA. The corresponding rule for income tax is in section 186 of ITTOIA.

Chapter 12: Deductions from profits: unremittable amounts

Overview

631.This Chapter gives statutory effect to ESC C34. The corresponding rules for income tax are in Chapter 13 of Part 2 of ITTOIA. See part (A) of Change 40 in Annex 1. This change reproduces Change 50 in ITTOIA and so brings the income tax and corporation tax codes back into line.

632.The extra-statutory concession provides relief for trade debts that cannot be remitted to the United Kingdom. It is similar in scope to section 584 of ICTA (relief for unremittable overseas income), which is rewritten as Part 18 of this Act (unremittable income). The corresponding provision for income tax is Chapter 4 of Part 8 of ITTOIA.

633.Section 584 of ICTA provides relief for unremittable income arising outside the United Kingdom, including unremittable trade profits. But relief under section 584 of ICTA does not extend to trade debts owed to, or paid to, the company outside the United Kingdom if the profits of the trade arise in the United Kingdom. This Chapter provides relief for such debts and payments.

634.ESC C34 requires the relief to be claimed. Under this Chapter the relief is allowed as a deduction without the need for a formal claim. See part (B) of Change 40 in Annex 1.

635.The deduction is not mandatory if the qualifying conditions are met. A company can choose whether or not to include the deduction in its tax return. If a deduction is taken the recovery provisions in section 175 follow automatically.

Section 172: Application of Chapter

636.This section defines the basic concepts. It is based on ESC C34. The corresponding rule for income tax is in section 188 of ITTOIA.

637.The relief applies both to amounts owed to the company and to amounts that have been paid to the company. Relief is allowed if some, or all, of those amounts cannot be remitted to the United Kingdom because of foreign exchange restrictions. The different definitions of “unremittable” in subsections (2) and (3) reflect the differences between an amount that has been paid and an amount owed.

638.The relief is available to any company, including a company carrying on a financial trade.

639.Subsection (4) provides a definition of “foreign exchange restrictions”. Local foreign exchange restrictions are not defined in the extra-statutory concession but are clearly a key concept in the operation of the concession. This subsection introduces a definition based on section 584(1)(a) of ICTA. That subsection is rewritten as section 1274 (unremittable income: introduction) in Part 18. The corresponding provision for income tax is section 841(3) of ITTOIA. By basing the definition on section 584 of ICTA this Act brings the two reliefs into line.

640.This section and the rewrite of section 584 of ICTA in Part 18 of this Act clarify the scope of section 584 of ICTA and the extra-statutory concession in two ways.

641.First, sections 584(1)(a) of ICTA refers to “the impossibility of obtaining foreign currency in that territory”. It could be argued that this condition is not met if it is possible to obtain foreign currency in the overseas territory regardless of whether that currency may be transferred to the United Kingdom. Section 1274 of Part 18 of this Act makes clear that it must not be possible to obtain foreign currency that could be transferred to the United Kingdom.

642.Second, section 1274 of Part 18 of this Act makes clear that the reference to foreign currency in section 584(1)(a) of ICTA does not include currency of the overseas country or territory. In relation to sterling the currency of the overseas country or territory clearly is foreign but in this context “foreign” means foreign to the local territory.

643.Subsection (5) deals with the interaction with the loan relationship rules. Most of the amounts in this Chapter will be within the scope of Chapter 2 of Part 4 of FA 1996 because they are loan relationships (rewritten in Parts 5 and 6 of this Act). In particular section 100 of FA 1996 treats trade debts as loan relationships (see Chapter 2 of Part 6).

644.Section 80(5) of FA 1996 is a wide-ranging rule which provides that only Chapter 2 of Part 4 of FA 1996 applies to any loan relationship unless there is an express provision to the contrary. Section 80(5) of FA 1996 has been rewritten as section 464(1). This rule would prevent relief being given under section 173 or recovered under section 175. Subsection (5) overrides section 464(1).

Section 173: Relief for unremittable amounts

645.This section sets out how the relief is given. It is based on ESC C34. The corresponding rule for income tax is in section 189 of ITTOIA.

646.The section has more detail than the extra-statutory concession about the mechanics of the relief. This is necessary to give the certainty required for corporation tax self assessment. Relief can be given only against the profits of the trade that include the unremittable amount. It cannot be used to create or increase a loss. But any excess relief is not lost. It is carried forward and set against future profits of the trade.

Section 174: Restrictions on relief

647.This section describes the various circumstances in which relief is not allowed. It is based on ESC C34. The corresponding rule for income tax is in section 190 of ITTOIA.

648.Subsection (1) denies a deduction if the funds are applied outside the United Kingdom.

649.Subsection (2) denies a deduction if the company has received an insurance recovery in respect of the debt. This differs from the approach in the extra-statutory concession. Paragraph 4 of the concession denies relief if any part of the debt is insured. This Act denies, or recovers, relief only if an insurance recovery is received. See part (C) of Change 40 in Annex 1.

650.Subsection (3) denies a deduction if the company can make a claim under section 1275 (claim for relief for unremittable income) in Part 18 that the income is unremittable. The corresponding provision for income tax is section 842 of ITTOIA.

651.This restriction will apply only if the profits of the trade that include the unremittable amounts arise outside the United Kingdom, for example, because the profits arise in an overseas branch.

Section 175: Withdrawal of relief

652.This section sets out the circumstances in which relief is withdrawn and the machinery by which it is withdrawn. It is based on ESC C34. The corresponding rule for income tax is in section 191 of ITTOIA.

653.Subsection (2) lists the events that trigger a withdrawal of the relief. Paragraphs (a) and (e) deal with the straightforward cases in which the amount, or part of it, ceases to be unremittable or is exchanged for an amount that can be remitted. Paragraphs (c), (d), and (f) deal with the events listed in section 174 that would have prevented relief being given if they had occurred before the deduction was allowed.

654.Paragraph (f) deals with the case of insurance recoveries. It differs from the approach in the extra-statutory concession, which denies any relief if the debt is insured. This Chapter denies or recovers relief only if an insurance recovery is received (see the commentary on section 174). See part (C) of Change 40 in Annex 1.

655.This follows the approach in section 584 of ICTA when a payment is received from the Exports Credit Guarantee Department. The withdrawal of relief under section 584 of ICTA is rewritten as section 1276 (unremittable income: withdrawal of relief) in Part 18. The corresponding provision for income tax is section 843 of ITTOIA.

656.Subsection (3) sets out the way the relief is recovered. The amount identified in subsection (2) is treated as a trade receipt for the accounting period in which the event occurs. It is possible that more than one event will apply to the same amount. Subsection (3)(b) ensures the relief is withdrawn only once.

657.Subsection (4) applies if the amount of the insurance recovery is less than the amount that is unremittable. In that case the amount of the recovery is limited to the amount of the insurance recovery.

Chapter 13: Disposal and acquisition of know-how

Overview

658.This Chapter sets out the rules for calculating trade profits if a trading company receives a payment for know-how. Payments to non-traders are dealt with by the rules in Chapter 2 of Part 9 of this Act.

659.Part 8 of this Act sets out rules for the taxation of gains and losses on companies’ intangible fixed assets. Those rules take priority over any other tax rules (see section 906). So the Part 8 rules generally apply instead of the rules in this Chapter. But Chapter 16 of Part 8 ensures that the new rules apply only to assets created or acquired on or after 1 April 2002.

660.The Chapter refers to the “disposal” of know-how. As Walton J pointed out in John and E Sturges Ltd v Hessel (1975), 51 TC 183 ChD(6) (on page 206):

the mere imparting of “know-how” cannot be equated with the disposal of a capital asset. Just like the schoolmaster’s knowledge, it remains the property of the person imparting it as well after as before another is told.

661.This Act retains “disposal” because “disclosure” gives rise to difficulties in identifying the person to whom the disclosure is made (who may not be the person who buys the know-how).

Section 176: Meaning of “know-how” etc

662.This section sets out the meaning of know-how and explains other concepts used in the Chapter. It is based on sections 531 and 533 of ICTA and section 572 of CAA. The corresponding rule for income tax is in section 192 of ITTOIA.

663.The definition of “mineral deposits” in subsection (2) is restored to what it was before the enactment of CAA. See Change 41 in Annex 1.

664.Subsections (5) and (6) extend the meaning of “sale” to include an exchange. This rule is based on section 572 of CAA, which applies to section 531 of ICTA in accordance with section 532 of ICTA.

Section 177: Disposal of know-how if trade continues to be carried on

665.This section sets out a general rule for the treatment of payments received for the disposal of know-how. It is based on section 531 of ICTA. The corresponding rule for income tax is in section 193 of ITTOIA.

666.Subsections (3) to (6) deal with the case where know-how is disposed of with other assets. The rules are based on sections 562 and 563 of CAA, which apply to section 531 of ICTA in accordance with section 532 of ICTA.

Section 178: Disposal of know-how as part of disposal of all or part of a trade

667.This section sets out the main exception to the general rule in section 177. It is based on section 531 of ICTA. The corresponding rule for income tax is in section 194 of ITTOIA.

668.Subsection (2) provides that a payment for know-how as part of the disposal of a trade is generally treated as a capital receipt for goodwill. This rule applies only if the person making the disposal is liable to corporation tax. If that person is liable to income tax the rule in section 194 of ITTOIA applies, with the same result.

669.Subsection (5) allows the parties to the transaction to elect for the payment not to be treated as one for goodwill. The effect of an election for the purchaser is that the payment may qualify for capital allowances under Part 7 of CAA. Or, exceptionally, the purchaser may be able to treat the payment as a trading expense. As such an election may affect both parties to the transaction the election has to be made by both.

670.The question whether the election is made under this section or under section 194(5) of ITTOIA is decided by reference to the position of the person disposing of the know-how. If that person is liable to corporation tax this section applies; if the person is liable to income tax, ITTOIA applies.

671.This section does not specify that the election is to be made to “the inspector”. But the general rules about claims and elections in Schedule 18 to FA 1998 require elections to be made in a return or, if that is not possible, to “an officer of Revenue and Customs” in accordance with Schedule 1A to TMA.

672.Subsection (6) gives the time limit for the election. Most elections in this Act have to be made “not later than two years after the end of the accounting period …”. But in this case one of the persons making the election may be chargeable to income tax. So the time limit for an election is based on the date of the disposal.

673.Subsection (7) deals with a disposal by an income tax payer to a corporation tax payer. An election under section 194(5) of ITTOIA is treated as an election under this section. The corresponding rule for a disposal by a corporation payer to an income tax payer is in section 194(7) of ITTOIA.

Section 179: Seller controlled by buyer etc

674.This section ensures that if the seller and buyer are under common control:

the general rule in section 177 does not apply; and
the parties to the transaction may not elect for the payment for know-how not to be treated as a capital payment for goodwill.

675.The section is based on section 531 of ICTA. The corresponding rule for income tax is in section 195 of ITTOIA.

676.For the purposes of this section, “control” is defined in section 840 of ICTA (as applied by section 1316 of this Act). The ICTA definition of “control” is identical in effect to that in section 574 of CAA. But, as the relevance of “control” in this Act goes wider than this Chapter, the ICTA definition is used here.

677.This section is one of the exceptions to the general rule in section 1258 of this Act that a firm is not to be regarded for tax purposes as a separate entity. If a firm is connected with the seller or purchaser of its know-how the payment for know-how is treated as one for goodwill.

Chapter 14: Adjustment on change of basis

Overview

678.This Chapter sets out the rules for dealing with two sorts of changes in the way profits of a trade are calculated.

679.The first sort of change is in the way the accounts are drawn up. The rule is that profits must be calculated on the basis of accounts drawn up in accordance with generally accepted accounting practice (see section 50 of FA 2004 and section 46 of this Act).

680.If there is a change in the basis on which accounts are drawn up, some receipts and expenses may fall out of account for tax purposes. This sort of change was dealt with originally in the rules that became section 104(4) to (7) of ICTA. Those rules were replaced by the rules in section 44 of, and Schedule 6 to, FA 1998. The 1998 rules were replaced by section 64 of, and Schedule 22 to, FA 2002.

681.The second sort of change is in the way tax adjustments are made. These are the adjustments “required or authorised by law in calculating profits for tax purposes” (section 46). This sort of change was dealt with for the first time by the 2002 legislation.

682.Section 1267 of this Act applies the rules to trades carried on in partnership.

683.The corresponding rules for income tax are in Chapter 17 of Part 2 of ITTOIA. The title of that Chapter is “adjustment income” because there is a charge on such income in section 228(2) of ITTOIA. For corporation tax a positive adjustment is treated as a trade receipt. So the title of this Chapter is more general.

Section 180: Application of Chapter

684.This section sets out the circumstances in which an adjustment may arise. It is based on section 64 of FA 2002. The corresponding rule for income tax is in section 227 of ITTOIA.

685.Section 64 of FA 2002 refers to a change of the basis on which profits are calculated. This might mean any change of basis. But paragraph 3(2) of Schedule 22 to FA 2002 makes clear that it does not include a change which occurs on a change of ownership of a trade.

686.The trading income rules in this Part are generally “company-based”. So this section applies when a company changes the basis. That company must be the same before and after the change of basis. So this section reproduces the effect of paragraph 3(2) of Schedule 22 to FA 2002.

687.An adjustment has to be made if:

the “old basis” accorded with the law or practice at the time; and
the “new basis” accords with the current law and practice.

688.The difference in wording is to cater for a case in which a decision of the Courts makes it clear that a previously accepted view of the law was wrong. In that case, the old basis accorded with the practice but not the law. The 1998 rules did not cater for this. But the 2002 rules (and the rules in this Chapter) do.

689.The section refers to “a trade”. So the rules apply to trades carried on wholly outside the United Kingdom as they apply to trades carried on at least partly in the United Kingdom.

Section 181: Giving effect to positive and negative adjustments

690.This section sets out the treatment of the adjustment. It is based on paragraphs 4 and 5 of Schedule 22 to FA 2002. The corresponding rule for income tax is in section 228 of ITTOIA.

691.If the adjustment is positive it is treated as a trade receipt; if the adjustment is negative it is treated as a trade expense.

692.In both cases the treatment is the same whether the trade is taxable under Case I or Case V of Schedule D in the source legislation. The adjustment is treated as arising on the first day of the first period of account for which the new basis is adopted. This contrasts with the income tax treatment which is that the adjustment arises on the last day of the period (see sections 232 and 233 of ITTOIA).

Section 182: Calculation of the adjustment

693.This section contains the main rules for calculating the adjustment. It is based on paragraph 2 of Schedule 22 to FA 2002. The corresponding rule for income tax is in section 231 of ITTOIA. The section presents the rules as a method statement.

694.In item 3 of each of Step 1 and Step 2 there is a reference to work in progress as an alternative to trading stock. This follows the source legislation and is needed because the extended meaning of “trading stock” in section 163 of this Act does not apply outside Chapter 11.

Section 183: No adjustment for certain expenses previously brought into account

695.This section deals with the case where the old basis of calculation allowed a tax deduction but the new basis requires the deduction to be spread over several periods. It is based on paragraph 6 of Schedule 22 to FA 2002. The corresponding rule for income tax is in section 234 of ITTOIA.

696.In the absence of this section there would be a positive adjustment within item 2 of Step 1 of the calculation of the adjustment in section 182. That would produce the right result overall but the rule would take effect too early. Instead, no adjustment is calculated but no deduction is allowed in future for expenses that have already been taken into account.

Section 184: Cases where adjustment not required until assets realised or written off

697.This section is a timing rule for an adjustment which results from any of the amounts in subsection (2). It is based on paragraph 7 of Schedule 22 to FA 2002. The corresponding rule for income tax is in section 235 of ITTOIA.

698.The amounts in subsection (2) are:

closing trading stock;
opening trading stock; and
depreciation.

699.The general timing rule is that any adjustment is made at the start of the first period of account on the new basis (see section 181(2) and (3)). But any adjustment for stock or depreciation is made when the asset is realised or written off.

Section 185: Change from realisation basis to mark to market

700.This section is concerned with a change from the realisation basis to “mark to market” accounting. It is based on paragraph 8 of Schedule 22 to FA 2002. The corresponding rule for income tax is in section 236 of ITTOIA.

701.“Mark to market” is a basis of accounting used by traders in financial assets. Instead of carrying the assets in the books at cost, financial traders draw up accounts to show the assets at fair value at the accounting date. But for tax purposes the realisation basis may have been used.

702.In the first period in which mark to market is adopted for tax purposes, the opening stock may be valued at a higher (market) value than the closing stock of the previous period. Or a financial asset may have been carried in the accounts at cost but appear as a deduction in a later period at fair value. In either case, there is an adjustment within section 182.

703.As in section 184, the adjustment is postponed until the asset is realised.

Section 186: Election for spreading if section 185 applies

704.This section provides for an election to be made if there is a receipt (following a change to mark to market) under section 185. It is based on paragraph 9 of Schedule 22 to FA 2002. The corresponding rule for income tax is in section 237 of ITTOIA.

705.The election is to spread the adjustment receipt over six periods of account beginning with the first one in which the new basis is adopted. As the receipt is postponed under section 185 until the asset is realised, this first period is not necessarily the one in which the charge would be made without the election.

706.“Period of account” is defined in section 832(1) of ICTA.

Section 187: Transfer of insurance business

707.This section further postpones the charge on an adjustment in the case of assets to which section 185 or 186 applies. It is based on paragraph 10 of Schedule 22 to FA 2002. It is the only section in this Chapter that has no corresponding section in Chapter 17 of Part 2 of ITTOIA.

708.The section applies only to insurance companies. If the asset of an insurance company is transferred to another insurance company in accordance with a relevant transfer scheme, it is not treated as “realised” for the purpose of sections 185 and 186 until it is realised by the transferee company.

Chapter 15: Post-cessation receipts

Overview

709.This Chapter charges receipts which are derived from a trade but are not received until after the trade has ceased and have not been brought into the calculation of profits.

710.The Chapter rewrites sections 103 and 104 of ICTA without distinguishing between trade profits calculated on an earnings basis and trade profits calculated on a “conventional basis” (see section 110(4) of ICTA). One consequence of this approach is that there is no need to rewrite section 104(3) or section 110(3) to (5) of ICTA.

Section 188: Charge to tax on post-cessation receipts

711.This section applies the corporation tax charge on income to post-cessation receipts. It is based on sections 103 and 104 of ICTA. This application of the charge is separate from that on the profits of a trade (see section 35 of this Act). The corresponding rule for income tax is in section 242 of ITTOIA.

Section 189: Extent of charge to tax

712.This section sets out the charge to tax. It is based on sections 103 and 104 of ICTA, which create a charge under Schedule D Case VI on post-cessation receipts. This Act deals with the income where it logically belongs. In this case the income is trading income. The corresponding rule for income tax is in section 243 of ITTOIA.

713.The charge in the source legislation under Schedule D Case VI has consequences for loss relief. This Act preserves the position for loss relief by amending section 396 of ICTA and listing this Chapter in section 834A of ICTA (see Schedule 1 to this Act).

714.Subsection (3) deals with a company which has become non-UK resident after the trade has ceased. A trade carried on at least partly in the United Kingdom may include income that arises abroad. When the company was resident in the United Kingdom all the profits of the trade would have been within the charge under Part 2 of this Act (see section 5). This subsection removes the charge on a non-UK resident company if the receipt arises abroad.

Section 190: Basic meaning of “post-cessation receipt”

715.This section sets out the basic meaning of “post-cessation receipt”. It is based on sections 103, 104 and 110 of ICTA. The corresponding rule for income tax is in section 246 of ITTOIA.

716.Subsection (2) deals with the unusual case of a company receiving a “sum” which arises from the carrying on of a trade by a person liable to income tax.

717.Paragraph (a) deals with a non-UK resident company liable to income tax. If a company becomes liable to corporation tax it is treated as ceasing to carry on the income tax trade. A post-cessation receipt from that trade may be charged to corporation tax.

718.Paragraph (b) applies where the trade was carried on in partnership. If a partner leaves a firm and a company receives a sum arising from the carrying on of the trade by that partner, the sum may be a post-cessation receipt.

Section 191: Other rules about what counts as post-cessation receipts

719.This section is new. It contains signposts to:

the seven sections in this Act that treat other sums as post-cessation receipts; and
the two sections in this Act that exclude certain sums from the charge on post-cessation receipts.

720.The corresponding rule for income tax is in section 247 of ITTOIA.

Section 192: Debts paid after cessation

721.This section sets out what happens when a trader is allowed a deduction for a bad or doubtful debt owed to the trade but then recovers the debt after the trade has ceased. It is based on section 103 of ICTA. The corresponding rule for income tax is in section 248 of ITTOIA.

722.If a deduction for the debt has been given during the course of the trade section 103(5) of ICTA makes it clear that the recovery has not been “brought into account” in calculating the trade profits. The result is that the recovery is within the charge in section 103 of ICTA.

723.Subsections (1) and (2) treat the recovery of the debt as a post-cessation receipt. The references to section 35 of ITTOIA and income tax cater for the possibility that a deduction for a bad debt is allowed to a person liable to income tax but the debt is paid to a person liable to corporation tax.

Section 193: Debts released after cessation

724.This section sets out the rules that apply when a debt owed by the trader is released after the trade has ceased. It is based on section 103 of ICTA. The corresponding rule for income tax is in section 249 of ITTOIA.

725.Subsection (1) sets out the four conditions to be met if the section is to apply. It is the equivalent of section 94 of this Act which applies in the case of a continuing trade. The reference to income tax caters for the possibility that a deduction for an expense is allowed to a person liable to income tax but a person liable to corporation tax takes over the related trade debt and is released from it.

Section 194: Transfer of rights if transferee does not carry on trade

726.This section deals with the position of the transferor if the right to a post-cessation receipt is transferred for value to a non-trading transferee. It is based on section 106 of ICTA. The corresponding rule for income tax is in section 251 of ITTOIA.

727.The transferor is charged to tax on the amount received for the transfer if the transfer is at arm’s length. Otherwise the transferor is charged to tax on the arm’s length value of the transfer. There is no later charge to tax on the transferee when the post-cessation receipt is received.

728.Section 95 of this Act sets out the position if the transfer is to a trading transferee.

Section 195: Transfer of trading stock

729.This section excludes from the charge on post-cessation receipts sums arising from the transfer of stock. It is based on sections 103, 104 and 110 of ICTA. The corresponding rule for income tax is in section 252 of ITTOIA.

730.Subsection (1) makes explicit the general rule that there is no tax charge on a post-cessation receipt arising from trading stock.

731.The policy is that stock should be valued at cessation in accordance with the rules in Chapter 11 of this Part. Once that has been done there is no need to charge tax on any sums arising from the disposal or realisation of stock.

Section 196: Allowable deductions

732.This section is the first of two that set out the rules for allowing deductions from sums charged as post-cessation receipts. It is based on section 105 of ICTA. The corresponding rule for income tax is in section 254 of ITTOIA.

733.Subsection (3) ensures that a deduction is not allowed for any expenses for which relief has already been allowed (for income tax) under section 96 of ITA or under any other provision.

Section 197: Further rules about allowable deductions

734.This section is the second of two that set out the rules for allowing deductions from sums charged as post-cessation receipts. It is based on section 105 of ICTA. The corresponding rule for income tax is in section 255 of ITTOIA.

735.Subsection (2) ensures that any loss unused at the date of cessation is set off against post-cessation receipts in the same order as it would have been set off against profits under section 393 of ICTA, that is, against an earlier accounting period before a later accounting period.

736.The references to capital allowances in section 105(1)(b) and (3) of ICTA are no longer needed because any capital allowance is allowed as a trading expense.

Section 198: Election to carry back

737.This section allows a company to elect to have a post-cessation receipt taxed as though it had been received in the accounting period in which the company ceased to carry on the trade. It is based on section 108 of ICTA, although that section was repealed by ITTOIA. The corresponding rule for income tax is in section 257 of ITTOIA.

738.See Change 42 in Annex 1.

739.Subsection (1) requires that the post-cessation receipt is received (broadly) within six years after the company ceases to carry on the trade. This corresponds to the limit in section 108 of ICTA (which was expressed in terms of years of assessment).

740.Subsection (3) gives a two year time limit for the election. This was the original time limit in section 108 of ICTA before it was amended for (income tax) Self Assessment.

Section 199: Deductions already made are not displaced

741.This section is a rule about losses allowed against a post-cessation receipts carried back to the period of cessation under section 198. It is new.

742.The rule in this section is broadly the same as the income tax rule in paragraph 5(5) of Schedule 1B to TMA. If relief has already been given under section 196, for a period later than the period of cessation, this section makes clear that the relief is not to be re-calculated as a result of the election under section 198.

743.The section refers only to a “loss” for which a deduction has already been made. Any “expense or debit” already allowed under section 196 would in any event not be available for the accounting period in which the cessation occurred.

744.Subsection (3) makes clear that the rule about “displacing” a deduction for a loss does not apply to a deduction that has been made from the post-cessation receipt that is to be carried back.

745.See Change 42 in Annex 1.

Section 200: Election given effect in accounting period in which receipt is received

746.This section sets out the procedure for dealing with an election under section 198. It is new.

747.The procedure for giving the relief is broadly the same as that for income tax. This is an election to which paragraph 58 of Schedule 18 to FA 1998 applies. This section makes clear that the relief is in terms of tax and corresponds to the income tax rule in paragraph 5 of Schedule 1B to TMA.

748.See Change 42 in Annex 1.

Chapter 16: Priority rules

Section 201: Provisions which must be given priority over this Part

749.This section sets out the priority rules that apply when a receipt or other credit item might otherwise fall within more than one head of charge. It is based on section 18 of ICTA. The corresponding rules for income tax are in section 4 of ITTOIA.

750.Subsection (2) deals with potential overlap with ITEPA. It is based on section 18 of ICTA. In the source legislation Schedule D is the residual Schedule. So the charge in ITEPA on employment income, and other income formerly within Schedule E, has priority over the charge on profits of a trade (Schedule D in the source legislation).

Part 4: Property income

Overview

751.This Part applies to “property income”. That is, income from land. The corresponding rules for income tax are in Part 3 of ITTOIA.

752.This Part covers income that is taxed under different Schedules and Cases in the source legislation. So it covers, for example, income from land both in the United Kingdom and abroad, as well as post-cessation receipts from property businesses.

753.This reflects the approach of grouping types of income which are logically part of the same “family”. In this Part the unifying factor is that all the elements are amounts that are, ultimately, attributable to exploiting an interest in land.

754.As a consequence, this Part groups elements which in the source legislation are separate. But those elements do not lose their identity for all purposes. Loss relief, for example, requires them to be kept apart. For this reason the charge to corporation tax on “property income” has specific components (see section 202).

755.This Part is not an exhaustive statement of the rules for the calculation of property income. Other regimes may affect that calculation. In particular, Parts 8, 11 and 14 of this Act contain rules that may affect property business profits.

756.References to “profits or gains” in the source legislation which relate only to income are rewritten in this Part omitting the reference to “gains”. This continues the tidying up of such references begun in section 46(3) of, and Schedule 7 to, FA 1998.

Chapter 1: Introduction

Section 202: Overview of Part

757.This section is introductory. It is new.

Chapter 2: Property businesses

Section 203: Overview of Chapter

758.This section introduces the Chapter and provides a “road map” to the key provisions. It is new.

759.Chapter 2 sets out the key concepts underlying the main component of income within this Part of this Act by defining “property business” and “generating income from land”.

Section 204: Meaning of “property business”

760.This section defines “property business”. It is new.

761.Subsection (1) reflects the fact that section 70A of ICTA applies the same basic rules for income from UK land to income from overseas land. So most of the provisions in this Part apply to both UK and overseas property businesses alike. Where they do not, the particular section makes that clear by, for example, referring to a UK property business only.

762.The term “property business” is not entirely straightforward. The term used in the source legislation, “Schedule A business”, was introduced as part of the 1995 reform of Schedule A for income tax and was applied to corporation tax in 1998. That concept was helpful in providing a vessel to contain all the income from land previously charged under Schedule A and to which the rules for calculating trade profits could be applied. But the concept of a Schedule A business, and a UK property business, is rather more complex than that of a trade. That is reflected in this and the other sections that, together, define the range of income that is assessed as income of a property business.

Section 205: UK property business

763.This section defines “UK property business” and introduces the concept of “generating income from land”. It is based on section 15(1) of ICTA. The corresponding rule for income tax is in section 264 of ITTOIA.

764.It gives a basic “one business per company” rule: that (subject to special cases such as those mentioned in section 203(3) and (4)) all the income from a company’s UK land interests is treated as falling within a single UK property business.

765.Although the Chapter builds on the concept of the “business”, the approach differs from the approach in the source legislation. This Act adopts the same approach as ITTOIA and uses the term “UK property business” rather than “Schedule A business”.

Section 206: Overseas property business

766.This section defines “overseas property business”. It is based on section 70A of ICTA. The corresponding rule for income tax is in section 265 of ITTOIA.

767.The definition is identical to that of “UK property business” except that the land from which the income arises is outside the United Kingdom..

768.For the purpose of deciding whether there is an overseas property business, overseas land law is interpreted in accordance with section 290.

Section 207: Meaning of “generating income from land”

769.This section defines “generating income from land”. It is based on sections 15(1) and 24 of ICTA. The corresponding rule for income tax is in section 266 of ITTOIA.

770.The section defines what may be described as the essence of the property business. That is, exploiting rights of land ownership for profit. But it is not intended to identify everything that must be taken into account in calculating the profits of such a business. The concept of the property business is wider than that. “Property business” includes, for example, amounts specifically charged under other provisions such as certain insurance recoveries (see section 103 applied by section 210(2)).

771.Subsection (2) extends the meaning of “rents” and is based on section 24(6)(b) of ICTA. Including this extension in the main section (in the source legislation it is relegated to a “construction” section) keeps all the relevant definitions together.

772.Subsection (3) explains “other receipts” in subsection (1). This list is not exhaustive but amounts that are not listed here would have to be of a similar nature to those that are listed to come within the definition.

773.Subsection (4) extends the charge to particular types of receipt. The source legislation cross-refers to a definition of “caravan” in the Caravan Sites and Control of Development Act 1960. There is a Act-wide definition of “caravan” in section 1314 (and see Change 96 in Annex 1). “Houseboat” is defined in section 1319 (other definitions).

Section 208: Activities not for generating income from land

774.This section excludes certain “land-related” income from property income and cross-refers to the trading income provisions under which that income is charged. It is based on section 15(1) of ICTA. The corresponding rule for income tax is in section 267 of ITTOIA.

Chapter 3: Profits of property businesses: basic rules

Section 209: Charge to tax on profits of a property business

775.This section applies the corporation tax charge to the profits of a property business. It is based on sections 9, 15 and 18 of ICTA.

Section 210: Profits of a property business: application of trading income rules

776.This is the main rule for calculating the profits of a property business. It is based on section 21A of ICTA. The corresponding rule for income tax is in section 272 of ITTOIA.

777.The same basic rules apply to the calculation of both UK and overseas property businesses.

778.From 1998, the profits of a Schedule A business charged to corporation tax are calculated by treating the business as similar to a trade and applying the calculation rules of Schedule D Case I.

779.In the source legislation this is achieved by section 21A of ICTA. But, at the margins, the application of certain of the Case I rules to Schedule A is not altogether clear.

780.First, the relationship of section 21A(2) of ICTA to section 21A(1) of ICTA is uncertain. Section 21A(2) of ICTA refers to provisions that apply “in accordance” with section 21A(1). It is open to debate whether section 21A(2) of ICTA merely contains examples of the Schedule D Case I provisions that apply in accordance with the general rule in section 21A(1) of ICTA or whether it contains an exhaustive list of those provisions. The former appears the better view and the one best reflecting the underlying policy.

781.Second, some Schedule D Case I provisions that are applied to Schedule A are inherently incapable of applying to income from land. The “herd basis” provisions in section 97 of, and Schedule 5 to, ICTA (rewritten in Chapter 8 of Part 3 of this Act) are an example. They are among the provisions of Chapter 5 of Part 4 of ICTA that are applied to Schedule A specifically (subject to stated exceptions) by section 21A(2) of ICTA. But they are not among the exceptions referred to in section 21A(4) of ICTA. On the other hand, some Schedule D Case I provisions outside Chapter 5 of Part 4 of ICTA that seem potentially more relevant, such as the car hire provisions in sections 578A and 578B of ICTA, are not applied specifically.

782.Section 210 clarifies these matters by listing all the trading income provisions in Part 3 of this Act that are relevant to property business profits.

783.Some of the sections in Part 3 of this Act that are applied to a property business contain rewrite changes. Those changes are carried through to property income. Details of those changes are recorded in the Annex 1 notes on the particular sections in Part 3.

784.Subsection (2) lists all the provisions in Part 3 that are relevant to property business income. It reflects the principle that section 21A(1) of ICTA applies all Schedule D Case I calculation provisions to Schedule A unless they are expressly disapplied elsewhere. Provisions that are expressly disapplied in the source legislation are excluded from the list.

785.Also excluded are provisions which are attracted to Schedule A in the source legislation either expressly by section 21A(2) of ICTA or under the general principle expressed in section 21A(1) of ICTA, but which are incapable of applying once carried over to the context of the property business. Exclusion is achieved simply by omitting them from the list of provisions that do apply.

786.The majority of the provisions in Part 3 that can apply to a property business are applied by subsection (2). But in some cases later sections set out the provisions specifically (sections 261 and 262 (adjustment on change of basis) and the sections in Chapter 9 of this Part (post-cessation receipts)).

787.The following sections that are applied by subsection (2) merit specific mention. These are:

sections 56 to 58: expenses of car hire; and
sections 172 to 175: deduction for unremittable amounts.

788.Including these accurately reflects the effect of section 21A(1) of ICTA.

789.Although the list in subsection (2) excludes trading income provisions that are inherently incapable of applying to a property business it does not exclude those that are merely unlikely to apply. This recognises the possibility of certain provisions applying in unusual circumstances. Examples are sections 87 and 88 (scientific research). Although their relevance to a property business is unlikely, it is not inconceivable and they are needed to cater for the possibility of a landlord funding an activity that would qualify as “scientific research”. An example might be research on the decontamination of brown land with a view to building an investment property on it.

Section 211: Loan relationships and derivative contracts

790.This section defines the relationship of the rules in Parts 5 and 7 to those in this Part. It is based on section 15 of ICTA.

791.Subsection (1) drops the words of the source “carried on by a company” in referring to a property business because in the context of corporation tax only legislation, they are redundant.

792.Subsection (2) is based on the premise that, in the source legislation, the second sentence of paragraph 2(3) of Schedule A is really about the relationship between that provision and section 80(5) of FA 1996 and paragraph 1(2) of Schedule 26 to FA 2002. The source makes a wide statement about the relationship between “this Schedule [A]” and Part 4 of FA 1996 and Schedule 26 to FA 2002. This Act disposes of the concept of Schedule A so the rewritten references are necessarily more focussed.

Section 212: Items treated as receipts and expenses

793.This section gives signposts to other relevant rules of calculation. It is new.

794.In particular the CAA rules override the rules against the inclusion of capital items in sections 53 and 93 of this Act (applied to this Part by section 210(2)).

Section 213: Certain amounts brought into account under Part 3

795.This section excludes from the profits of a property business certain income from land that, exceptionally, may be taxed as profits of a trade. It is based on section 15 of ICTA. See Changes 4, 5 and 6 in Annex 1 and the commentary on sections 43, 44 and 45. The corresponding rule for income tax is in section 273 of ITTOIA .

Section 214: Relationship between rules prohibiting and allowing deductions

796.This section determines the interaction between those provisions that prohibit a deduction and those provisions that allow a deduction. It is new. The corresponding rule for income tax is in section 274 of ITTOIA.

797.This section does a similar job in Part 4 to that which section 51 does in Part 3. The general principle is that a rule allowing a deduction takes priority over a rule prohibiting a deduction. But that is subject to the exceptions the section mentions. See Change 7 in Annex 1.

798.Subsection (4) makes it clear that the effect of this priority rule extends to the large number of trading income rules that apply to property income indirectly through section 210.

Chapter 4: Profits of property businesses: lease premiums etc

Overview

799.This Chapter contains rules under which a company may be treated as receiving property business receipts in relation to certain lease premiums, or certain other amounts, which would otherwise generally be amounts of a capital nature. It also contains rules whereby relief can, in certain cases, be given to companies in relation to an earlier property business receipt that another person was treated as receiving. The Chapter is based on sections 34 to 38 and 42 of ICTA. The corresponding provisions for income tax are in Chapter 4 of Part 3 of ITTOIA.

800.See sections 62 to 67 for cases in which trading expenses are treated as incurred and deductible by reference to an earlier deemed lease receipt. See section 136 for a case in which trading receipts are reduced by property business receipts that are treated as arising under sections 217 to 225.

Section 215: Overview of Chapter

801.This section provides an overview of the Chapter. It is new. The corresponding provision for income tax is in section 276 of ITTOIA.

Section 216: Meaning of “short-term lease”

802.This section defines “short-term lease” as “a lease whose effective duration is 50 years or less”. It is new. The corresponding provision for income tax is in section 276 of ITTOIA.

803.The “effective duration” of a lease is its duration for the purpose of this Chapter. This may not be the same as the contractual duration of the lease. See commentary on sections 243 and 244.

Section 217: Lease premiums

804.This section treats a property business receipt as arising if a premium is payable in relation to the grant of a short-term lease. It is based on sections 34(1), (6) and (7A) and 37(2) of ICTA. The corresponding provision for income tax is in section 277 of ITTOIA.

805.Subsection (2) treats a company to which the premium is due as receiving an amount as a result of entering into a transaction mentioned in section 205 (UK property business) or section 206 (overseas property business), depending on the location of the land to which the lease relates. The effect is that the amount will be treated as a receipt of the company’s UK or overseas property business.

806.The approach adopted in subsection (2) is also followed in sections 219 to 225.

807.Subsection (3) requires the company to which the premium is due to bring the amount into account in calculating the profits of the property business for the accounting period in which the lease is granted. Source legislation is not explicit about the accounting period concerned in the case of a company which is not the landlord. See Change 43 in Annex 1.

Section 218: Amount treated as lease premium where work required

808.This section treats a lease premium as payable if a lease places an obligation on the tenant to carry out certain works. It is based on section 34(2) and (3) of ICTA. The corresponding provision for income tax is in section 278 of ITTOIA.

809.Such treatment could lead to a property business receipt, or a greater receipt, being treated as arising to the landlord under section 217.

Section 219: Sums payable instead of rent

810.This section treats a property business receipt as arising in certain cases where a payment is made instead of rent for some or all of the duration of a lease. It is based on sections 34(1), (4), (6) and (7A) and 37(2) of ICTA. The corresponding provision for income tax is in section 279 of ITTOIA.

811.Subsection (1) makes clear that, irrespective of the length of the lease, the payment of a sum instead of rent for a period of 50 years or less is within the scope of this section. Source legislation is not explicit on this point. See Change 44 in Annex 1.

812.Subsection (3) requires the company to which the sum is due to bring an amount into account in calculating the profits of its property business for the accounting period in which the sum is payable. Source legislation is not explicit about the accounting period concerned in the case of a company which is not the landlord. See Change 43 in Annex 1.

813.In calculating the amount to be treated as received in respect of a sum in lieu of rent within section 34(4) of ICTA, the duration of the lease for the purposes of the formula in section 34(1) of ICTA must be adjusted in accordance with section 34(4)(a) of ICTA. For this purpose, there is excluded from the duration of the lease any period other than that in respect of which the sum in lieu of rent is paid. Subsections (4) and (6) have the same effect as those provisions of section 34(1) and (4)(a) of ICTA.

Section 220: Sums payable for surrender of lease

814.This section treats a property business receipt as arising in certain cases where a sum is payable for the surrender of a short-term lease. It is based on sections 34(1), (4), (6) and (7A) and 37(2) of ICTA. The corresponding provision for income tax is in section 280 of ITTOIA.

815.Subsection (3) requires the company to which the sum is due to bring an amount into account in calculating the profits of its property business for the accounting period in which the sum is payable. Source legislation is not explicit about the accounting period concerned in the case of a company which is not the landlord. See Change 43 in Annex 1.

Section 221: Sums payable for variation or waiver of terms of lease

816.This section treats a property business receipt as arising in certain cases where a payment is made for the variation or waiver of any of the terms of a lease. It is based on section 34(1), (5), (6), (7) and (7A) of ICTA. The corresponding provision for income tax is in section 281 of ITTOIA.

817.Subsection (1) makes clear that, irrespective of the length of the lease, the payment of a sum as consideration for the variation or waiver of the terms of a lease for a period of 50 years or less is within the scope of this section. Source legislation is not explicit on this point. See Change 44 in Annex 1.

818.Subsection (1) also provides that this section applies only if the sum is due to the landlord or to a connected company. Source legislation does not contain this restriction. See Change 45 in Annex 1.

819.Subsection (3) requires the company to which the sum is due to bring an amount into account in calculating the profits of its property business for the accounting period in which the contract providing for the variation or waiver is entered into. Source legislation is not explicit about the accounting period concerned in the case of a company which is not the landlord. See Change 43 in Annex 1.

820.Section 227(1) extends relief under section 228 (the additional calculation rule) to receipts in respect of sums payable for the variation or waiver of the terms of a lease. This is reflected in subsection (5) of this section. See Change 46 in Annex 1.

821.In calculating the amount to be treated as received in respect of a sum for the variation or waiver within section 34(5) of ICTA, the duration of the lease for the purposes of the formula in section 34(1) of ICTA must be adjusted in accordance with section 34(5)(a) of ICTA. For this purpose, there is excluded from the duration of the lease any period other than that in respect of which the variation or waiver has effect. Subsections (4) and (6) have the same effect as those provisions of section 34(1) and (5)(a) of ICTA.

Section 222: Assignments for profit of lease granted at undervalue

822.This section treats a property business receipt as arising in certain cases where a company makes a profit on the assignment of a lease that had been granted at an undervalue. It is based on sections 35(1), (2) and (2A) and 37(2) of ICTA. The corresponding provision for income tax is in section 282 of ITTOIA.

823.The formula in subsection (4) for calculating the deemed receipt if there is an assignment at a profit is based on section 35(2) of ICTA (which refers back to the formula in section 34(1) of ICTA).

Section 223: Provisions supplementary to section 222

824.This section supplements section 222. It is based on section 35(1) and (2) of ICTA. The corresponding provision for income tax is in section 283 of ITTOIA.

Section 224: Sales with right to reconveyance

825.This section treats a property business receipt as arising in certain cases where a property is sold on terms which provide for the property to be reconveyed to the seller, or to a connected person, at less than the sale price. It is based on section 36(1) and (4A) of ICTA. The corresponding provision for income tax is in section 284 of ITTOIA.

826.Subsection (1)(b) provides that this section applies only if the period between sale and reconveyance is 50 years or less. Source legislation effectively applies if the period is 51 years or less. See Change 47 in Annex 1.

Section 225: Sale and leaseback transactions

827.This section treats a property business receipt as arising in certain cases where a company sells property on terms which provide for the grant of a lease to the vendor or to a connected person. It is based on section 36(1), (3), (4) and (4A) of ICTA. The corresponding provision for income tax is in section 285 of ITTOIA.

828.Subsection (1)(b) provides that this section applies only if the period between sale and leaseback is 50 years or less. Source legislation effectively applies if the period is 51 years or less. See Change 47 in Annex 1.

Section 226: Provisions supplementary to sections 224 and 225

829.This section supplements sections 224 and 225. It is based on section 36(2), (3) and (4B) of ICTA. The corresponding provision for income tax is in section 286 of ITTOIA.

Section 227: Circumstances in which additional calculation rule applies

830.This section sets out cases where a deemed business property receipt is to be reduced, under section 228, by reference to an earlier taxed receipt. It is based on section 37(1), (2), (3) and (9) of ICTA. The corresponding provision for income tax is in section 287 of ITTOIA.

831.Subsection (1) provides that those cases include a deemed business property receipt arising in relation to payments for a variation or waiver of terms of a lease. See Change 46 in Annex 1.

832.Amounts within section 218 (amount treated as lease premium where work required) are not specified separately in subsection (1), or in section 228(2), because section 218(2) treats such amounts as premiums within section 217.

833.Subsection (3) sets out the connection that must exist between the lease in relation to which the taxed receipt arises and the lease in relation to which the later deemed business property receipt arises.

834.Subsection (4)’s definitions of “taxed lease” and “taxed receipt” are based on the definitions of “head lease” and “amount chargeable on the superior interest” in section 37(1) of ICTA. The definition of a taxed lease, and taxed receipt, includes leases of land, and associated receipts, outside the UK. This restores a relief that was incorrectly removed by ITTOIA. See Change 48 in Annex 1.

835.Subsection (5) stipulates that for section 228 to apply there must be at least one taxed receipt with an “unused amount”. That is because section 235 (limit on reductions and deductions) prevents relief being given under section 228 by reference to a taxed receipt if that taxed receipt does not have an unused amount. Source legislation is not as explicit about the way in which relief in relation to a taxed receipt must not exceed the amount of the taxed receipt. See Change 49 in Annex 1.

Section 228: The additional calculation rule

836.This section provides for the amount of a deemed business property receipt to be reduced, in cases within section 227, by reference to an earlier taxed receipt. It is based on section 37(2), (3), (7) and (9) of ICTA. The corresponding provision for income tax is in section 288 of ITTOIA.

837.The amount to be reduced is referred to in this section, and in section 229, as “the receipt under calculation”.

838.Section 227 extends relief to deemed business property receipts arising in relation to the variation or waiver of the terms of a lease. Subsection (2) reflects this by referring to section 221. See Change 46 in Annex 1.

839.This section introduces the label “basic relieving amount” for the amount by which the receipt under calculation is to be reduced.

840.Subsection (3) requires the basic relieving amount to be restricted under section 229(5) so that it does not exceed the amount of the receipt under calculation. Source legislation is not as explicit about what happens if relief is given in relation to more than one earlier taxed receipt. If there is more than one taxed receipt by reference to which the receipt under calculation may be reduced, it is for the company entitled to the relief to decide the order in which relief is to be taken by reference to those taxed receipts.

841.For subsection (3) to apply there must be at least one taxed receipt with an “unused amount”. That is because section 235 (limit on reductions and deductions) prevents relief under this section being given by reference to a taxed receipt if that taxed receipt does not have an unused amount. Source legislation is not as explicit about the way in which relief in relation to a taxed receipt must not exceed the amount of the taxed receipt. See Change 49 in Annex 1.

842.Subsection (4)’s use of the “unreduced amount” of the taxed receipt (defined in section 230(2)) in the formula makes clear that the basic relieving amount by reference to a taxed receipt is to be calculated according to the amount of that receipt before any reductions or deductions.

843.The definition in subsection (6) of “receipt period” in relation to a receipt under sections 217 and 219 to 222 is based on the definition of “the period in respect of which an amount arose” in section 37(7)(b) of ICTA.

Section 229: The additional calculation rule: special cases

844.This section:

modifies the rule in section 228 if the receipt under calculation arises in respect of part only of the premises subject to the taxed lease; and
sets limits on the reduction under that section in two cases.

It is based on section 37(2), (3) and (9) of ICTA. The corresponding provision for income tax is in section 289 of ITTOIA.

845.Section 227 extends relief under section 228 to business property receipts treated as arising in relation to the variation or waiver of the terms of a lease. This is reflected in the reference in subsection (2) to section 221. See Change 46 in Annex 1.

846.But subsection (2) does not apply to receipts under section 222 (assignments for profit of lease granted at undervalue) because it is not possible for a lease to be assigned other than in respect of the whole of the premises subject to the lease.

847.Subsection (3) requires the fraction in subsection (2) to be calculated on a “just and reasonable basis”, where section 37(3) of ICTA requires a “just apportionment”. See Change 12 in Annex 1.

848.Subsection (4) restricts the reduction calculated under section 228(4) or subsection (2) of this section to the “unused amount” of the taxed receipt by reference to which it is calculated. That is because giving greater relief would create a conflict with section 235 (limit on reductions and deductions). Source legislation is not as explicit about the way in which relief in relation to a taxed receipt must not exceed the amount of the taxed receipt. See Change 49 in Annex 1.

Section 230: Meaning of “unused amount” and “unreduced amount”

849.This section is based on section 37(1), (8) and (9) of ICTA. The corresponding provision for income tax is in section 290 of ITTOIA.

850.The “unused amount” of a taxed receipt is defined in subsections (1) and (5). That label is used by sections 228 and 229 to ensure that relief given by reference to a taxed receipt under those sections does not conflict with section 235 (limit on reductions and deductions). Source legislation is not as explicit about the way in which relief in relation to a taxed receipt must not exceed the amount of the taxed receipt. See Change 49 in Annex 1.

Section 231: Deductions for expenses under section 232

851.This section provides business property deductions to a company for expenses that it is treated as incurring in respect of an earlier taxed receipt. This section is based on section 37(4) and (9) of ICTA. The corresponding provision for income tax is in section 291 of ITTOIA.

852.Subsection (2) provides that a deduction for an expense which the tenant is treated as incurring under section 232 is allowed for each “qualifying day” on which all or part of the premises subject to the taxed lease is either occupied for the purposes of the tenant’s property business or is sublet. A “qualifying day” is defined in section 232(3) as a day which falls within the receipt period of the taxed receipt.

853.Subsection (3) provides that a deduction for an expense which a tenant is treated as incurring under section 232 is subject to the application of any provision of Chapter 4 of Part 3 (rules restricting deductions). This is based on the source legislation providing that the amounts, corresponding to those in subsection (2), are treated as rent, whose deductibility is therefore subject to rules corresponding to those in Chapter 4 of Part 3.

854.Subsection (4) provides that the deduction allowed in respect of an expense under section 232 may be restricted to prevent the cap in section 235, on the total relief which can be given by reference to a taxed receipt, being exceeded. See Change 49 in Annex 1.

Section 232: Tenants under taxed leases treated as incurring expenses

855.This section sets out the method of calculating the expense for which a deduction may be allowed under section 231. It is based on section 37(4) of ICTA. The corresponding provision for income tax is in section 292 of ITTOIA.

856.The formula in subsection (4) calculates the expense for each qualifying day by spreading the amount of the taxed receipt evenly over the receipt period of that receipt. Defining “A” in that formula as “the unreduced amount of the taxed receipt” makes clear that the amount of the expense which the tenant is treated as incurring for each qualifying day is calculated by reference to the amount of the taxed receipt before any reductions or deductions.

Section 233: Restrictions on section 232 expenses: the additional calculation rule

857.This section supplements section 232’s application to a taxed receipt where a lease premium receipt is also reduced by reference to that taxed receipt. It is based on sections 37(5) and (7) and 37A of ICTA. The corresponding provision for income tax is in section 293 of ITTOIA.

858.Subsections (2) and (3) provide for a tenant to be treated as incurring an expense for a qualifying day under section 232 only to the extent that the “daily amount of the taxed receipt” exceeds the “daily reduction of the lease premium receipt”. This prevents relief being lost in certain cases where more than one taxed receipt has been used to reduce the lease premium receipt to nil. See Change 13 in Annex 1.

859.The daily amount of the taxed receipt and the daily reduction of the lease premium receipt are calculated according to the formulas in subsection (6):

the formula for calculating the daily amount of the taxed receipt is the same formula used in section 232(4) to calculate the amount of the expense which the tenant is treated as incurring for each qualifying day; and
the formula for calculating the daily reduction of the lease premium receipt spreads the reduction calculated under section 228 or the corresponding section in ITTOIA evenly over the receipt period of the lease premium receipt.

860.Subsection (5) deals with the case where for a qualifying day a taxed receipt reduces more than one lease premium receipt. In such a case, the tenant is treated as incurring an expense for that day under section 232 only to the extent that the daily amount of the taxed receipt exceeds the total of the daily reductions of each of the lease premium receipts. See Change 13 in Annex 1.

Section 234: Restrictions on section 232 expenses: lease of part of premises

861.This section adapts sections 232 and 233 for cases where the lease premium receipt arises in relation to only a part of the premises in respect of which the taxed receipt arose. It is based on sections 37(6) and 37A of ICTA. The corresponding provision for income tax is in section 294 of ITTOIA.

862.Section 227 extends relief under section 228 to business property receipts treated as arising in relation to the variation or waiver of the terms of a lease. This is reflected in the reference in subsection (2) to section 221. See Change 46 in Annex 1.

863.Subsection (4) applies sections 232 and 233 separately to that part of the premises in relation to which the lease premium receipt arises and to the remainder of the premises. And subsection (5) deals with the case where there is more than one sublease which does not extend to the whole of the landlord’s premises. See Change 13 in Annex 1.

864.Subsection (6) adapts sections 232 and 233 by multiplying the unreduced amount of the taxed receipt (“A”) by the fraction of the premises to which the lease premium relates in the formulas for calculating:

the expense for a qualifying day in section 232(4); and
the daily amount of the taxed receipt in section 233(6).

865.Subsection (7) requires the fraction in subsection (6) to be calculated on a “just and reasonable basis”, where section 37(6) of ICTA is not explicit about the necessary basis of apportionment. See Change 12 in Annex 1.

Section 235: Limit on reductions and deductions

866.This section places a limit on the relief that can be given under this Chapter in relation to a taxed receipt. It is based on section 37(9) of ICTA. The corresponding provision for income tax is in section 295 of ITTOIA.

867.The section restricts total relief in respect of a taxed receipt by way of:

reductions under the additional calculation rule in section 228; and
deductions under section 232.

868.The total relief is restricted to the amount of the taxed receipt after the following (so far as given by reference to the taxed receipt):

any reductions or deductions under sections 288 or 292 of ITTOIA (which correspond to sections 228 and 232 respectively); and
any deductions under section 63 (trading expense), or under section 61 of ITTOIA (which corresponds to section 63).

See Change 49 in Annex 1.

Section 236: Payment of tax by instalments

869.This section provides for corporation tax, attributable to lease premium receipts, to be paid by instalments in certain cases. It is based on section 34(8) of ICTA. The corresponding provision for income tax is in section 299 of ITTOIA.

870.Subsection (2) attributes the power to determine the amount and timing of instalments to an officer of Revenue and Customs where the source legislation refers to “the Board” (defined by source legislation to mean “the Commissioners of Inland Revenue”). See Change 1 in Annex 1.

Section 237: Statement of accuracy for purposes of section 222

871.This section provides for an officer of Revenue and Customs to certify a statement, made in cases where assignment of a lease does or may give rise to a taxed receipt, if satisfied that that the statement is accurate. It is based on section 35(3) of ICTA. The corresponding provision for income tax is in section 300 of ITTOIA.

Section 238: Claim for repayment of tax payable by virtue of section 224

872.This section provides for corporation tax, paid in respect of a receipt under section 224 (sales with right to reconveyance), to be repaid in certain cases. It is based on section 36(2) of ICTA. The corresponding provision for income tax is in section 301 of ITTOIA.

873.Subsection (3) refers to a period of four years where the source legislation provides for six years. Schedule 2 preserves the six year period in the source legislation until an order is made by the Treasury reducing the period to four years.

Section 239: Claim for repayment of tax payable by virtue of section 225

874.This section provides for corporation tax, paid in respect of a receipt under section 225 (sale and leaseback transactions), to be repaid in certain cases. It is based on section 36(2) and (3) of ICTA. The corresponding provision for income tax is in section 302 of ITTOIA.

875.Subsection (3) refers to a period of four years where the source legislation provides for six years. Schedule 2 preserves the six year period in the source legislation until an order is made by the Treasury reducing the period to four years.

Section 240: Appeals against proposed determinations

876.This section provides for determinations of amounts under this Chapter that may affect the tax liability of more than one person and for appeals against proposed determinations. It is based on section 42(1), (2) and (3) of ICTA.

Section 241: Section 240: supplementary

877.This section supplements section 240. It is based on section 42(6) and (7) of ICTA.

Section 242: Determination by tribunal

878.This section provides for objections to provisional determinations under section 240 to be determined by an independent tribunal. It is based on section 42(4) and (5) of ICTA.

Section 243: Rules for determining effective duration of lease

879.This section contains rules for determining the effective duration of a lease. It is based on section 38(1) and (6) of ICTA. The corresponding provisions for income tax are in section 303 of ITTOIA.

880.Subsection (1) sets out various circumstances in which a lease may be treated as ceasing other than on the date specified in the lease. Rules 1, 2 and 3 are based on paragraphs (a), (b) and (c) respectively of section 38(1) of ICTA.

881.Rule 1 provides that the lease is treated as ending on the date beyond which it is unlikely that the lease will continue. See Change 50 in Annex 1.

882.Subsection (3) is new. It ensures that all amounts that may give rise to a charge to tax by reason of sections 218 to 221 are treated as premiums in applying Rule 1 in subsection (1). See Change 50 in Annex 1.

883.Schedule 1 to this Act amends section 303 of ITTOIA (rules for determining effective duration of lease) so that the changes also apply for income tax. See Change 50 in Annex 1.

Section 244: Applying the rules in section 243

884.This section supplements the rules in section 243. It is based on section 38(2), (3) and (4) of ICTA. The corresponding provisions for income tax are in section 304 of ITTOIA.

885.Section 38(4) of ICTA refers to benefits conferred and payments made for the purposes of securing a corporation tax advantage in the application of Part 2 of ICTA (provisions relating to the Schedule A charge) or an income tax advantage in the application of Chapter 4 of Part 3 of ITTOIA (profits of property businesses: lease premiums etc).

886.Part 2 of ICTA consists of sections 21A to 42 of ICTA. Other than the lease premiums rules in sections 34 to 39, the sections of Part 2 of ICTA which are in force are sections 21A to 21C (calculation of the profits of a Schedule A business), section 24 (construction of Part 2), section 30 (sea walls), sections 31ZA to 31ZC (energy-saving items), section 40 (receipts and outgoings on sale of land) and section 42 (appeals against determinations under sections 34 to 36 of ICTA or Chapter 4 of Part 3 of ITTOIA).

887.Sections 43A to 43G of ICTA were also in Part 2 of ICTA and could have applied to leases granted before 6 June 2006. But where those sections applied they gave rise to taxable receipts, rather than deductions from taxable income.

888.It is considered that the only tax advantage that could be secured in the context of section 38(4) of ICTA would be under sections 34 to 37 of ICTA. So subsection (4) refers to a corporation tax advantage under this Chapter or an income tax advantage in the application of Chapter 4 of Part 3 of ITTOIA.

Section 245: Information about effective duration of lease

889.This section provides for an officer of Revenue and Customs to require, by notice, information relevant to determining the effective duration of a lease. It is based on section 38(5) of ICTA. The corresponding provision for income tax is in section 305 of ITTOIA.

Section 246: Provisions about premiums

890.This section contains rules about sums that may be treated as premiums and the lease to which a premium may be attributed. It is based on section 24(2) to (4) of ICTA. The corresponding provision for income tax is in section 306 of ITTOIA.

Section 247: Interpretation

891.This section provides rules about the interpretation of “premium” and the application of the Chapter to Scotland. It is based on sections 24(1), (4) and (5), 37(10) and 37A(9) of ICTA. The corresponding provision for income tax is in section 307 of ITTOIA.

Chapter 5: Profits of property businesses: other rules about receipts and deductions

Overview

892.This Chapter contains provisions that supplement the basic calculation rules in Chapter 3 of this Part of this Act. The corresponding rules for income tax are in Chapter 5 of Part 3 of ITTOIA.

893.The provisions in this Chapter are about particular receipts or more unusual circumstances.

Section 248: Furnished lettings

894.This section brings the “letting” of furniture, when it is part and parcel of the letting of accommodation, within the property income charge. It is based on section 15 of ICTA. The corresponding rule for income tax is in section 308 of ITTOIA.

895.Without this provision, rent paid for use of the furniture in furnished lettings would not be included in the property income charge because the “rent” for the furniture does not derive from land.

896.The purpose of subsection (1)(b) is to make it clear that related revenue expenses such as the expenses of repair and insurance of the furniture are deductible in calculating the profits of the property business.

897.Subsection (2) excludes income and expenses where the hiring of the furniture is not simply incidental to exploiting an interest in land.

898.Subsection (4)(a) refers to a “caravan and a houseboat”. There is a Act-wide definition of “caravan” in section 1314: see the commentary on section 1314 and Change 96 in Annex 1. “Houseboat” is defined in section 1319 (other definitions), the corporation tax equivalent of section 878 of ITTOIA.

Section 249: Acquisition of business: receipts from transferor’s UK property business

899.This section sets out what happens if a successor to a property business receives a sum that arose from the business when it was carried on by the predecessor. It is based on sections 21B and 106 of ICTA. The corresponding rule for income tax is in section 310 of ITTOIA.

900.Subsection (2) treats the “sum” received as a receipt of the property business. As this rule affects the calculation of the profits of a property business it appears in this Chapter rather than with the post-cessation receipt rules, where it is in the source legislation.

901.The source legislation applies “for all purposes”. This section applies for corporation tax purposes. Section 310 of ITTOIA applies for income tax purposes. Section 37(1) of TCGA (as construed in accordance with section 8(4) of TCGA) ensures that any sums received as a result of the transfer are not charged to corporation tax on a company’s chargeable gains.

Section 250: Reverse premiums

902.This section sets out the rules for taxing reverse premiums as receipts of a property business. It is based on Schedule 6 to FA 1999. The corresponding rule for income tax is in section 311 of ITTOIA.

903.Subsection (1) refers to a “reverse premium”. In accordance with subsection (6) that expression has the same meaning as in section 96. So this section applies to reverse premiums excluding any of the “excluded cases” within section 97. The subsection also excludes any reverse premium that is charged to tax as a trade receipt by section 98.

904.Subsections (2) and (3) bring the reverse premium within the scope of the property income rules as United Kingdom or overseas property business even if the recipient is not already carrying on a property business.

905.Schedule 2 to this Act rewrites the transitional provision in section 54(2) of FA 1999. This section does not apply to pre 9 March 1999 reverse premiums.

Section 251: Deduction for expenditure on energy-saving items

906.This section provides a deduction for certain expenditure on energy-saving items where that expenditure would not otherwise be allowable because it is capital. It is based on section 31ZA of ICTA.

Section 252: Restrictions on relief

907.This section imposes certain restrictions on the relief that would otherwise be due under section 251. It is based on section 31ZB of ICTA.

Section 253: Regulations

908.This section provides for the Treasury’s powers to make regulations for the purposes stated. It is based on section 31ZC of ICTA.

Section 254: Deduction for expenditure on sea walls

909.This is the first of four sections that provide relief to a landlord for making a sea wall or other embankment to protect let premises against flooding by the sea or a tidal river. The corresponding rules for income tax are in sections 315 to 318 of ITTOIA.

910.This section states the circumstances in which the relief is given. It is based on section 30(1), (4) and (5) of ICTA. The corresponding rule for income tax is in section 315 of ITTOIA.

911.Subsection (2) makes it clear that to obtain a deduction for sea walls expenditure, the person carrying on the property business and the person incurring the sea walls expenditure must be the same person. This may appear to be stating the obvious but section 30(1) of ICTA says merely that the person incurring the expenditure is treated as making a payment “for the purpose of computing the profits of any Schedule A business carried on in relation to those premises” (emphasis added). This does not mean literally any such business carried on by someone other than the person incurring the expenditure: there would be no point in deeming the payment to be made by that person if it were otherwise. And the provisions on transfer of interests in section 30(2) to (3) of ICTA reflect the notion that the deemed payment, and hence the right to relief, moves from the former owner to the transferee. There is no suggestion of involvement by any other party.

912.Subsection (3) defines the “deduction period” referred to in subsection (2). Qualifying expenditure is deducted over 21 years in calculating the profits of the property business. The “deduction period” is comparable to the “writing-down period” over which expenditure qualifying for capital allowances is written off. This reflects the similarity between the relief given by the sea walls provisions and certain capital allowances provisions. The relief is for expenditure which would otherwise be capital in nature. And the expenditure is not relieved all at once but over a period, even if there are changes in the person who obtains the relief.

913.Subsection (5) is based on section 30(4) of ICTA which deals with the unusual fact that for corporation tax purposes sea walls relief is given by reference to a year of assessment (“tax year” in ITTOIA and this Act). A year of assessment is not a term that is normally relevant to corporation tax where the relevant measures of time are financial years and accounting periods. “Tax year” is defined in a section 1319 (other definitions), the equivalent for corporation tax purposes of section 878 of ITTOIA.

Section 255: Transfer of interest in premises

914.This section deals with the case where the person who incurred the sea walls expenditure sells the premises during the 21 year period over which the deduction is due. It is based on section 30(2) and (3) of ICTA. The corresponding rule for income tax is in section 316 of ITTOIA.

915.Subsection (1) applies to transfers of the relevant interest “whether by operation of law or otherwise”. These words derive directly from the source legislation. They ensure that the provision applies to, for example, successions to estates as well as the sort of merger of interests envisaged in section 256.

916.Subsection (2)(b) requires any apportionment to be “just and reasonable” whereas section 30(2)(a) of ICTA refers simply to an apportionment that is “just”. This change reflects the approach that was adopted in CAA and which has been followed in similar contexts elsewhere for consistency. There is no practical difference between the two forms of words. See Change 12 in Annex 1.

917.Subsection (5) makes explicit what is merely implicit in the source legislation, namely, the extent of the transferor’s entitlement to a deduction in subsequent years. In particular, subsection (5)(a) makes it clear that if the transfer is of only part of the premises, the transferor continues to be entitled to a deduction in relation to the part not transferred.

Section 256: Ending of lease of premises

918.This section deals with the case where the sea walls expenditure is incurred by a lessee and the lease comes to an end before the end of the deduction period. It is based on section 30(3) of ICTA. The corresponding rule for income tax is in section 317 of ITTOIA.

919.The cases to which subsection (3) applies include renewals of the lease to the same person. Then the deduction passes to the immediate reversioner.

920.In the source legislation “lease” is defined for the purposes of the sea walls provisions in section 24(6)(a) of ICTA. But that definition is redundant and, since it no longer applies to any other provision, is not rewritten in this Act. It is redundant in the sea walls context for the following reasons.

921.Section 24(6)(a) of ICTA defines references to a lease as extending only to a lease conferring a right, as against the person whose interest is subject to the lease, to the possession of the premises. It originated as paragraph 16 of Schedule 4 to FA 1963. Notes on Clauses to FA 1963 explain that the reference to possession was to ensure that a “lease” in Schedule A and sections 25 to 31 of ICTA must be one of land and not of incorporeal hereditament. So a lease of sporting rights, or a right of way, would not be covered. However, Street v Mountford [1985], AC 809 established that a “lease” of land which does not confer on the tenant exclusive possession is not, in fact, a lease but a licence.

922.Section 30(2) of ICTA does not explain the meaning of the transfer of the whole of a person’s interest in any premises or part of any premises. The transfer of the whole of a person’s interest is significant because it can lead to the transfer of entitlement to a deduction for sea walls expenditure. But entitlement to a deduction for sea walls expenditure does not arise anyway unless a person is the owner or tenant of premises. A lease which makes a person a tenant of premises is not a lease of an incorporeal hereditament. So, although section 30 of ICTA does not expressly exclude leases of incorporeal hereditaments, to the extent that they might cover leases of incorporeal hereditaments references to “leases” in that provision are simply redundant.

Section 257: Transfer involving person within the charge to income tax

923.This section ensures that entitlement to a deduction for expenditure on sea walls continues properly when the interest in the premises is transferred between a corporation tax payer and an income tax payer. It is based on section 30(2A) of ICTA. The corresponding rule for income tax is in section 318 of ITTOIA.

924.Entitlement to a deduction for expenditure on sea walls can be transferred with ownership of the premises. That transfer can be between a corporation tax payer and an income tax payer. Section 255 deals with transfers between corporation tax payers. But it cannot deal with a transfer from a corporation tax payer to an income tax payer or the reverse because the provisions in this Act apply only to corporation tax payers.

925.Section 257 allows the seawalls provisions in this Act to work properly in respect of the party to the transfer who is subject to corporation tax.

926.Subsection (4) signposts to the provisions in ITTOIA that deal with the party to the transfer who is subject to income tax.

Section 258: Relief in respect of mineral royalties

927.This section provides that only half the net profits received in respect of mineral royalties are charged to corporation tax on income. It is based on section 122 of ICTA. The other half of the profits are charged to corporation tax on chargeable gains by section 201 of TCGA. The corresponding rule for income tax is in section 319 of ITTOIA.

928.The section applies only to mineral royalties that are not taxed under Chapter 7 of this Part. That Chapter taxes rents and royalties from concerns such as mines and quarries. In practice nearly all mineral royalties will be taxed under Chapter 7 of Part 4 of this Act. For this reason this section cross-refers to the definitions in that Chapter.

Section 259: Nature of item apportioned on sale of estate or interest in land

929.This section preserves the capital or revenue nature of an amount due, or payable in arrears, that is apportioned to a seller on the sale of land. It is based on section 40(3)(b) of ICTA. The corresponding rule for income tax is in section 320 of ITTOIA.

930.Most of section 40 of ICTA is not rewritten because it has become redundant following the application of Schedule D Case I principles to Schedule A.

931.The original predecessor of section 40 of ICTA (section 20 of FA 1964) was introduced to deal with a specific problem. That was reflecting, in the calculation of income from land, any apportionments of rent (as a receipt or an expense) that took place between seller and purchaser when land was sold. That required two kinds of rule. The first were calculation rules. They were necessary because at the time section 20 of FA 1964 was introduced the charge on income from land was based on entitlement to incoming rent and payment of outgoing rent. Where there were apportionments on sale there might be neither entitlement nor payment by the “right” person. The second were timing rules to ensure that the consequential adjustments fell in the right tax year.

932.As a result of the 1995 Schedule A reforms and their application, in 1998, to corporation tax, these rules are no longer necessary. Two main factors lead to this conclusion.

933.The first relates to the object of charge under Schedule A: the profit of a Schedule A business. For there to be a Schedule A business a person has to be exploiting United Kingdom land for rent (section 15(1)1(1) of ICTA). In order to be a receipt (or outgoing) of the Schedule A business it is enough that an amount relates to a period when the person was exploiting the land.

934.The second factor relates to the time when income within the charge is brought into account. Accounting principles have been imported from Schedule D Case I into Schedule A. These principles bring an item into account in the period to which it relates. So the rules in section 40(1) to (3) of ICTA about the time of receipt and payment are unnecessary.

935.Section 40(4) of ICTA is similarly now unnecessary. It provides that any reference in section 40(1) and (2) of ICTA to a party to a contract includes a person to whom the rights and obligations of that party under the contract have passed by assignment or otherwise. Since the test of whether or not an item is to be brought into account under Schedule A is whether it arises from a person’s exploitation of land then whether the rights and obligations under the contract pass by assignment or otherwise, the person to whom they pass will be the person exploiting the land.

936.Section 40(4A) of ICTA is not rewritten. It is linked to the parts of section 40 of ICTA that are unnecessary and also gives in certain circumstances the wrong result.

937.Section 40(3)(b) of ICTA has a clear anti-avoidance purpose that is preserved in section 259. But it also contains a timing rule. The timing rule in section 40(3)(b) of ICTA is not rewritten because accounting principles again attribute the apportioned amount to the correct period.

938.This section rewrites the anti-avoidance part of section 40(3)(b) of ICTA which preserves the capital or revenue nature of any amount due or paid in arrears and apportioned by the buyer to the seller on the sale of land.

939.The time of apportionment referred to in the section is normally the time of completion of the sale.

Section 260: Mutual business

940.This section makes it clear that the concept of “mutuality” does not apply in the property income context. It is based on section 21C of ICTA. The corresponding rule for income tax is in section 321 of ITTOIA.

941.Mutuality is a concept that has been developed by the courts over a long period. It derives from the principle that one cannot make a profit by dealing with oneself. It may arise in the trading context where a class of contributors to a common fund are entitled, as a class, to share in the surpluses of that fund.

942.The approach in this section differs from that of the source and is simpler. The approach in section 21C of ICTA is to apply the normal profit calculation rules to any “mutual business” and add the result to the profits of the rest of the Schedule A business. This section on the other hand prevents, from the outset, the concept of mutuality operating on amounts within this Part of this Act.

Section 261: Adjustment on change of basis

943.This section sets out the circumstances in which an adjustment may arise. It is based on section 64 of FA 2002. The equivalent rule for trades is in section 180. The corresponding rule for income tax is in section 329 of ITTOIA.

944.In the source legislation the change of basis rules apply to a Schedule A business because they are “other rules applicable to Case I of Schedule D” (see section 21B of ICTA). On the other hand, for an overseas property business section 70A(5) of ICTA imports only “the rules applicable to the computation of the profits” (see section 21A of ICTA). So the change of basis rules do not apply to an overseas property business.

Section 262: Giving effect to positive and negative adjustments

945.This section sets out how to calculate an adjustment and how it is treated for tax purposes. It is based on paragraphs 2 and 4 to 7 of Schedule 22 to FA 2002. The corresponding rules for income tax are in sections 330, 333 and 334 of ITTOIA.

946.Subsection (6) is a cross-reference to the trading income rule about expenses for which a deduction has already been made.

Section 263: Expenditure on integral features

947.This section draws attention to the rule in section 33A(3) of CAA. There is a signpost to that rule in section 74(1)(da) of ICTA. That subsection is repealed. The signpost is not formally rewritten but it is replaced in this section (and in the trading income section 60).

Chapter 6: Commercial letting of furnished holiday accommodation

Overview

948.The sections in this Chapter define the lettings that can qualify for special tax advantages: “the commercial letting of furnished holiday accommodation”. They are based on section 504 of ICTA. The corresponding rules for income tax are in sections 322 to 327 of ITTOIA.

949.The sections do not, themselves, provide for the tax advantages. That is the function of the particular “relieving” provisions (such as the loss relief provisions) that are cross-referred to.

950.The primary purpose of this Chapter is to provide a central definition of this particular type of letting, income from which benefits from tax advantages provided for in other Acts.

951.This income is part of the single property business denoted in section 205 and chargeable therefore under this Part.

Section 264: Overview of Chapter

952.This section is introductory and explanatory. It is new. It makes clear that the provisions that provide for the tax advantages are to be found elsewhere. The corresponding rule for income tax is in section 322 of ITTOIA.

Section 265: Meaning of “commercial letting of furnished holiday accommodation”

953.This section defines the lettings that can benefit from the special tax treatment. It is based on section 504 of ICTA. The corresponding rule for income tax is in section 323 of ITTOIA.

954.It is not sufficient that the letting is simply of furnished holiday accommodation: it must also be “qualifying holiday accommodation”. Subsection (3)(b) provides a signpost to the sections that define “qualifying holiday accommodation”.

Section 266: Meaning of “relevant period” in sections 267 and 268

955.This section defines the period during which certain conditions need to be satisfied in order to benefit from the special tax treatment. It is based on section 504(5) of ICTA. The corresponding rule for income tax is in section 324 of ITTOIA.

956.Subsection (4) gives the general rule and identifies the relevant period for the case where there is established and continuing letting. It follows the source legislation (in section 504(5)(c) of ICTA) by putting the general rule covering what is likely to be the most common case, last. This is because the company still needs to read the first two rules to know whether it falls within the general rule.

Section 267: Meaning of “qualifying holiday accommodation”

957.This section sets out the additional tests the letting must satisfy to qualify for the special treatment. It is based on section 504(3) and (5) of ICTA. The corresponding rule for income tax is in section 325 of ITTOIA.

958.Subsection (1), which is based on section 504(3), introduces the term “qualifying holiday accommodation” and defines it by reference to the three conditions that are set out in the subsequent subsections.

959.Subsection 504(3) of ICTA is particularly complex. The three tests it imposes in paragraphs (a) to (c) are referred to in the subsequent subsections of this section as, respectively, the “availability”, “letting” and “pattern of occupation” conditions. If all three are met, the accommodation is “qualifying holiday accommodation”.

960.Subsections (4) to (6) are based on section 504(3)(c) of ICTA. Section 504(3)(c) of ICTA is particularly ambiguous and this section seeks to reduce that ambiguity. The approach differs from that in the source legislation and involves a change that alters the period during which, in order to qualify for the special treatment, the accommodation must not be occupied for more than 31 days at a time. See Change 51 in Annex 1.

Section 268: Under-used holiday accommodation: averaging elections

961.This section allows accommodation that would be “qualifying holiday accommodation”, were it not simply for insufficient actual letting, nevertheless to qualify if, on average, the letting condition in section 267(3) is met. It is based on section 504(6) to (8) of ICTA. The corresponding rule for income tax is in section 326 of ITTOIA.

962.Subsection (1) introduces a new term, “under-used accommodation”, to denote this accommodation.

963.Subsection (4) introduces a change. This changes the period over which lettings are averaged for the purpose of treating infrequently let property as qualifying holiday accommodation from the accounting period to the relevant period (as defined in section 266). See Change 52 in Annex 1.

Section 269: Capital allowances and loss relief

964.This section provides for separate calculations in order to give effect to the tax advantages of qualifying holiday lettings. It is new. The corresponding rule for income tax is in section 327 of ITTOIA.

965.There is no explicit requirement for separate furnished holiday lettings calculations in section 503 of ICTA. But it is clearly not possible to give effect to the special corporation tax treatments available to furnished holiday lettings without separating out the relevant income and expenditure. Requiring, where appropriate, separate calculations makes explicit what is only implicit in section 503 of ICTA.

966.This section provides a mechanism to ensure that the special rules that can give tax advantages in respect of these lettings work properly and clearly in the context of a UK property business of which the furnished holiday lettings is part: the profit from such lettings must be identified separately but only when there is a practical need to do so.

Chapter 7: Rent receivable in connection with a UK section 39(4) concern

Overview

967.This Chapter charges as property income rent receivable in connection with a section 39(4) concern. It also provides for certain deductions and reliefs to be given from that income.

968.This Chapter makes the relationship between the rules derived from sections 119 (rent payable in connection with mines, quarries and similar concerns) and 122 (relief in respect of mineral royalties) of ICTA clear. So section 201(2) of TCGA (mineral leases: royalties) is omitted, see Part 2 of Schedule 1 to this Act.

Section 270: Charge to tax on rent receivable in connection with a UK section 39(4) concern

969.This section applies the charge to corporation tax to rent receivable in connection with a “UK section 39(4) concern”. It is based on section 119 of ICTA. The corresponding rule for income tax is in section 335 of ITTOIA.

970.The loss regime in section 396 of ICTA applies to income charged under this Chapter and not the regime in section 392A of ICTA.

971.The charge under Schedule D Case III imposed by section 119(2) of ICTA is not rewritten. It is otiose. See Change 53 in Annex 1. This Change reproduces Change 158 in ITTOIA in relation to section 119(2) of ICTA and so brings the income and corporation tax codes back into line.

Section 271: Meaning of “rent receivable in connection with a UK section 39(4) concern”

972.This section clarifies:

what is meant by “UK section 39(4) concern”;
what is meant by “rent”; and
when rent is treated as “receivable in connection with” such a concern.

973.It is based on section 119 of ICTA. The corresponding rules for income tax are in section 336 of ITTOIA.

974.Subsection (1) identifies when rent is receivable in connection with a “UK section 39(4) concern”. It uses the language of section 207(1) (meaning of “generating income from land”) to rewrite the phrase “in respect of any land or easement” in section 119(1) of ICTA. Section 207 is based on paragraph 1(1) of Schedule A (section 15(1) of ICTA). The concept in section 207 of “generating income from land” serves to determine the scope of Schedule A. The approach in this section assumes that the income taxed by section 119 of ICTA would otherwise have been taxed under Schedule A.

975.The justification for this assumption is that section 119 of ICTA can have no application to income that is already taxed under Schedule D Case VI. Neither is there any question that the rent would go untaxed if it were not for section 119 of ICTA. Rents are clearly annual profits or gains as described in Schedule D Case VI of ICTA. The effect of section 119 of ICTA is to take income that would be taxed under Schedule A and tax it under Schedule D. So in identifying the scope of the charge it is possible to use the ordinary property business definitions and avoid the need to rewrite the complicated definitions of “easement” and “rent” in section 119(3) of ICTA.

976.The section makes explicit a territorial restriction to the United Kingdom that is implicit in section 119(1) of ICTA. If a “UK section 39(4) concern” is located outside the United Kingdom it would be a foreign possession for the purposes of the charge under Schedule D Case V. Any income arising from such a possession would have been taxed under Schedule D Case V. Section 119 of ICTA could have had no application to income that was already taxed under Schedule D.

977.Subsection (3) provides the definition of rent. It is based on section 119(3) of ICTA. As explained in the commentary on subsection (1), this section is based on the assumption that the rents taxed by section 119 of ICTA would otherwise have been taxed under Schedule A. This means it is not necessary to reproduce the definition of “rent” in section 119(3) of ICTA.

Section 272: Deduction for management expenses of owner of mineral rights

978.This section allows a deduction for the expenses of managing mineral rights. It is based on section 121 of ICTA. The corresponding rule for income tax is in section 339 of ITTOIA.

979.Subsection (1) sets out the conditions for the section to apply. It does not reproduce the condition that the expenses must be incurred “necessarily”. See Change 54 in Annex 1. The “necessarily” test is impractical in this context. This change reproduces Change 78 in ITTOIA and so brings the income and corporation tax codes back into line.

980.Subsection (2) provides that a deduction is allowed for the qualifying expenses paid in the accounting period. This rewrites the requirement that the expenses are “disbursed” in the period.

981.The relief applies only to rents received from a “UK section 39(4) concern”. If the income is taxed as income from a UK property business there is no need for special rules identifying what deductions are allowable. The normal rules apply.

Section 273: Relief in respect of mineral royalties

982.This section provides that only half of the net profit earned in respect of mineral royalties is charged to corporation tax. It is based on section 122 of ICTA. The other half of the net profit is charged to corporation tax on chargeable gains by section 201 of TCGA. The corresponding rule for income tax is in section 340 of ITTOIA.

983.Subsection (1) limits the relief to royalties taxed under this Chapter of this Act. If the royalty is not taxed under this Chapter the same relief is given by section 135 or section 258.

Section 274: Meaning of “mineral lease or agreement” and “mineral royalties”

984.This section defines various terms used in section 273. It is based on section 122 of ICTA. The corresponding rules for income tax are in section 341 of ITTOIA.

985.Section 291 includes a definition of “lease” that applies for the purposes of this Part. It is based on section 24 of ICTA, which applies for the purposes of Schedule A in the source legislation. Because the definition applies only for Schedule A in strictness it does not extend to the income taxed under section 273. But the definition of “mineral lease or agreement” in section 122(6) of ICTA applies to any agreement conferring a right to win and work minerals in the United Kingdom. Such an agreement would also satisfy the definition in section 24 of ICTA so there is no change in the law.

986.The legislation rewritten by subsection (2) does not include any rent receivable before 6 April 1970. This limitation is preserved in Schedule 2 (transitionals and savings).

Section 275: Extended meaning of “mineral royalties” etc in Northern Ireland

987.This section modifies the definition of “mineral royalties” to deal with the different rules that apply to the ownership of mineral rights in Northern Ireland. It is based on section 122 of ICTA. The corresponding rule for income tax is in section 342 of ITTOIA.

988.The right to win, and win and work, most minerals in Northern Ireland is vested in the Department of Enterprise, Trade and Investment (DETI). The DETI will grant licences to work the minerals and make compensatory payments to the former owners of the mineral rights under various Acts of the Northern Ireland Parliament. This section treats those payments as mineral royalties for the purposes of section 273.

Section 276: Power to determine what counts as “mineral royalties”

989.This section allows the Commissioners to make regulations concerning the application of the relief in section 273. It is based on section 122 of ICTA. The corresponding rule for income tax is in section 343 of ITTOIA. Any regulations made under this power would apply also to sections 135 and 258 through sections 135(3) and 258(3).

Chapter 8: Rent receivable for UK electric-line wayleaves

Overview

990.This Chapter rewrites the Schedule D Case VI charge on rent received for a wayleave granted in the United Kingdom. It is based on section 120 of ICTA.

991.If a landowner receives rent for a UK electric-line wayleave section 120 of ICTA provides that:

the rent is charged under Schedule A if the landowner receives other rent in respect of the same land; otherwise
the rent is charged under Schedule D.

992.In practice this meant that if the landowner carries on a trade on the land the rent can be treated as a trade receipt. Otherwise the rent was taxed under Schedule D Case VI.

993.Section 396 of ICTA gives the rules for dealing with Schedule D Case VI losses. In order to preserve that loss regime it is necessary to isolate the income that ICTA charges under Schedule D Case VI.

Section 277: Charge to tax on rent receivable for a UK electric-line wayleave

994.This section applies the charge to corporation tax to rent receivable for a UK electric-line wayleave. It is based on section 120 of ICTA. The corresponding rule for income tax is in section 344 of ITTOIA.

Section 278: Meaning of “rent receivable for a UK electric-line wayleave”

995.This section provides the definition of “rent receivable for a UK electric-line wayleave”. It is based on section 120 of ICTA. The corresponding rule for income tax is in section 345 of ITTOIA.

996.Section 120(1) of ICTA identifies the right in respect of which the rent is payable as an “easement”. Section 120(5) of ICTA cross-refers to the definition of “easement” in section 119(3) of ICTA. Section 119 of ICTA is rewritten in Chapter 7 of this Part. As explained in the commentary on section 45 both this Chapter and section 45 use the term “wayleave” to describe the right in respect of which the rent is received. In practice this is how most of the payments covered by this section are usually described. But the generality of the words in section 119(3) of ICTA has not been lost. The section also uses the Scottish term for “easement”, “servitude”.

997.Subsection (2) clarifies the meaning of “electric, telegraph or telephone wire or cable”. It does not repeat the reference to “transformer” in the source legislation. In its context it is clear that “apparatus” would include “transformer”.

Section 279: Extent of charge to tax

998.This section sets out the two exceptions under which the rent received in respect of a UK electric-line wayleave is not taxed under this Chapter. It is based on section 120 of ICTA. The corresponding rule for income tax is in section 346 of ITTOIA.

999.Subsections (1) and (2) deal with the case in which the company receives other rent in respect of the land except rent from another wayleave. The rent from the wayleave is taxed as property income.

1000.Subsections (3) and (4) deal with the case in which the company carries on a trade on the land. See Change 6 in Annex 1 and the commentary on section 45. The rent may be taxed as a trade receipt.

Chapter 9: Post-cessation receipts

Overview

1001.This Chapter applies the rules about post-cessation receipts to UK property businesses, broadly as they apply to trades. The main rules for trades are in Chapter 15 of Part 3 of this Act. The application of the rules to property businesses is based on section 21B of ICTA, which specifically mentions sections 103 to 106 of ICTA.

1002.Although the post-cessation receipt rules apply to a Schedule A business, they do so by virtue of section 21B of ICTA. That section deals with “other rules applicable to Case I of Schedule D”. On the other hand, section 21A of ICTA deals with rules about the computation of profits of a trade. So section 70A of ICTA imports only the computation rules in section 21A and the post-cessation receipt rules do not apply to an overseas property business.

1003.A property business cannot have trading stock. So section 195 (transfer of trading stock) does not have a corresponding rule in this Chapter.

1004.The following trading income rules apply to property businesses but are not in separate sections in this Chapter:

sections 192 and 193: rules about debts (these rules are applied by section 283(2)); and
sections 196 and 197: allowable deductions (these rules are applied by section 285).

Section 280: Charge to tax on post-cessation receipts

1005.This section applies the corporation tax charge on income to post-cessation receipts. It is based on sections 103 and 104 of ICTA, as applied by section 21B of ICTA. The corresponding rule for income tax is in section 349 of ITTOIA.

Section 281: Extent of charge to tax

1006.This section restricts the charge on the post-cessation receipts. It is based on sections 103 and 104 of ICTA, as applied by section 21B of ICTA. The corresponding rule for income tax is in section 350 of ITTOIA.

Section 282: Basic meaning of “post-cessation receipt”

1007.This section defines post-cessation receipts of a UK property business. It is based on sections 103, 104 and 110 of ICTA, as applied by section 21B of ICTA. The corresponding rule for income tax is in section 353 of ITTOIA.

1008.Subsection (2) explains that a person permanently ceases to carry on a UK property business if:

a company ceases to be within the charge to income tax in respect of the UK property business; or
a company or any other person ceases to be a member of a firm which carries on a UK property business.

Section 283: Other rules about what counts as a “post-cessation receipt”

1009.This section brings together signposts to rules that operate so as to treat certain sums as post-cessation receipts and to exclude others from the charge. It is new. The corresponding rule for income tax is in section 354 of ITTOIA.

1010.Subsection (1) is a signpost to the section that deals with the transfer of a right to receive a post-cessation receipt to a person who does not carry on a UK property business.

1011.Subsection (2) lists the trading income rules that apply to create post-cessation receipts for the purpose of this Chapter.

1012.Subsection (3) draws attention to the rule in Chapter 5 of this Part that treats a sum received as not being a post-cessation receipt if the right to it was transferred with a property business. It also mentions the rule in Part 18 of this Act that treats profits of an overseas property business as post-cessation receipts (of a UK property business) if they become remittable after the company has ceased to carry on the business.

Section 284: Transfer of rights if transferee does not carry on UK property business

1013.This section sets out the positions of the transferor and transferee if the right to a post-cessation receipt is transferred for value. It is based on section 106 of ICTA, as applied by section 21B of ICTA. The corresponding rule for income tax is in section 355 of ITTOIA.

Section 285: Allowable deductions

1014.This section applies the trading income rules about allowable deductions. It is based on section 105 of ICTA, as applied by section 21B of ICTA.

Section 286: Election to carry back

1015.This section allows a company to elect to have a post-cessation receipt taxed as though it had been received in the accounting period in which the company ceased to carry on the UK property business. It is based on section 108 of ICTA, as applied by section 21B of ICTA, although section 108 was repealed by ITTIOA. The corresponding rule for income tax is in section 257 of ITTOIA, as applied by section 351(2)(b) of ITTOIA.

1016.See Change 42 in Annex 1 and the commentary on section 198.

Chapter 10: Supplementary

Section 287: Provisions which must be given priority over this Part

1017.This section provides the rules to determine which Part takes priority in the event of any overlap of the charge on the profits of a trade and the charge on the profits of an overseas property business or the charge under Chapter 7 or 8 of this Part. It is based on sections 18 and 70A of ICTA.

1018.The definitions of Schedule D Cases I and VI are in section 18 of ICTA. Those definitions deal with any overlap between a trade and the profits of a UK concern or the profits of a UK electric line wayleave. Case VI charges income that is not charged under any other case. So this section gives trading income (Case I in the source legislation) priority.

1019.The section also gives statutory effect to the Crown Option between an overseas property business and a United Kingdom trade. See Change 55 in Annex 1. The corresponding rules for income tax are in section 261 of ITTOIA.

Section 288: Priority between Chapters within this Part

1020.This section gives an order of priority between Chapters 3, 7 and 8 of this Part. It is based on sections 119 and 120 of ICTA. The corresponding rules for income tax are in section 262 of ITTOIA.

1021.Subsection (3) deals with income that falls within both Chapter 7 and Chapter 8 of this Part. See Change 6 in Annex 1 and the commentary on section 45.

Section 289: Effect of company starting or ceasing to be within charge to corporation tax

1022.This section treats a company as starting or ceasing to carry on a property business in particular circumstances. It is based on section 337 of ICTA. The corresponding rule for income tax is in section 362 of ITTOIA.

1023.This section applies when a company moves into or out of the corporation tax regime. Non-UK resident companies are within the charge to corporation tax only if they are trading, are trading in the United Kingdom, and through a permanent establishment in the United Kingdom. Then they are chargeable to corporation tax on all the profits attributable to that permanent establishment. If those profits include the profits of a property business, first meeting or ceasing to meet those conditions will result in a change of taxing regime from income tax to corporation tax or vice versa.

Section 290: Overseas property businesses and overseas land: adaptation of rules

1024.This section sets out how the rules for United Kingdom property businesses are to be adapted to apply to overseas property businesses. It is based on section 70A of ICTA. The corresponding rule for income tax is in section 363 of ITTOIA.

1025.The section explains how to apply the UK property business rules if foreign property law does not correspond exactly with United Kingdom property law.

Section 291: Meaning of “lease” and “premises”

1026.This section is interpretative. It is based on section 24(1) of ICTA. The corresponding rule for income tax is in section 364 of ITTOIA.

Part 5: Loan Relationships

Overview

1027.This overview deals with Parts 5 and 6.

1028.This and the following Part contain provisions on loan relationships. The extent of the legislation merits two Parts.

1029.A company has a loan relationship when it stands in the position of a creditor or debtor in respect of a money debt which is a transaction for the lending of money. The rules dealing with loan relationships are found in this Part. This Part is based mainly on Chapter 2 of Part 4 of FA 1996, which brings into account for corporation tax purposes all gains and losses arising to a company from its loan relationships.

1030.Other arrangements which are treated as loan relationships such as debt which does not involve the lending of money, finance arrangements that do not involve the payment or receipt of interest, particular share issues, repurchase agreements etc are found in Part 6. The source legislation for this Part is sometimes found outside FA 1996.

1031.Although the rules for computing the credits and debits on loan relationships used for the purposes of a trade are within this Part, the credits are treated as receipts and the debits as expenses in computing the trading profits within Part 3 of the Act. Profits on loan relationships that are not used for the purposes of a trade are charged under this Part. The charge on such profits is separate from the charge on trading profits.

1032.Losses on non-trading loan relationships (where debits exceed credits) are relieved against company profits.

1033.Profits on derivative contracts which are not used for the purposes of a trade are charged as if they were gains on loan relationships, but the rules for computing such profits are to be found in the Part 7 (derivative contracts) of this Act. Losses on such derivatives are also dealt with as if they were losses on a loan relationship.

1034.Provisions on capital gains within the loan relationships provisions have not been rewritten in this Part or Part 6 but are inserted into TCGA by Schedule 1.

Chapter 1: Introduction

Overview

1035.This Chapter acts as an introduction to this Part. It sets out the structure of the Part and the way in which credits and debits on a loan relationship are brought into account in the case of both trading and non-trading loan relationships.

Section 292: Overview of Part

1036.This section provides an overview of the Part. It is new.

1037.Subsection (1) refers only to “profits” on a loan relationship and not “profits and gains” as does the source legislation. This has been followed throughout the Part on the ground that only one term is necessary. “Profits” has been adopted as being the usual taxation term and as making the link to case law on profits for corporation tax purposes clearer for the two Parts.

1038.The term “loan relationship” has been retained for its familiarity although the term is not as appropriate now as it was when the source legislation was enacted in 1996. The provisions now apply to a number of relationships which are not “loans”.

Section 293: Construction of references to profits or losses from loan relationships

1039.This section provides that profits and losses from loan relationships include profits and losses from related transactions. It is based on section 84(1) of FA 1996. The inclusion of related transactions avoids the repetition of the source legislation (“gains and losses on loan relationships and related transactions, etc”).

Section 294: Matters treated as loan relationships

1040.This section requires references to this Part of the Act to include references to Part 6 and arises from the decision to spread the loan relationships provisions over two Parts of the Act. It is new.

Section 295: General rule: profits arising from loan relationships chargeable as income

1041.This section provides the basic rule that all profits on loan relationships are charged as income. It is based on section 80(1) of FA 1996.

Section 296: Profits and deficits to be calculated using credits and debits given by this Part

1042.This section is based on section 82(1) of FA 1996.

Section 297: Trading credits and debits to be brought into account under Part 3

1043.This section explains how debits and credits are to be treated where a loan relationship is used for the purposes of a trade. It is based on sections 80(2) and 82(2) and (7) of FA 1996.

Section 298: Meaning of trade and purposes of trade

1044.This section explains what is meant by a company being a party to a creditor relationship for the purposes of a trade. It is based on section 103(2) and (3) of FA 1996.

Section 299: Charge to tax on non-trading profits

1045.This section brings the company into charge to corporation tax on its non-trading profits. It is based on sections 9(1) to (3), 18(1) to (3) and 582(2) of ICTA and section 80(1) and (3) of FA 1996. See Change 59 in Annex 1 under section 413 in respect of the Schedule D Case VI charge in section 582(2) of ICTA.

Section 300: Method of bringing non-trading deficits into account

1046.This section explains how non-trading deficits on loan relationships are brought into account. It is based on section 80(4) of FA 1996.

Section 301: Calculation of non-trading profits and deficits from loan relationships: non-trading credits and debits

1047.This section explains the use of the terms “non-trading credits” and “non-trading debits” in respect of loan relationships which are not used for the purposes of a trade and provides the rules for set-offs between the two. It is based on section 82(1) and (3) to (6) of FA 1996.

Chapter 2 Basic definitions

Overview

1048.This Chapter provides definitions for this Part and Part 6.

Section 302: “Loan relationship”, “creditor relationship”, “debtor relationship”

1049.This section defines three important terms used in the two Parts. It is based on sections 81(1) and 103(1) of FA 1996.

Section 303: “Money debt”

1050.This section defines “money debt” for the purposes of the definition of a loan relationship in section 302 and elsewhere. It is based on section 81(2) to (4) of FA 1996.

1051.Section 81(6) which states that “money” includes money expressed in a currency other than sterling is unnecessary and has not been rewritten. “Money”, in its usual meaning, already includes currencies other than sterling.

Section 304: “Related transaction”

1052.This section explains what is meant by a “related transaction”. It is based on section 84(5) and (6) of FA 1996.

Section 305: Payments, interest, rights and liabilities under a loan relationship

1053.This section explains what is meant by these terms. It is based on section 81(5) of FA 1996.

Chapter 3: The credits and debits to be brought into account: general

Overview

1054.This Chapter provides the rules for bringing profits and deficits on loan relationships into account for corporation tax purposes. The provisions in this Chapter all represent rules that apply generally rather than to specific types of securities or specific types of companies. They have therefore been placed early on in the Part.

Section 306: Overview of Chapter

1055.This section provides an overview of the Chapter, explains the purpose of the sections within the Part and signposts other relevant Chapters. It is new.

Section 307: General principles about the bringing into account of credits and debits

1056.This section provides the rule that credits and debits are those recognised in determining the company’s profit and loss for a period and must fairly represent profits and losses from loan relationships and also gives further rules on allowable expenses. It is based on section 84(1) and (3) and 85A(1) of FA 1996.

1057.Subsections (3)(c) and (4) allow certain expenses on loans to be treated as debits for the purposes of this Part.

1058.The inclusion of profits of a capital nature in section 84(1)(a) of FA 1996 is rewritten in section 293(3).

Section 308: Amounts recognised in determining a company’s profit or loss

1059.This section explains what is meant by amounts recognised in determining a company’s profit or loss account for a period. It is based on section 85B(1) and (2) of FA 1996.

1060.This section updates the references in section 85B(1)(a) and (b) of FA 1996 to a company’s statement of income and gains, etc in line with current accountancy practice.

1061.Accounting terms appearing more than once are included in section 476 (other definitions). “Profit and loss account” (subsection (1)(a)) and “prior period adjustment” (subsection (2)) appear here only and take their ordinary accountancy meaning.

1062.Subsection (1)(b) rewrites “statement of recognised gains and losses” as “statement of total recognised gains and losses” as being the usual accountancy term.

1063.“Generally accepted accounting principles” appears in the Schedule 4 to this Act.

1064.Part 2(6) of Schedule 11 to F(No 2)A 2005 repeals section 85B(6) of FA 1996 with effect from a date to be appointed.

Section 309: Companies without GAAP-compliant accounts

1065.This section gives the rule to be applied where accounts have not been prepared in accordance with generally accepted accounting practice. It is based on section 85A(2) to (4) of FA 1996 and paragraph 14(8) of Schedule 13 to FA 2007.

1066.“Correct accounts” in section 85A(2) has been rewritten as “GAAP-compliant accounts” in subsection (1) as being a more neutral term.

Section 310: Power to make regulations about recognised amounts

1067.This section gives powers to make regulations affecting section 308. It is based on section 85B(3) to (6) of FA 1996 and paragraph 52 of Schedule 4 to FA 2005.

1068.Part 2(6) of Schedule 11 to F(No 2)A 2005 repeals section 85(6) of FA 1996 with effect from a day to be appointed. Subsection (5), which rewrites section 85B(6) of FA 1996, will therefore cease to have effect from an appointed day (see Part 8 (loan relationships) of Schedule 2 to this Act).

Section 311: Amounts not fully recognised for accounting purposes: introduction

1069.This section sets out the circumstances in which section 312 applies. It is based on section 85C(1) and (2) of FA 1996. This and the following section apply where, as a result of GAAP (generally accepted accounting practice), the full amount arising on transactions is not brought into account. This can arise in two circumstances: first where assets and liabilities are “matched” and GAAP permits the whole or part of the income arising on those assets to be “derecognised” and second where there is a capital contribution and the company is not treated as a party to a debtor relationship or as having a recognised accounting liability.

Section 312: Determination of credits and debits where amounts not fully recognised

1070.This section gives the rule to be applied where the circumstances in the preceding section are in point and requires credits and debits arising on transactions which are not recognised in determining the company’s profit or loss to be recognised. It is based on section 85C(3) to (8) of FA 1996.

Section 313: Basis of accounting: “amortised cost basis”, “fair value accounting” and “fair value”

1071.This section deals with the accounting bases that may apply to loan relationships. It is based on section 85A(1) and section 103(1) of FA 1996.

1072.In general a company may make use of either an amortised cost basis or fair value in accounting for loan relationships (both these terms are defined in the section) but certain provisions specify that an amortised cost basis or fair value basis must be used. These are listed in subsection (2).

Section 314: Power to make regulations about changes from amortised cost basis

1073.This section provides the powers for the Treasury to make regulations providing for the continued use of an amortised costs basis. It is based on section 90A(1) and (2) of FA 1996.

Section 315: Introduction to sections 316 to 319

1074.This section acts as an introduction to the following four sections which provide the rules to apply where there is a change in accounting policy from one period of account to the next. It is based on paragraph 19A(1) and (2) of Schedule 9 to FA 1996.

1075.Although this provision was enacted specifically to deal with companies changing from UK GAAP to international accounting standards or vice versa it will apply equally to other changes where both policies accord with the law and practice.

Section 316: Change of accounting policy involving change of value

1076.This section requires debits or credits to be brought into account representing the difference between the value of the asset or liability at the end of the last period of account under the old accounting policy and the beginning of the first period under the new accounting policy. It is based on paragraph 19A(3) and (5) of Schedule 9 to FA 1996.

Section 317: Carrying value

1077.This section gives the meaning of terms used in the previous section. It is based on paragraph 19A(4), (4A) and (4B) of Schedule 9 to FA 1996.

Section 318: Change of accounting policy following cessation of loan relationship

1078.This section provides for debits and credits representing differences in the value of assets and liabilities following a change of accounting policy to be brought into account where section 331 (company ceasing to be party to a loan relationship) also applies. It is based on paragraph 19A(4C) to (5) of Schedule 9 to FA 1996.

1079.Sub-paragraph (4C) of paragraph 19A provides for the difference between the two values to be brought into account at the beginning of the later period. This is not rewritten as it is unnecessary. This brings the section into line with paragraph 50A(3C) of Schedule 26 to FA 2002, the equivalent provision for derivative contracts.

Section 319: General power to make regulations about changes in accounting policy

1080.This section gives the Treasury powers to make regulations providing for debits and credits to be brought into account or not to be brought into account under this Part where a change of accounting policy affects the amounts brought into account for accounting purposes. The section is based on paragraph 19B of Schedule 9 to FA 1996 and paragraph 52 of Schedule 4 to FA 2005.

Section 320: Credits and debits treated as relating to capital expenditure

1081.This is the first of several sections which require debits and credits to be brought into, or not brought into, account for the purposes of this Part where normal accounting treatment is not followed. It is based on paragraph 14 of Schedule 9 to FA 1996. This section provides that a credit or debit which has been capitalised but which is in respect of a loan relationship is, in certain circumstances, to be brought into account.

1082.The words “for the purposes of corporation tax” in paragraph 14(2) have been rewritten in subsection (2) more narrowly as “for the purposes of this Part”, the wider purpose being unnecessary in this context.

1083.In subsection (6) “the interest component of the asset” is the interest element capitalised with the relevant asset.

Section 321: Credits and debits recognised in equity

1084.This section provides that credits and debits on loan relationships taken directly to reserves should be brought into account as if they were taken to the profit and loss account. It is based on paragraph 14A of Schedule 9 to FA 1996.

Section 322: Release of debts: cases where credits not required to be brought into account

1085.This section provides that credits are not brought into account by a debtor company on the release of the debt when an amortised cost basis is used and certain conditions are met. It is based on paragraph 5(3), (4), (7) and (8) of Schedule 9 to FA 1996.

1086.Conditions 2 and 3 of paragraph 5 of Schedule 9 to FA 1996 apply only where the debtor and creditor companies are connected and are rewritten in sections 358 and 359 in Chapter 6 of this Part (connected companies relationships: impairment losses and releases of debts).

1087.Subsection (6) lists the insolvency conditions from paragraph 6A(1) of Schedule 9 to FA 1996 rather than cross-referring as does paragraph 5(7).

Section 323: Meaning of expressions relating to insolvency etc

1088.This section gives the meaning of various terms relevant to the preceding section. It is based on paragraphs 5(7) and 6A(3) to (5) of Schedule 9 to FA 1996.

1089.References to Northern Ireland legislation in this section have been updated to take into account amendments made by the Insolvency (Northern Ireland) Order 2005 (SI 2005/1455 (NI10)).

Section 324: Restriction on debits resulting from revaluation

1090.This section precludes debits from being brought into account on revaluation of assets representing creditor relationships for the purposes of this Part (other than impairment losses or debt releases on the revaluation of asset) unless under fair value accounting. It is based on paragraph 6D(1) and (3) to (5) of Schedule 9 to FA 1996.

Section 325: Restriction on credits resulting from reversal of disallowed debits

1091.This section provides that the reversal of debits disallowed under the previous section are not brought into account under this Part. It is based on paragraph 6D(2) and (5) of Schedule 9 to FA 1996.

Section 326: Writing off government investments

1092.This section provides that no credit need be brought into account where the government releases a liability on a government debt. It is based on paragraph 7 of Schedule 9 to FA 1996.

Section 327: Disallowance of imported losses etc

1093.This section ensures that no part of a loss on a loan relationship is brought into account if it arose at a time when the loan relationship was not subject to United Kingdom taxation. It is based on paragraph 10 of FA 1996.

Section 328: Exchange gains and losses

1094.This section includes exchange gains and losses within credits and debits on loan relationships. It is based on section 84A(1) to (3A) and (8) to (10) of FA 1996.

1095.This section updates the references in section 84A(3)(b) of FA 1996 in line with current accountancy practice.

1096.Subsection (3)(b) rewrites “statement of recognised gains and losses” as “statement of total recognised gains and losses” as being the usual accountancy term.

1097.Section 84A(8) of FA 1996 as it applies to chargeable gains (section 84A(9)(b)) is rewritten as an insertion into TCGA. See Schedule 1 to this Act.

1098.Part 2(6) of Schedule 11 to F(No 2)A 2005 repeals section 84A of FA 1996 with effect from a day to be appointed. This section, which rewrites that section, therefore ceases to have effect from an appointed day (see Schedule 2 to this Act).

1099.Section 84A(8) and (9)(b) of FA 1996 allows the Treasury to make regulations for the purposes of TCGA. This provision is rewritten in new section 151E of TCGA.

Section 329: Pre-loan relationship and abortive expenses

1100.This section allows abortive expenditure in connection with a loan relationship. It is based on section 84(4) of FA 1996.

Section 330: Debits in respect of pre-trading expenditure

1101.This section provides for an election to be made for non-trading debits incurred before the commencement of a trade to be treated as trading debits after that trade has commenced. It is based on section 401(1AB) and (1AC) of ICTA.

Section 331: Company ceasing to be party to loan relationship

1102.This section provides for debits and credits to be taken into account in respect of a loan relationship to which a company is no longer a party if those debits and credits have not already been fully taken into account. It is based on section 103(6) to (8) of FA 1996.

Section 332: Repo, stock lending and other transactions

1103.This section provides that where a company ceases to be party to a loan relationship in any period (whether as a result of a repo or otherwise) but continues in accordance with GAAP to recognise amounts in its accounts in respect of that relationship the company must bring those amounts into account. It is based on paragraph 15 of Schedule 9 to FA 1996.

Section 333: Company ceasing to be UK resident

1104.This section provides that a company ceasing to be resident in the United Kingdom is treated as disposing of assets and liabilities which represent loan relationships at fair value unless they are held or owed by a permanent establishment in the United Kingdom. It is based on paragraph 10A(1) to (3) of Schedule 9 to FA 1996.

Section 334: Non-UK resident company ceasing to hold loan relationship for UK permanent establishment

1105.This section provides for a deemed disposal for fair value where an asset or liability representing a loan relationship of a non-UK resident company ceases to be held or owed by a permanent establishment in the United Kingdom other than as a result of a disposal etc. It is based on paragraph 10A(1), (1A) and (4) of Schedule 9 to FA 1996.

Chapter 4: Continuity of treatment on transfers within groups or on reorganisations

Overview

1106.This Chapter sets out what happens when a loan relationship is transferred between members of a group and on a reorganisation.

Section 335: Introduction to Chapter

1107.This section acts as an introduction by setting out the three cases under which the continuity of treatment provisions in the Chapter apply and explaining how the Chapter is organised. It is based on paragraphs 12(1) and (8) and 12G(1) and (4) of Schedule 9 to FA 1996.

Section 336: Transfers of loans on group transactions

1108.This section specifies the transfers within the first case in section 335(1) where the continuity rules of the Chapter apply – transfers between group members. It is based on paragraph 12(1) and (3) of Schedule 9 to FA 1996.

Section 337: Transfers of loans on insurance business transfers

1109.This section specifies the transfer within the second case in section 335(1) where the continuity rules of the Chapter apply. It is based on paragraph 12(1), (4) and (5) of Schedule 9 to FA 1996.

1110.In subsection (6)(b) “corresponding category” means the category of asset in section 440(4) of ICTA as modified by regulation 11(3) of The Overseas Life Insurance Companies Regulations 2006 (SI 2006/3271).

Section 338: Meaning of company replacing another as party to loan relationship

1111.This section explains what is meant by one party replacing the other as a party to a loan relationship for the purposes of section 335. It is based on paragraph 12(6) to (7A) of Schedule 9 to FA 1996.

1112.Subsections (3) and (4) deal with the position where a company replaces another company as a creditor and subsections (5) and (6) where it replaces the other company as a debtor. The debtor rules will apply where a company has borrowed money but substitutes another group company as the debtor by novating the debt.

Section 339: Issues of new securities on certain cross-border reorganisations

1113.This section sets out the third case in section 335(1) where the continuity rules of the Chapter apply. This case is where section 135(3) of TCGA (exchange of securities for those in another company) applies (or would do but for section 116(5) of that Act) and certain conditions are met. It is based on paragraphs 12G(1), (3) and (6) and 12J(2) of Schedule 9 to FA 1996.

Section 340: Group transfers and transfers of insurance business: transfer at notional carrying value

1114.Under this section any gain or loss is disregarded where, as a result of a transaction or series of transactions referred to in section 335(1)(a) and (b) 335, one company replaces another as a party to a loan relationship. It is based on paragraph 12(1), (2ZA), (2), (2C) and (9) of Schedule 9 to FA 1996. The section provides that the transaction or series of transactions take place at book value (“carrying value”).

1115.The rules in this section regarding the bringing into account of debits and credits apply only where the company being replaced as party to the loan relationship accounts for the relationship under the amortised cost basis. Section 341 provides rules for where the company being replaced as a party to the loan relationship uses fair value accounting.

Section 341: Transferor using fair value accounting

1116.This section applies where the company making the transfer under section 340 uses fair value accounting as respects the loan relationship or the debits and credits to be brought into account rather than the amortised cost basis. It is based on 12(2A) to (2C) of Schedule 9 to FA 1996.

1117.The company which is being replaced as a party to the loan relationship brings in the asset or liability at fair value. The company becoming a party to the loan relationship is treated as acquiring the asset or liability for the same value it has in the accounts of the company being replaced.

Section 342: Issues of new securities on reorganisations: disposal at notional carrying value

1118.This section provides that where section 339 applies (the third case in section 335(1)), debits and credits are to be brought into account as if there were a disposal of the loan relationship at its carrying value in the accounts. It is based on section 12G(1) and (3) to (5) of Schedule 9 to FA 1996.

Section 343: Receiving company using fair value accounting

1119.This section provides the rule to apply in place of the rule in section 342 where fair value accounting is used by the company to which the issue of shares or debentures is made. It is based on paragraph 12G(5) of Schedule 9 to FA 1996 (which applies paragraph 12(2A) of that Schedule).

Section 344: Introduction

1120.This section introduces the two following sections and provides that they apply where a company leaves a group within six years and an asset or liability was transferred to that company in circumstances where section 340 applies. It is based on paragraph 12A(1), (5), (5A) and (8) of Schedule 9 to FA 1996.

Section 345: Transferee leaving group otherwise than because of exempt distribution

1121.This section provides the first of the degrouping rules: where a company ceases to be a member of a group otherwise than as a result of an exempt distribution under section 213(2) of ICTA. It is based on paragraph 12A(1) to (5) and (9) of Schedule 9 to FA 1996. Because section 213 of ICTA is designed to facilitate demergers, there is no degrouping charge where that section applies to exempt a distribution of the company’s shares. This section deems there to have been a disposal and reacquisition at market value just before the company leaves the group and any resulting credit must be brought into account.

1122.Subsection (4) is designed to ensure parity of treatment between a loan relationship and a derivative contract that is being used to hedge it. The effect is to allow a debit on the loan relationship on deemed disposal if a credit is brought into account on the derivative contract.

Section 346: Transferee leaving group because of exempt distribution

1123.This section applies to bring in a charge, in certain circumstances, where one group member replaces another group member as a party to a loan relationship and ceases to be a group member as a result of an exempt distribution under section 213(2) of ICTA. It is based on paragraph 12A(3) to (9) of Schedule 9 to FA 1996.

1124.Where a company exploits a demerger for avoidance purposes by transferring within a five year period funds or assets to its members, a chargeable payment arises under section 214(2) of ICTA. Where such chargeable payments are made this section treats the company as disposing of, and immediately reacquiring, the loan relationship at fair value when the chargeable payment is made.

Section 347: Disapplication of Chapter where transferor party to avoidance

1125.This section applies where an asset or liability is likely to be transferred by the transferee company and the continuity provisions applying for sections 336 and 337 would otherwise apply. It is based on paragraph 12(2D) to (2F) of Schedule 9 to FA 1996. Where the transfer is under arrangements to which the transferor company is a party and the intention is to avoid tax, the continuity provisions of this Chapter which would otherwise apply do not.

Chapter 5: Connected companies relationships: introduction and general

Overview

1126.Connected companies loan relationships are subject to special rules under this Part. The Chapter explains what is meant by such a relationship, the accounting rules to apply to that relationship and what happens when a company begins or ceases to be a connected company.

Section 348: Introduction: meaning of “connected companies relationship”

1127.This section provides the meaning of “connected companies relationship”. It is based on section 87(1), (3) and (5) of FA 1996.

1128.“Person” in section 87(1), (3) and (5) of FA 1996 has been rewritten as “company”. See Change 56 in Annex 1.

1129.Section 87(5) deals with intermediaries between two connected companies through which a loan is “dog-legged”. Such intermediaries may be individuals. This has been rewritten in this section by treating debtor and creditor relationships separately. Paragraph (b) of subsections (2) and (4) is necessary because loans between individuals do not fall into the definition of a loan relationship in section 81(1) of FA 1996.

1130.Subsection (6) brings out more clearly than in the source legislation (section 87(3) of FA 1996) that where there is a connection at any time in an accounting period there is a connected companies relationship for the whole of the period.

Section 349: Application of amortised cost basis to connected companies relationships

1131.This section provides that where a loan relationship is a “connected companies relationship” (the parties to a loan relationship are connected) both parties must use the same basis of accounting – the amortised cost basis rather than the fair value basis. It is based on section 87(1) and (2) of FA 1996. The same basis of accounting ensures both that the value of the loan cannot be artificially depressed and that debits in the one company are matched by credits in the other.

1132.In subsection (2) “for the period” has been added for clarification. The words do not appear in section 87(2) which this subsection rewrites.

1133.Subsection (3) makes the requirement for amortised cost basis subject to section 454 (reset bonds) which requires fair value accounting to apply. See Change 57 in Annex 1.

Section 350: Companies beginning to be connected

1134.This section provides the rule to be applied when companies begin to be connected under section 348 and this involves a change in accounting basis from fair value accounting to the amortised cost basis. It is based on section 87(2A) and (2B) of FA 1996.

Section 351: Companies ceasing to be connected

1135.This section provides the rule to be applied when companies cease to be connected under section 348 and this involves a change in accounting basis from the amortised cost basis to fair value accounting. It is based on section 87(2A) and (2C) of FA 1996.

Section 352: Disregard of related transactions

1136.This section provides that credits and debits in respect of related transactions are only brought into account where they do not create greater deductions or smaller credits than would have been the case if the transactions had not taken place. The section is based on paragraph 6(1), (2) and (6) to (8) of Schedule 9 to FA 1996.

Chapter 6: Connected companies relationships: impairment losses and releases of debts

Overview

1137.This Chapter provides rules for impairment losses and release of debt where there is a connection between the debtor and creditor companies.

1138.Paragraph 5ZA of Schedule 9 to FA 1996 requires paragraphs 6, 6A and 6C of that Schedule to apply in relation to a debit in respect of the release of a liability as they apply in relation to an impairment loss. In rewriting these paragraphs references to a debt on the release of a liability (referred to here as a “release debit”) have been inserted into the relevant sections.

Section 353: Introduction to Chapter

1139.This section explains the subject and layout of the Chapter and provides some definitions. It is based on section 87(3) of, and paragraphs 4A(8), 5ZA and 6C(1) of Schedule 9 to, FA 1996.

Section 354: Exclusion of debits for impaired or released connected companies debts

1140.This section provides the basic rule that neither impairment losses nor debits arising as a result of the release of liability under a creditor relationship (“release debits”) are brought into account if the debtor and creditor company are connected. It is based on paragraph 6(1) to (3) and (8) of Schedule 9 to FA 1996.

Section 355: Cessation of connection

1141.This section provides that debits for impairment losses or release debits which are not brought into account under the preceding section are not to be brought into account in subsequent accounting periods after connection ceases. It is based on paragraph 6C(1) and (3) of Schedule 9 to FA 1996.

1142.Paragraph 6C(3) of Schedule 9 refers to a “debit …. in respect of an amount” although there is now no preceding reference in the paragraph to an amount. This reference was not repealed following an amendment by FA 2002. Sub-paragraph (1) previously read:

(1)

Where, in the case of a creditor relationship of a company,-

(a)

a departure that would otherwise have been allowed under paragraph 5(1) above in respect of an amount is or was, by virtue of paragraph 6 above, not allowed in the case of an accounting period; and

(b)

there is a subsequent accounting period for which there is, within the meaning of section 87 of this Act, no connection between the company and any person standing in the position of a debtor as respects the debt,

sub-paragraphs (2) and (3) below shall apply.

1143.The paragraph has been rewritten to reflect the fact that “the amount” refers to the impairment loss (or release debit by virtue of paragraph 5ZA of Schedule 9).

Section 356: Exception to section 354: swapping debt for equity

1144.This section provides the first of two exceptions to the basic rule in section 354. It is based on paragraph 6(4) and (5) of Schedule 9 to FA 1996. The exception in this section applies when the liability is released in consideration for shares in the debtor company which give rise to the connection.

Section 357: Exception to section 354: insolvent creditors

1145.This section provides the second exception to the basic rule in section 354. It is based on paragraph 6A(1) and (2) of Schedule 9 to FA 1996. The exception in this section applies where the creditor is in insolvent liquidation, etc and the impairment loss or release debit accrues during the winding up, etc.

Section 358: Exclusion of credits on release of connected companies debts: general

1146.This section precludes a debtor company from bringing a credit into account under this Part on the release of a debt where the debtor and creditor companies are connected. It is based on paragraph 5(3) and (5) of Schedule 9 to FA 1996. This section excludes the credits on the release since the debits have been disallowed (see section 354).

1147.Subsection (1)(b) brings out the fact that the section applies in respect of the accounting period in which the release occurs.

Section 359: Exclusion of credits on release of connected companies debts during creditor’s insolvency

1148.This section precludes a debtor company from bringing a credit into account on the release of a debt where the creditor company meets the insolvency, etc conditions in section 357 if the insolvency, etc breaks the connected company relationship. It is based on paragraph 5(3) and (6) of Schedule 9 to FA 1996.

1149.Subsection (1)(d) and (e) reflect the rule in section 12(7) and (7ZA) of ICTA that an accounting period ends with insolvency or administration.

Section 360: Exclusion of credits on reversal of impairments of connected companies debts

1150.This section provides that the credit on a reversed impairment loss is not brought into account under this Part where that loss is not brought into account under section 354. It is based on paragraph 6(3A) and (8) of Schedule 9 to FA 1996.

Section 361: Acquisition of creditor rights by connected company at undervalue

1151.This section applies where a company acquires a debt from a third party as a result of which it becomes connected to the debtor. The section is based on paragraph 4A of Schedule 9 to FA 1996. If the pre-acquisition value of the debt exceeds the consideration, the difference is treated as a release by the acquiring company and hence a charge on the debtor company.

1152.Under paragraph 4A(2)(d) the provisions of that paragraph do not apply where the new creditor acquires the debt from a connected person. “Person” has been rewritten in subsection (1)(d) to apply to a company only. See Change 56 in Annex 1.

Section 362: Parties becoming connected where creditor’s rights subject to impairment adjustment

1153.Under this section where a debtor company and a creditor company become connected, any reduction in the value of the debt as a result of an impairment loss which was not yet reflected in the book value of the debt at the time of acquisition is treated as a release by the creditor. It is based on paragraph 4A(1), (4), (5), (7) and (10) of Schedule 9 to FA 1996.

Section 363: Companies connected for sections 361 and 362

1154.This section explains what is meant by connected companies for the purposes of the two preceding sections. It is based on paragraph 4A(8) and (9) of Schedule 9 to FA 1996.

1155.This definition differs from the definition for connectedness in section 466 by its application to periods of account rather than accounting periods.

Chapter 7: Group relief claims involving impaired or released consortium debts

Overview

1156.This Chapter provides rules to prevent both a claim to group relief surrendered by a consortium company and debits for impairment losses on loans made to the consortium company. The purpose of these rather complex provisions is to prevent a claim to “double relief”, ie in respect of both an impairment loss for the consortium member and a group relief claim surrendered by the consortium company. This situation would not arise in the case of companies within a group as a result of the rule in section 354 which disallows impairment losses if the debtor and creditor companies are connected.

1157.Paragraph 5ZA of Schedule 9 to FA 1996 applies paragraph 5A, on which this Chapter is based, in relation to a debit in respect of the release of a liability as it applies in relation to an impairment loss. In rewriting these paragraphs in this Chapter references to a debit on the release of a liability (referred to here as a “release debit”) have been inserted into the relevant sections.

Section 364: Introduction to Chapter

1158.This section sets out the general circumstances when the provisions of the Chapter will apply, what the Chapter does and, in subsection (2), provides an important definition. It is based on paragraphs 5ZA and 5A(1) to (4) and (16) of Schedule 9 to FA 1996.

Section 365: Reduction of impairment loss debits where group relief claimed

1159.This section provides the basic rule: where group relief is surrendered to a consortium member (or a member’s group company) by the consortium company and there is an excess of impairment losses over credits arising on loans to the consortium company, those impairment losses are reduced by the group relief claimed. It is based on paragraphs 5ZA and 5A(5) to (7) and (19) of Schedule 9 to FA 1996.

Section 366: Effect where credit for release brought into account on amortised cost basis

1160.This section provides that where a consortium company brings in a credit on an amortised cost basis on the release of a liability by a consortium member and that member debits an equal amount, the debit is not taken into account under this Chapter. It is based in paragraph 5A(15) of Schedule 9 to FA 1996.

Section 367: Reduction of credits exceeding impairment losses

1161.This section provides that where credits on loan relationships between the consortium member (or group company) and the consortium company exceed debits on those loans, the credits are reduced by debits previously reduced under section 365. It is based on paragraph 5A(8) to (10) of Schedule 9 to FA 1996. The reduction compensates for the restrictions in an earlier period which would not have arisen had there not, in that period, been an excess of debits over credits.

1162.Paragraph 5A(8)(a) of Schedule 9 refers to related debt recovery credits brought into account “under paragraph 5 above”. This is an incorrect reference and was overlooked in the consequential amendments to FA 2004 which removed paragraph 5(1) to (2A) of Schedule 9. This has been rewritten as if referring to the amounts brought into account in computing the “relevant net debits” (see paragraph 5A(5)(b)), which is the obvious meaning.

Section 368: Reduction of claims where there are earlier net consortium debits

1163.This section provides that claims for group relief surrendered by the consortium company to a consortium member (or group company) are reduced by the excess of debits over credits on loans to the consortium company in preceding years. It is based on paragraph 5A(11) to (13) of Schedule 9 to FA 1996.

Section 369: Carry forward of claims where there are no net consortium debits

1164.This section applies where there is a claim for group relief by a consortium company (or group member) but no net debit in respect of debts with the consortium company. It is based on paragraph 5A(14) of Schedule 9 to FA 1996. In these circumstances the group relief claim is carried forward and treated as increasing a group relief claim for the subsequent accounting period for the purposes of section 365.

Section 370: Group accounting periods

1165.This section gives the meaning of “group accounting period” for the purposes of this Chapter. It is based on paragraph 5A(17) and (18) of Schedule 9 to FA 1996.

Section 371: Interpretation

1166.This section defines various terms used in this Chapter. It is based on paragraph 5A(2) to (5) and (19) to (21).

Chapter 8: Connected parties relationships: late interest

Overview

1167.This Chapter gives the rules for bringing into account debits for interest which is either not paid or paid late where the two parties to the loan are connected in some way.

Section 372: Introduction to Chapter

1168.This section explains the purpose of the Chapter and provides an overview. It is based on paragraph 2 of Schedule 9 to FA 1996.

Section 373: Late interest treated as not accruing until paid in some cases

1169.This section sets out the basic rule: where interest is not paid within 12 months after the end of the accounting period and corresponding credits are not brought into account the interest is allowed on a paid rather than an accruals basis where one of the circumstances set out in the following sections applies. It is based on paragraph (1), (2) and (6) of Schedule 9 to FA 1996.

Section 374: Connection between debtor and person standing in position of creditor

1170.This section gives the first circumstance when section 373 applies and this is where the debtor and creditor companies are connected under section 466. It is based on paragraph 2(1A) of Schedule 9 to FA 1996.

Section 375: Loans to close companies by participators etc

1171.This section gives the second circumstance when section 373 applies: where the company making the loan is a close company (other than a CIS-based close company or CIS limited partnership) and the creditor is a participator or similar. (CIS is an abbreviation of “collective investment scheme”.) It is based on paragraph 2(1B) and (1E) to (1G) of Schedule 9 to FA 1996.

Section 376: Interpretation of section 375

1172.This section gives the meaning of various terms used in section 375. It is based on paragraph 2(5) to (6) of Schedule 9 to FA 1996.

Section 377: Party to loan relationship having major interest in other party

1173.This section gives the third condition when section 373 applies: where either the debtor or creditor has a major interest (defined in section 473) in the other. It is based on paragraph 2(1C) of Schedule 9 to FA 1996.

Section 378: Loans by trustees of occupational pension schemes

1174.This section gives the fourth and final condition when section 373 applies: where the loan is made by a trustee of an occupational pension scheme and there is a specified relationship between the debtor company and the employees benefiting from the scheme or their employing company. It is based on paragraph 2(1D) of Schedule 9 to FA 1996.

Section 379: Persons indirectly standing in the position of creditor

1175.This section provides that the preceding sections on late interest which refer to the creditor company include companies which stand indirectly in that position as a result of a series of loan relationships or money debts. It is based on paragraph 2(3) and (4) of Schedule 9 to FA 1996.

Chapter 9: Partnerships involving companies

Overview

1176.This Chapter provides special rules for determining debits and credits on loan relationships where a money debt is owed by or to a partnership in which one or more of the members is a company.

Section 380: Partnerships involving companies

1177.This section gives the basic rule for computing the debits and credits where a money debt is owed by or to a partnership in which one or more of the members is a company. It is based on paragraph 19(1) and (2) of Schedule 9 to FA 1996.

1178.“Profession” in paragraph 19(1)(a) has not been rewritten on the grounds that a company cannot carry on a profession for corporation tax purposes either as a partner or otherwise.

Section 381: Determinations of credits and debits by company partners: general

1179.This section expands on the basic rule given in subsection (3) of the previous section. It is based on paragraph 19(3) to (6) of Schedule 9 to FA 1996. Each company partner is treated as owing or being owed the debt and the credits and debits in relation to those debts are treated as those of the company partner in its profit-sharing ratio.

1180.“Gross” in paragraph 19(5) and (6) of Schedule 9 means that the total credits and debits are calculated notwithstanding that the debt is treated as owed to or by each company partner and this is brought out in subsection (5).

Section 382: Company partners using fair value accounting

1181.This section provides that company partners using fair value accounting must bring debits and credits into account on the same basis. It is based on paragraph 19(11) of Schedule 9 to FA 1996. Without this provision it might be assumed that the deeming required by this Chapter did not require a company to adopt its normal accounting method.

Section 383: Lending between partners and the partnership

1182.This section provides the rules for determining whether a company partner controls a partnership in circumstances where a money debt exists between the partnership and a company partner. It is based on paragraph 19(7) to (9) and (14) of Schedule 9 to FA 1996. If there is such a money debt the rule in section 349 applies under which debits and credits on a loan relationship are determined under the amortised cost basis.

Section 384: Treatment of exchange gains and losses

1183.This section disapplies, in certain circumstances, the rule on exchange gains and losses in section 328 which disallows a credit or debit on an exchange gain or loss which is taken directly to a company’s reserves. It is based on paragraph 19(12) of Schedule 9 to FA 1996. Only where the exchange gain or loss by-passes the partnership’s profit and loss account will that section apply.

1184.The words “subsection (3) of section 84A of this Act does not apply …. except to the extent that ….. exchange gains and losses are recognised” in paragraph 19(12) of Schedule 9 to FA 1996 are rewritten to clarify the meaning that the section rewriting section 84A(3) applies so far as the exchange gains and losses‘ are recognised rather than the possible meaning that the section applies only if they are recognised.

1185.Subsection (2) updates the references in paragraph 19(12) of Schedule 9 to FA 1996 to a company’s statement of income and gains, etc in line with current accountancy practice.

1186.Part 2(6) of Schedule 11 to F(No 2)A 2005 repeals paragraph 19(12) of Schedule 9 to FA 1996 with effect from a day to be appointed. This section, which rewrites that sub-paragraph, will therefore cease to have effect from an appointed day (see Part 8 (loan relationships) of Schedule 2 to this Act).

Section 385: Company partners’ shares where firm owns deeply discounted securities

1187.This section treats deeply discounted securities held by a partnership as if they were held by each company partner in its profit-sharing ratio. It is based on paragraph 19(13) of Schedule 9 to FA 1996.

1188.Subsection (3)(b) adopts the language (“in accordance with the firm’s profit-sharing arrangements”) of section 1262 in Part 17 (partnerships) which rewrites section 114(2) of ICTA.

Chapter 10: Insurance companies

Overview

1189.This Chapter rewrites the provisions on insurance companies from Schedule 11 to FA 1996. These mainly deal with the treatment of deficits.

Section 386: Overview of Chapter

1190.This section sets out what is in the Chapter and gives signposts to other provisions specific to insurance companies. It is new.

Section 387: Treatment of deficit on basic life assurance and general annuity business: introduction

1191.This is the first of five sections providing special rules for the treatment of deficits on loan relationships of insurance companies which arise on basic life assurance and general annuity business. It is based on paragraph 4(1) of Schedule 11 to FA 1996.

Section 388: Basic rule: deficit set off against income and gains of deficit period

1192.This section gives the basic rule on set-off. It is based on paragraph 4(2) of Schedule 11 to FA 1996.

1193.Subsection (1) requires the deficit to be offset first against any income and gains relating to basic life assurance and general annuity business of the deficit period. This avoids the necessity of a claim. See Change 58 in Annex 1.

1194.Paragraph 4(2)(a) of Schedule 11 requires the deficit to be set off to be against any income or gains of the deficit period referable to basic life assurance and general annuity business and arising or accruing otherwise than in respect of loan relationships. The words “arising or accruing otherwise than in respect of loan relationships” have not been rewritten. If a company has such income and gains they must be other than in respect of loan relationships since, by definition, the company has a loan relationship deficit and no non-trading income and gains on its loan relationships.

Section 389: Claim to carry back deficit

1195.This section provides for a claim to be made to carry back the excess if a deficit exceeds the income and gains of the deficit period. It is based on paragraph 4(3), (5) and (15) of Schedule 11 to FA 1996. The deficit must be set off against the company’s “available profits”, defined in the following section.

1196.Subsection (5) replaces “the Board” in paragraph 4(15) with “an officer of Revenue and Customs”. See Change 1 in Annex 1.

Section 390: Meaning of “available profits”

1197.This section explains what is meant by “available profits” in the preceding section. It is based on paragraph 4(7) to (11) of Schedule 11 to FA 1996.

Section 391: Carry forward of surplus deficit to next accounting period

1198.This section provides that the deficit should be carried forward to the next accounting period so far as it is neither set off against the deficit period nor carried back to a period before the deficit period. It is based on paragraph 4(4) of Schedule 11 to FA 1996.

Section 392: Exclusion of loan relationships of members of Lloyd’s

1199.This section prevents this Part from applying to loan relationships of corporate members of Lloyds which are assets or liabilities of a premium trust fund. It is based on paragraph 7 of Schedule 11 to FA 1996.

Section 393: General rules for some debtor relationships

1200.This section provides rules for determining the credits and debits of a debtor loan relationship of an insurance company which is referable to any category of an insurance company’s long-term insurance fund. It is based on paragraph 3A of Schedule 11 to FA 1996.

Section 394: Special rules for some debtor relationships

1201.This section provides special rules for referring credits and debits in respect of those debtor relationships which are liabilities of a long-term insurance fund to particular categories of the company’s long-term business. It is based on paragraph 3A of Schedule 11 to FA 1996.

1202.Subsections (4), (5) and (6) deal with deposit back arrangements. Deposit back arrangements arise where reinsurers of pension annuities deposit back all or a substantial proportion of the premium paid with the original insurer. The original insurer may then pay interest to the reinsurer on that deposit back. “Deposit back arrangements” are defined in section 431(2) of ICTA.

Chapter 11: Other special kinds of company

Overview

1203.This Chapter provides rules for determining the profits and losses on the loan relationships of particular types of companies: investment trusts, venture capital trusts and credit unions.

Section 395: Investment trusts: profits or losses of a capital nature

1204.This section excludes profits and losses of a capital nature on loan relationships from being taken into account by an investment trust. It is based on paragraph 1A of Schedule 10 to FA 1996 and the Investment Trusts and Venture Capital Trusts (Definition of Capital Profits, Gains or Losses) Order 2006 (SI 2006/1182). Before FA 1996 investment trusts were treated as exempt from profits arising on the disposal of investments and that position was preserved by the loan relationships regime.

1205.Subsections (2) and (3) rewrite article 3 of SI 2006/1182 rather than referring to the appropriate SI as does paragraph 1A(3).

1206.Subsection (5) allows orders to be made for “such incidental, supplemental, consequential and transitional provision and savings”. This is the standard formulation in this Act for the additional amendments that can be introduced under an order and regulation-making power. It is not considered a change in the law.

Section 396: Venture capital trusts: profits or losses of a capital nature

1207.This section excludes profits and losses of a capital nature on loan relationships from being taken into account by a venture capital trust. It is based on paragraphs 1B and 9(1) of Schedule 10 to FA 1996 and the Investment Trusts and Venture Capital Trusts (Definition of Capital Profits, Gains or Losses) Order 2006 (SI 2006/1182). Before FA 1996 venture capital trusts were treated as exempt from tax on profits arising from the disposal of investments and that position was preserved in the loan relationships regime.

1208.Subsections (2) and (3) rewrite article 3 of SI 2006/1182 rather than referring to the SI as does paragraph 1B(3).

1209.Subsection (5) allows orders to be made for “such incidental, supplemental, consequential and transitional provision and savings”. This is the standard formulation in this Act for the additional amendments that can be introduced under an order and regulation-making power. It is not considered a change in the law.

Section 397: Credit unions

1210.This section provides that credits and debits on loan relationships of credit unions with union members are not brought into account under this Part. It is based on section 487(1), (2) and (3A) of ICTA.

Chapter 12: Special rules for particular kinds of securities

Overview

1211.This Chapter brings together a number of loan relationship rules from within and outside Chapter 2 of Part 4 of FA 1996 on particular types of securities.

1212.Section 96 of FA 1996, which one might expect to be rewritten here, is not. That section prevents any rise in capital value of certain gilts from being brought into charge as credits on a loan relationship. The two gilts identified in the section are expressly protected from a capital gains charge and it was considered improper that a charge should arise on changes in capital value under the loan relationships legislation. Therefore the interest component only in any credit is taxed.

1213.3½% Funding Stock 1999-2004 was redeemed in June 2003. Section 96 of FA 1996 is rewritten in Schedule 2 to this Act.

Section 398: Overview of Chapter

1214.This section explains how the Chapter is organised. It is new.

Section 399: Index-linked gilt-edged securities: basic rules

1215.This and the following section provide special rules for dealing with index-linked securities. It is based on section 94(1), (2) and (7) of FA 1996. The section contains the main rule that fair value accounting must be used and requires adjustments under the following section. It also defines terms used in this and the following section.

Section 400: Index-linked gilt-edged securities: adjustments for changes in index

1216.This section applies to remove a profit or loss arising on an index-linked gilt-edged security by adjusting the value of the security in the accounts by the change in the retail prices index. It is based on section 94(2) to (6) of FA 1996. The section also provides for Treasury powers to amend the adjustments required under this section.

Section 401: Gilt strips

1217.This section gives the rules that apply when a gilt-edged security is converted into strips and when strips are consolidated into a single security; in each case there is a deemed redemption and acquisition. It is based on section 95(1) to (3) of FA 1996.

1218.Section 95(1) of FA 1996, which subsection (1) rewrites, refer to “a gilt-edged security or a strip of a gilt-edged security”. Section 103(1) of FA 1996 (rewritten in section 476(1)) adopts the definition of “gilt-edged security” in Schedule 9 to TCGA. Paragraph 1A of that Schedule brings strips within the definition of a gilt and subsection (1)(b) of this section reflects this by referring to any other gilt-edged security.

Section 402: Market value of securities

1219.This section explains what is meant by the market value of a security in section 401 and gives the Treasury power to amend that meaning. It is based on section 95(4) to (6) of FA 1996.

1220.Subsection (3) allows orders to be made for “such incidental, supplemental, consequential and transitional provision and savings”. This is a standard formulation in this Act for the additional amendments that can be introduced under an order and regulation-making power. It is not considered a change in the law.

Section 403: Meaning of “strip”

1221.This section gives the meaning of “strip” for this Chapter, rewriting in full the definition from FA 1942 instead of relying on a cross-reference to that section as does section 95(7) of FA 1996. It is based on section 47 of FA 1942 and section 95(7) of FA 1996.

Section 404: Restriction on deductions etc relating to FOTRA securities

1222.This section prevents debits arising on FOTRA securities where the profits are exempt under section 1279. It is based on section 154(6) and (8) of FA 1996 and section 161(1), (4) and (7) of FA 1998.

Section 405: Certain non-UK residents with interest on 3½% War Loan 1952 Or After

1223.This section restricts a debit for borrowing costs where a non-UK resident company holds 3½% War Loan for use in a business of banking, insurance or dealing in securities. It is based on section 475 of ICTA. Interest on 3½% War Loan is paid without deduction of tax and is exempt in the hands of a non-UK resident company. Because a company may borrow to acquire these securities an allowable debit may arise on the cost of the borrowing but without giving rise to a taxable credit. Consequently the appropriate proportion of the costs of borrowing is disallowed as a loan relationships debit.

1224.Step 2 in subsection (3) makes reference only to “interest which is not brought into account … under this Part” (although section 475(2) and (4) of ICTA might be read as comprising other interest for corporation tax purposes) since interest can only be brought into account under loan relationships rules as a result of section 337A(2)(a) of ICTA.

1225.Subsections (1), (3) and (4) rewrite “3½% War Loan 1952 or after” as “3½% War Loan 1952 Or After” to prevent the reader attaching the words “or after” to any following words, thereby adopting the solution used in section 154(8)(b) of FA 1996.

Section 406: Introduction

1226.This section introduces the following six sections which all deal with deeply discounted securities. It is based on paragraphs 17(3) and (4) and 18(2B) and (3) of Schedule 9 to FA 1996.

Section 407: Postponement until redemption of debits for connected companies’ deeply discounted securities

1227.This section provides that debits on a deeply discounted security are, in certain circumstances, only brought into account under this Part on redemption where the debtor and creditor are connected. It is based on paragraph 17(1) to (3) and (5) of Schedule 9 to FA 1996.

Section 408: Companies connected for section 407

1228.This section explains what is meant by two companies being connected for the previous section. It is based on paragraph 17(5) and (9) of Schedule 9 to FA 1996.

Section 409: Postponement until redemption of debits for close companies’ deeply discounted securities

1229.This section provides that debits on a deeply discounted security can only be brought into account under this Part on redemption if the creditor is a participator, etc in the debtor company. It is based on paragraph 18(1) to (2B) of Schedule 9 to FA 1996.

Section 410: Exceptions to section 409

1230.This section provides exceptions to the preceding section, where either credits equalling debits are brought into account under this Part or where the debtor company is a CIS-based close company or a CIS limited partnership. It is based on paragraph 18(1ZA) to (1C) and (4) of Schedule 9 to FA 1996.

1231.“The debtor company” in paragraph 18(1C)(c) of Schedule 9 has been rewritten for consistency in subsection (4) as “the issuing company”, the term used elsewhere in that paragraph.

Section 411: Interpretation of section 409

1232.This section provides definitions and deals with other matters necessary to interpret section 409. It is based on paragraph 18(3B) to (5) of Schedule 9 to FA 1996.

Section 412: Persons indirectly standing in the position of creditor

1233.This section enables sections 407 and 409 to apply where there is a series of loan relationships or money debts between the company issuing the deeply discounted security and the person in the creditor relationship. It is based on paragraphs 17(8) and (8A) and 18(2C) and (2D) of Schedule 9 to FA 1996.

1234.Paragraph 18(2D) of Schedule 9 refers to the term “corresponding creditor relationship” in sub-paragraph (1A)(c). That sub-paragraph was repealed by FA 2002. The reference to paragraph (1A)(c) has been rewritten as if it referred to sub-paragraph (1A)(b), the sub-paragraph containing the reference to the person standing in the position of a creditor.

Section 413: Issue of funding bonds

1235.This section treats issues of funding bonds as interest payments. It is based on section 582(1) and (3) to (4) of ICTA. The corresponding rule for income tax is in section 380 of ITTOIA.

1236.Subsection (2) rewrites, for clarification, “value of the bonds at the time of their issue” in section 582(1)(a) as “market value of the bonds at their issue”.

1237.For the rewrite of the Schedule D Case VI charge in section 582(2A) of ICTA see Change 59 in Annex 1.

Section 414: Redemption of funding bonds

1238.This section prevents repayments of funding bonds from being a payment of interest if the issue was treated as such in the hands of an individual or company. It is based on section 582(1) and (4) of ICTA. The corresponding rule for income tax is in section 754 of ITTOIA.

Section 415: Loan relationships with embedded derivatives

1239.Where GAAP requires separate treatment of a loan relationship and its embedded derivative, this section enables the loan relationship to be treated separately for the purposes of this Part also. It is based on section 94A(1) and (2) of FA 1996.

1240.Section 585 in Part 7 (derivative contracts) rewrites as much of section 94A of FA 1996 as deals with the treatment of embedded derivatives under Schedule 26 to FA 2002.

Section 416: Election for application of sections 415 and 585

1241.This section permits a company subject to old UK GAAP to make an election to apply the treatment allowed under section 415 even though separate treatment of loan relationship and derivative does not apply under that accounting policy. It is based on paragraph 7(1), (1A), (3), (4), (6) and (7) of Schedule 6 to F(No 2)A 2005.

Section 417: Further provisions about elections under section 416

1242.This paragraph makes further provisions about elections under section 416. It is based on paragraph 7(2), (3) and (5) of Schedule 6 to F(No 2)A 2005.

Section 418: Loan relationships treated differently by connected debtor and creditor

1243.This section applies where connected companies are debtor and creditor to a loan relationship which is treated as bifurcated by the debtor but not by the creditor. It is based on section 94B(1) to (6) of FA 1996. Where the debits brought into account by the debtor exceed the credits brought into account by the creditor additional credits must be brought into account by the creditor.

Section 419: Section 418: supplementary

1244.This section explains terms used in section 418. It is based on section 94B(7) to (10) of FA 1996.

Section 420: Assumptions where options etc apply

1245.This section deals with loan relationships accounted for under an amortised cost basis which are affected by options after the end of the accounting period. It is based on paragraph 3(1) and (2) of Schedule 9 to FA 1996. The debits and credits to be brought into account under this Part are those which would arise if the option were exercised in the way most favourable to the party to the loan relationship.

Chapter 13: European cross-border transfers of business

Overview

1246.This Chapter gives the rules that apply for loan relationships in the case of cross-border transfers of business within the European Community which is carried in the United Kingdom.

Section 421: Introduction to Chapter

1247.This section sets out the two conditions required for the Chapter to apply together with the claim requirement. It is based on paragraphs 12D(1) to (4), 12G(1) and (2), 12H(1) and 12J(1) of Schedule 9 to FA 1996.

1248.Subsection (3)(c) rewrites paragraph 12D(1)(d) – that the transferee is resident in the United Kingdom or within the corporation tax charge in section 11 of ICTA – as “within the charge to corporation tax” since the effect is the same.

Section 422: Transfer of loan relationship at notional carrying value

1249.This section provides the rule that where either of the conditions in section 421 applies, credits and debits on loan relationships which are transferred as part of the business transfer are brought into account by both the transferor and transferee as if the loan relationships had been transferred at the carrying value in the accounts of the transferor. It is based on paragraph 12D(1), (2) and (6) of Schedule 9 to FA 1996.

1250.The definition of “notional carrying value” is taken from paragraph 12(2) of Schedule 9 to FA 1996.

Section 423: Transferor using fair value accounting

1251.This section provides the rule to apply in place of section 422 where the transferor company uses fair value accounting. It is based on paragraph 12D(7) of Schedule 9 to FA 1996 (which applies paragraph 12(2A) of that Schedule).

Section 424: Reorganisations involving loan relationships

1252.This section provides for debits and credits to be brought into account as if the relevant loan relationships were disposed of at their carrying value where a reorganisation under sections 127 to 130 of TCGA arises as a result of a transfer of business within this Chapter. It is based on paragraph 12G(1), (2), (4) and (6) of Schedule 9 to FA 1996.

Section 425: Original holder using fair value accounting

1253.This section provides the rule to apply in place of the rule in section 424 where fair value accounting is used by the original holder. It is based on paragraph 12G(5) of Schedule 9 to FA 1996 (which applies paragraph 12(2A) of that Schedule).

Section 426: Tax avoidance etc

1254.This section disapplies the Chapter if the transfer of business is not effected for genuine commercial reasons unless the Commissioners for HMRC are satisfied, following an application, that the Chapter should apply. It is based on paragraph 12F(1) and (2) of Schedule 9 to FA 1996.

1255.In subsection (1)(a) “bona fide commercial reasons” is rewritten as “genuine commercial reasons”.

Section 427: Procedure on application for clearance

1256.This section gives the rules that apply where a clearance application is made under section 426 to the Commissioners for HMRC. It is based on paragraph 12F(3) of Schedule 9 to FA 1996.

1257.Paragraph 12F(3) applies the rules in section 138(2) to (5) of TCGA which this and the following section write out in full.

Section 428: Decision on application for clearance

1258.This section gives the time limit within which HMRC must give a decision following a clearance application and procedures relating to appeals. It is based on paragraph 12F(3) of Schedule 9 to FA 1996.

Section 429: Disapplication of Chapter where transparent entities involved

1259.This section disapplies the Chapter under certain circumstances where transparent entities are involved in the transfer of business. It is based on paragraphs 12H(1) and (2) and 12J(1) of Schedule 9 to FA 1996.

1260.The last two words of paragraph 12H(2)(b) (“paragraph 12G does not apply in relation to it”) are not rewritten in subsection (2) because it is not considered that they add anything to paragraph (b). These words do not appear in paragraph 12H(2)(a) which states simply that “paragraph … 12G [does] not apply to the transfer”.

Section 430: Interpretation

1261.This section defines company and company residence in a member State for the purposes of the Chapter. It is based on paragraph 12J of Schedule 9 to FA 1996.

Chapter 14: European cross-border mergers

Overview

1262.This Chapter gives the rules that apply for loan relationships in the case of mergers where the merging companies are resident in different member States of the European Community.

Section 431: Introduction to Chapter

1263.This section sets out the conditions (which include the different categories of merger) under which the Chapter applies. It is based on paragraphs 12B(1) and (2) and 12I(1) of Schedule 9 to FA 1996.

1264.Subsection (6) rewrites paragraph 12B(2)(c) – that the transferee is resident in the United Kingdom or within the corporation tax charge in section 11 of ICTA – as “within the charge to corporation tax” since the effect is the same.

Section 432: Meaning of “the transferee” and “transferor”

1265.This section gives the meaning of the two terms for the different categories of merger set out in section 431(3). It is based on paragraph 12B(9) of Schedule 9 to FA 1996.

Section 433: Transfer of loan relationship at notional carrying value

1266.This section provides the rule that debits and credits on loan relationships transferred under the merger are brought into account as if the transfer had been for a consideration of an amount equal to the carrying value in the transferor company’s or companies’ accounts. It is based on paragraph 12B(3) of Schedule 9 to FA 1996.

Section 434: Transferor using fair value accounting

1267.This section provides the rule to apply in place of section 433 where the transferor company uses fair value accounting. It is based on paragraph 12B(4) of Schedule 9 to FA 1996 (which applies paragraph 12(2A) of that Schedule).

Section 435: Reorganisations involving loan relationships

1268.This section provides for continuity of treatment in respect of loan relationships where a reorganisation under sections 127 to 130 of TCGA arises as a result of a merger within this Chapter. It is based on paragraph 12G(1), (2), (4) and (6) of Schedule 9 to FA 1996. Credits and debits are brought into account as if the loan relationships within the reorganisation were disposed of at their carrying value in the accounts of the company which holds them.

Section 436: Original holder using fair value accounting

1269.This section provides the rule to apply in place of the rule in section 435 where fair value accounting is used by the original holder. It is based on paragraph 12G(5) of Schedule 9 to FA 1996 (which applies paragraph 12(2A) of that Schedule).

Section 437: Tax avoidance etc

1270.This section disapplies the Chapter if the merger is not effected for genuine commercial reasons unless the Commissioners for HMRC are satisfied, following an application, that the Chapter should apply. It is based on paragraph 12B(6) to (8) of Schedule 9 to FA 1996.

Section 438: Disapplication of Chapter where transparent entities involved

1271.This section disapplies the Chapter under certain circumstances where transparent entities are involved in the merger. It is based on paragraphs 12I(1) and (2) and 12J(1) of Schedule 9 to FA 1996.

1272.Paragraph 12I(2)(b) provides that paragraph 12G shall not apply in relation to shares or debentures issued by the transparent entity. This has been rewritten in subsection (3) to the effect that sections 435 and 436 do not apply to the new holding.

Section 439: Interpretation

1273.This section defines some terms used in the Chapter. It is based on paragraphs 12B(9) and 12J of Schedule 9 to FA 1996.

Chapter 15: Tax avoidance

Overview

This Chapter brings together provisions which counter avoidance, including avoidance which arises because transactions are not at arm’s length.

Section 440: Overview of Chapter

1274.This section explains what the Chapter is about and the provisions it contains. It is new.

Section 441: Loan relationships for unallowable purposes

1275.This section prevents a company from bringing into account debits in respect of a loan relationship with an “unallowable purpose” (defined in the following section) or exchange gains on such a loan relationship. It is based on paragraph 13(1) and (1A) of Schedule 9 to FA 1996. Once such debits or credits are disallowed they are not brought into account for any other tax purposes.

Section 442: Meaning of “unallowable purpose”

1276.This section gives the meaning of “unallowable purpose” for section 441. It is based on paragraph 13(2) to (5) of Schedule 9 to FA 1996.

Section 443: Restriction of relief for interest where tax relief schemes involved

1277.This section prevents a company from bringing into account debits for interest paid as part of a scheme or arrangements, the sole or main benefit of which is the obtaining of the debit for that interest. It is based on section 787 of ICTA.

1278.Section 787 differs from paragraph 13 of Schedule 9 to FA 1996, rewritten in sections 441 and 442, in the following ways:

paragraph 13 covers all debits and not just interest;
paragraph 13 looks at the purposes of a loan relationship and section 787 at the benefit that might be expected to accrue from a scheme or arrangements;
where section 787 is in point the whole of the interest is disallowed whereas paragraph 13 restricts only so much of the debit on the loan relationship as on a just and reasonable apportionment is attributable to the unallowable purpose.

1279.For these reasons both paragraph 13 of Schedule 9 to FA 1996 and section 787 of ICTA are rewritten in full.

1280.Section 787(1A) of ICTA requires the reference in section 787(1) to giving relief in respect of a payment of interest to be read “as including” a debit for interest under Chapter 2 of Part 4 of FA 1996 (loan relationships). This must be interpreted as applying that subsection to loan relationships alone as debits for interest are only allowed under Chapter 2 of Part 4 of FA 1996 (section 337A(2)(a) of ICTA). Subsection (1) is worded accordingly.

Section 444: Transactions not at arm’s length: general

1281.This and the following seven sections provide rules for where transactions in respect of a loan relationship are not on arm’s length terms. It is based on section 103(1) of, and paragraph 11(1) to (3A) of Schedule 9 to, FA 1996. The section requires debits and credits to be determined as if the related transaction in respect of which they arise were on arm’s length terms. Exchange gains and losses are not affected. Schedule 28AA to ICTA (provision not at arm’s length) has priority where it also applies (see section 445).

1282.Paragraph 11(2) refers to debits arising from the acquisition of rights under a loan relationship. The 1996 notes on sections read “…[paragraph 11] specifically does not affect the buyer when it has paid less than the market price – we are quite happy when it comes to sell the loan relationship, in computing the profit, it only gets the amount it actually paid taken into account at cost rather than market value”. When the company comes to sell the loan relationship the transaction may not be at arm’s length, but the arm’s length value is clearly still intended to apply.

1283.It was therefore intended that the debits refer to the entries in the asset account on the acquisition of a loan relationship acquired at below market value.

1284.Paragraph 6204 of the Corporate Finance Manual reads:

FA96/SCH9/PARA11(2) provides that the Para 11(1) adjustment does not apply to debits arising from the purchase of a loan relationship at less than market value.

Although this rule is primarily aimed at cases where the vendor is not within the charge to corporation tax, it does apply in other cases too. So, when a company buys a debt at undervalue (not at arm’s length), there is no adjustment in its accounts; it brings in the lower value and is taxed on the full amount of any resulting profit. Para 11(1) does apply to the vendor, however – where it sells a debt at undervalue (not at arm’s length) it is taxed as if it had sold the loan relationship at the market value.

1285.Ghosh and Johnson’s “Taxation of Loan Relationships and Derivatives”, in referring to paragraph 11(2), agrees with this interpretation. Paragraph 6.351 reads:

However, there is no market value uplift for the purpose of computing any debits arising from the acquisition of rights under a loan relationship at less than market value (para 11(2)). “Debit” here means an “expense”, ie acquisition cost.

1286.In most instances transactions other than at arm’s length are between group companies and Schedule 28AA to ICTA will apply. Schedule 28AA has precedence as a result of paragraph 11(1A) of Schedule 9 to FA 1996 and paragraph 11(1) of Schedule 9 will not then apply.

1287.A rewrite change has not been introduced to reflect this meaning of paragraph 11(2) because some non-HMRC specialists on loan relationship disagree with this interpretation.

Section 445: Disapplication of section 444 where Schedule 28AA to ICTA applies

1288.This section provides an exception to section 444. Where Schedule 28AA to ICTA also applies in respect of the related transaction, section 444 does not apply. It is based on paragraph 11(1A) and (1B) of Schedule 9 to FA 1996. The section also excludes an adjustment to exchange gains and losses from any Schedule 28AA adjustments.

Section 446: Bringing into account adjustments made under Schedule 28AA to ICTA

1289.This section requires credits and debits under this Part to reflect adjustments made under Schedule 28AA of ICTA. It is based on paragraph 16(1) and (2) of Schedule 9 to FA 1996.

Section 447: Exchange gains and losses on debtor relationships: loans disregarded under Schedule 28AA to ICTA

1290.This and the following four sections provide rules for exchange gains and losses on loan relationships which are not on arm’s length terms. It is based on paragraph 11A(1) to (3) of Schedule 9 to FA 1996 and paragraph 8(1) and (3) of Schedule 28AA to ICTA.

1291.The section leaves exchange gains and losses, or a proportion of them, out of account where, under Schedule 28AA to ICTA, the whole or part of a loan representing a debtor relationship is ignored.

Section 448: Exchange gains and losses on debtor relationships: equity notes where holder associated with issuer

1292.This section applies where interest is to be treated as a distribution under section 209(2)(e)(vii) of ICTA. It is based on paragraph 11A(1) of Schedule 9 to FA 1996. Exchange gains and losses on the security giving rise to that interest are left out of account in computing gains under this Part in respect of the debtor company.

Section 449: Exchange gains and losses on creditor relationships: no corresponding debtor relationship

1293.This section applies where a company is in a creditor relationship and the transaction giving rise to the loan would not have been made on arm’s length terms. It is based on paragraph 11A(4) and (5) of Schedule 9 to FA 1996. The section leaves exchange gains and losses out of account where there is no corresponding debtor relationship (explained in section 450).

Section 450: Meaning of “corresponding debtor relationship”

1294.This section provides the meaning of “corresponding debtor relationship” for the purposes of section 449. It is based on paragraph 11A(4) of Schedule 9 to FA 1996.

1295.Part 2(6) of Schedule 11 to F(No 2)A 2005 repeals the words “or would apart from section 84A(2) to (10) of this Act” in paragraph 11A(4)(c) of Schedule 9 to FA 1996 (rewritten in subsection (6)) with effect from a day to be appointed. This subsection will therefore cease to have effect from an appointed day (see Part 8 (loan relationships) of Schedule 2 to this Act).

Section 451: Exception to section 449 where loan exceeds arm’s length amount

1296.Where a loan would, on arm’s length terms, have been of an amount more than nil but less than the full amount this section takes into account a suitable proportion of the exchange gains and losses for the purposes of this Part. It is based on paragraph 11A(5) and (6) of Schedule 9 to FA 1996.

Section 452: Exchange gains and losses where loan not on arm’s length terms

1297.This section provides that, where a guarantor company is connected to the creditor company, a claim under paragraph 6D of Schedule 28AA to ICTA is assumed to apply to exchange gains and losses as well as interest. It is based on paragraph 11A(7) to (10) of Schedule 9 to FA 1996.

1298.Paragraph 6D of Schedule 28AA to ICTA applies where a company has an interest payment reduced by the transfer pricing rules of that Schedule and the loan on which that interest is paid is guaranteed by another company. The guarantor company may make a claim to be treated as if it had itself paid the interest. The guarantor company then obtains the deduction that was disallowed to the paying company. This is called a “compensating adjustment”. The interest is allowed to the extent that an independent lender would take the guarantee into account in determining the borrower’s debt capacity.

Section 453: Connected parties deriving benefit from creditor relationships

1299.This section provides that if a company receives less than a commercial return under a loan relationship and, in consequence, a connected company derives benefit as a result of that relationship, credits representing that benefit are brought into account in computing the creditor company’s gains. It is based on section 93C of FA 1996. This counters an avoidance device whereby a company arranges for the equivalent value of interest that would otherwise be received to be passed by the borrower to a connected company which is not a party to the relationship.

Section 454: Application of fair value accounting: reset bonds etc

1300.This section provides rules for debits and credits on loan relationships represented by bonds on which the terms change after issue, to be determined on the basis of fair value accounting. It is based on section 88A of FA 1996.

1301.Principally, this section counters avoidance where companies subscribe for reset bonds which increase in value after issue and are transferred to another group company at cost under section 340 onwards. That company is then sold outside the group at market value with the profit on the bond reflected in the capital gain on the sale of the subsidiary and not as a credit under this Part.

Section 455: Disposals for consideration not fully recognised by accounting practice

1302.This section provides that rights disposed of under a creditor relationship are to be brought into account where the disposal is not wholly recognised in the accounts and there is an intention to avoid tax. It is based on paragraph 11B of Schedule 9 to FA 1996.

Chapter 16: Non-trading deficits

Overview

1303.This Chapter provides the rules for deficits on loan relationships which are not used for the company’s trade.

Section 456: Introduction to Chapter

1304.This section provides a general introduction to the Chapter. It is based on section 83(1) of, and paragraph 5 of Schedule 8 to, FA 1996.

Section 457: Basic rule for deficits: carry forward to accounting periods after deficit period

1305.This section provides that deficits which are neither surrendered as group relief nor set-off against profits of the loss period or earlier periods are carried forward and set against the non-trading profits of the following accounting period. It is based on section 83(3A) of, and paragraph 4(1) to (3) and (6) of Schedule 8 to, FA 1996.

Section 458: Claim to carry forward deficit to later accounting periods

1306.This section allows a company to make a claim to carry forward the deficit from the period in which it arose without the need to set it against non-trading profits under section 457. It is based on paragraph 4(3) to (5) of Schedule 9 to FA 1996.

1307.The deficit is then treated as if it arose in the “first later period” and falls to be carried forward to the subsequent period (ie it cannot be set against total profits of that first later accounting period). This rule also applies where no claim is made but the deficit cannot be set against non-trading profits of the first subsequent period.

Section 459: Claim to set off deficit against profits of deficit period or earlier periods

1308.This section allows a company (unless it is a charity) to claim that deficits which have not been surrendered as group relief may be set off against other profits of the deficit period or carried back against profits from loan relationships in an earlier accounting period. It is based on section 83(2) and (5) of FA 1996.

1309.Section 83(2)(a) of FA 1996 (set-off against other profits of the deficit period) allows the deficit to be set off against “any profits….(of whatever description)”. “Profits of any description” are the “total profits” in section 9(3) of ICTA and this is reflected in subsection (1)(a).

1310.Section 83(2)(c) of FA 1996 (set-off carried back to earlier periods) refers only to set-off “against profits”. Paragraph 3(4) of Schedule 8 to FA 1996 makes it clear that the profits in section 83(2)(c) are only profits on non-trading loan relationships. This restriction has been brought out in subsection (1)(b). Full details of the profits against which a deficit can be set under subsection (1)(b) are given in section 463 (signposted in subsection (6)).

1311.Section 83(5) of FA 1996 has been rewritten in subsection (3) and excludes charities from making a claim under subsection (1) of this section. Before its repeal in FA 2002 section 83(2)(b) of FA 1996 allowed deficits to be surrendered as group relief. Section 83(5) was not consequentially amended when section 83(2)(b) was repealed and continues to refer to group relief.

1312.The reference to group relief is unnecessary since section 403(2) of ICTA, which allows non-trading deficits for the purposes of group relief, only provides for deficits to which section 83 of FA 1996 applies (see section 403ZC of ICTA). So all that is necessary to prevent the deficit of a charitable company from being surrendered as group relief is to provide that claims under this section may not be made in respect of the deficits of a charitable company and this is what subsection (3) does.

Section 460: Time limits and procedure for claims under section 459(1)

1313.This section provides the time limit for a claim under section 459. It is based on section 83(6) to (8) of FA 1996.

1314.Subsection (1)(b) rewrites “the Board” as “an officer of Revenue and Customs”. See Change 1 in Annex 1.

Section 461: Claim to set off deficit against other profits for the deficit period

1315.This section provides that, following a claim under section 459(1), the deficit is set off against the profits identified in the claim but after trade losses and before certain other reliefs. It is based on paragraph 1(1) to (4) of Schedule 8 to FA 1996.

1316.Although the set-off against profits of the deficit period is against total profits, the general rule in subsection (2) is that the set-off is against the profits of the company identified in the claim. In the figure of total profits any management expenses will already have been deducted under section 1219. The profits identified in the claim will therefore be after management expenses. If the company has more than one source of income together with a reduction for management expenses, an officer of Revenue and Customs will agree the amount of income specified in the claim on a just and reasonable basis.

Section 462: Claim to carry back deficit to earlier accounting periods

1317.This section explains how a claim to carry back a deficit to an earlier period under section 459(1)(b) applies, allowing the deficit to be set against profits of later accounting periods before earlier ones. It is based on paragraph 3(1) to (3) of Schedule 8 to FA 1996.

1318.Subsection (2) does not rewrite paragraph 3(2)(a)(ii) of Schedule 8 to FA 1996, which refers to section 83(4) of FA 1996, as section 83(4) has been repealed.

Section 463: Profits available for relief under section 462

1319.This section sets out which profits may be reduced by a deficit carried back against profits of an earlier period under section 459. It is based on paragraph 3(4) to (7) of Schedule 8 to FA 1996.

1320.The reliefs in subsection (5) are set against the profits before the apportionment required by subsection (3) to give the “amount available for relief”.

Chapter 17: Priority rules

Overview

1321.This Chapter gives the basic boundary rule for loan relationships in section 464 and excludes debits and credits on distributions.

Section 464: Priority of this Part for corporation tax purposes

1322.This section provides the main boundary provision applying to loan relationships. It is based on section 80(5) of, and paragraph 1(2) of Schedule 9 to, FA 1996.

Section 465: Exclusion of distributions except in tax avoidance cases

1323.This section excludes distributions from being brought into account under this Part unless they arise in consequence of avoidance arrangements. It is based on paragraph 1(1), (1A) and (2) of Schedule 9 to FA 1996.

Chapter 18: General and supplementary provisions

Overview

1324.This Chapter explains when companies are connected for the purposes of Parts 5 and 6 as well as providing definitions of “control”, “major interest” and other expressions used in those Parts.

Section 466: Companies connected for an accounting period

1325.This section explains when two companies are connected for an accounting period for the purposes of any provisions that apply it. It is based on sections 87(3) and (4) and 87A(1) of FA 1996.

Section 467: Connections where partnerships are involved

1326.This section explains when loan relationships are taken to be between connected companies in the case of debts owed by or to a partnership. It is based on section 87(5A) and (5B) of FA 1996.

1327.Subsection (4) adopts the language (“in accordance with the firm’s profit-sharing arrangements”) of section 1262 in Part 17 (partnerships) which rewrites section 114(2) of ICTA.

Section 468: Connection between companies to be ignored in some circumstances

1328.This section provides that a connection between a company in a creditor relationship and the company in the debtor relationship is ignored in certain circumstances. It is based on section 88(1), (5) and (6) of FA 1996. The circumstances are set out in sections 469 and 471. The section also provides that a company is treated for these purposes as being in a debtor relationship when the debt is “dog-legged” through intermediaries.

1329.Section 88(1) and (5) of FA 1996 refer to persons standing in a debtor relationship. “Persons” here has been rewritten as applying to companies only. See Change 56 in Annex 1.

Section 469: Creditors who are financial traders

1330.This section sets out the circumstances under which connectedness between a company in a creditor relationship and one in a debtor relationship is ignored under section 468. It is based on section 88(2) and (3) of FA 1996. The section allows financial traders who buy and sell debt of connected companies in the same way that they buy and sell debt of non-connected companies to be exempt from the connectedness rules.

1331.Section 88(2)(f) of FA 1996 provides the condition that, for a three month period, the equivalent of 30% or more of the assets should not be in the beneficial ownership of “connected persons”. This has been rewritten as “connected companies”. See Change 56 in Annex 1.

Section 470: Section 469: supplementary provisions

1332.This section explains terms used in the preceding section. It is based on section 88(4) of FA 1996.

1333.“Person” in section 88(4) has been rewritten as “company” only. See Change 56 in Annex 1.

Section 471: Creditors who are insurance companies carrying on BLAGAB

1334.This section stops the connectedness rules from applying to insurance companies carrying on basic life assurance and general annuity business where certain conditions are met. It is based on section 88(3) of FA 1996.

Section 472: Meaning of “control”

1335.This section explains the meaning of control for the purposes of any provisions that apply it, for example section 466. It is based on section 87A(1) to (3) of FA 1996.

1336.Subsection (6)(b) adopts the language (“in accordance with the firm’s profit-sharing arrangements”) of section 1262 in Part 17 (partnerships) which rewrites section 114(2) of ICTA.

Section 473: Meaning of “major interest”

1337.This section gives the meaning of “major interest”. It is based on paragraphs 2(7), 17(10) and 20(1), (3) and (8) to (10) of Schedule 9 to FA 1996.

Section 474: Treatment of connected companies and partnerships for section 473

1338.This section explains how the rule in section 473(2) (meaning of “major interest”) on rights and powers is applied to partnerships with company members. It is based on paragraph 20(4) to (7) of Schedule 9 to FA 1996.

Section 475: Meaning of expressions relating to exchange gains and losses

1339.This section explains what is meant by a company’s exchange gains and losses and gives the Treasury powers to make regulations as to how such gains and losses are to be calculated where fair value accounting is used. It is based on section 103(1A) to (1B) of FA 1996.

1340.Subsection (3) does not rewrite section 103(1AA)(b) of FA 1996 (“any other profit or gains or losses”) because the regulations are in respect of the manner in which exchange gains and losses in section 103(1A)(a) are to be calculated and a reference to other profits and losses is superfluous.

Section 476: Other definitions

1341.This section gives a number of definitions used in this Part. It is based on section 103(1) and (4) of FA 1996.

Part 6: Relationships treated as loan relationships etc

Overview

1342.The overview for this Part is included in the overview for Part 5.

Chapter 1: Introduction

Section 477: Overview of Part

1343.This section outlines the structure of this Part. It is new.

Chapter 2: Relevant non-lending relationships

Overview

1344.This Chapter brings within the loan relationship provisions money debts which do not fall within the definition of a loan relationship in section 302 because they do not arise from a transaction for the lending of money. The Chapter is based on section 100 of FA 1996.

Section 478: Relevant non-lending relationships: introduction

1345.This section sets out the purpose of the Chapter and provides definitions. It is new.

Section 479: Relevant non-lending relationships not involving discounts

1346.This section deals with the first type of debt which is not a loan relationship because it does not arise from a transaction for the lending of money. It is based on section 100(1) of FA 1996.

1347.The debts within this type do not involve discounts and are debts on which interest, exchange movements or impairment losses arise.

Section 480: Relevant non-lending relationships involving discounts

1348.This section deals with the second type of debt which is not a loan relationship because it does not arise from a transaction for the lending of money. It is based on section 100(1A), (1B) and (3A) of FA 1996.

1349.This type of debt involves discounts, in particular the discount that arises where a sum due in respect of the sale of an asset is payable at a later date with the discount representing compensation for the late payment.

Section 481: Application of Part 5 to relevant non-lending relationships

1350.This section explains how the provisions of Part 5 are to be applied to the preceding sections on non-lending relationships. It is based on section 100(1), (2) to (2ZB) and (3A) of FA 1996.

Section 482: Miscellaneous rules about amounts to be brought into account because of this Chapter

1351.This section provides miscellaneous rules regarding non-lending relationships. It is based on section 100(3B) and (7) of FA 1996.

Section 483: Exchange gains and losses: amounts treated as money debts

1352.This section brings exchange gains and losses on currency holdings and liabilities into the loan relationships legislation by treating them as money debts owed to or by the company. It is based on section 100(10) to (12) of FA 1996.

Section 484: Provision not at arm’s length: meaning of “interest” and “money debt”

1353.This section requires references to interest on money debts within this Chapter to include amounts treated as such under Schedule 28AA of ICTA (transfer pricing). It is based on section 100(3) of FA 1996.

Section 485: Exclusion of debts where profits or losses within Part 7 or 8

1354.This section excludes amounts from being brought into account under this Chapter if they are brought into account under the regimes for derivative contracts or intangible fixed assets. It is based on section 100(14) of FA 1996.

Section 486: Exclusion of exchange gains and losses in respect of tax debts etc

1355.This section precludes exchange gains and losses from being taken into account under this Chapter where they arise on certain tax payments or are on sums which are not deductible against trading profits or as management expenses. It is based on section 100(9) of FA 1996.

Chapter 3: OEICs, unit trusts and offshore funds

Overview

1356.This Chapter provides the rules for calculating debits and credits under Part 5 where a company holds an interest in an open-ended investment company (OEIC), unit trust scheme or offshore fund and the assets held by those entities are at least 60% “qualifying investments” by value. Qualifying investments are broadly assets that are or represent loan relationships. Such holdings are treated as rights under a creditor relationship.

Section 487: Overview of Chapter

1357.This section explains what the Chapter does. It is new.

Section 488: Meaning of “open-ended investment company” etc

1358.This section gives the definition of “open-ended investment company”. It is based on paragraph 8(7A), (7B) and (7D) of Schedule 10 to FA 1996 and regulation 95(2) of the Authorised Investment Funds (Tax) Regulations 2006.

1359.The definition is by reference to sections 468A(2) to (4) of ICTA because the definition in section 468A(2), read with section 468A(3) and (4), is in substance the same as that in paragraph 8(7A)(b), read with paragraph 8(7B) and (7D) of Schedule 10 to FA 1996 and any differences are negligible.

Section 489: Meaning of “offshore fund” etc

1360.This section gives a definition of “offshore fund” and also for “a material interest in such a fund” for this Chapter. It is based on paragraphs 7(1) and (2) and 8(7F) of Schedule 10 to FA 1996.

1361.The definition of “offshore fund” in paragraph 7 of Schedule 10 to FA 1996 has been applied throughout the Chapter. See Change 60 in Annex 1.

Section 490: Holdings in OEICs, unit trusts and offshore funds treated as creditor relationship rights

1362.This section provides the basic rule: if at any time in an accounting period an OEIC, unit trust scheme or offshore fund fails the qualifying investments test, a company’s holdings in such entities are treated as rights under a creditor relationship and the credits and debits are to be brought into account on the basis of fair value. It is based on paragraphs 4(1) to (4) and 7(1) of Schedule 10 to FA 1996, section 48B(5) of FA 2005 and regulation 95(2) of the Authorised Investment Funds (Tax) Regulations 2006 (SI 2006/964).

1363.Subsection (1)(a)(i) refers to ownership of “shares” in an open-ended investment company. Paragraph 4(1) of Schedule 10 to FA 1996, as modified by regulation 95 of the above regulations, refers to a company holding “rights” in an open-ended investment company. The term “shares” has been used in this section because regulation 93 of those Regulations provides that the modification made by regulation 95 is in relation to “shareholders” in authorised investment funds. Referring to shares in an open-ended investment company also aligns this section with section 587.

1364.In subsection (5), the meaning of “interest distributions” is provided by regulation 18(3) of the Authorised Investment Funds (Tax) Regulations 2006 (SI 2006/964).

Section 491: Holding coming within section 490: opening valuations

1365.This section provides the opening valuation for holdings of a company in an OEIC, unit trust scheme or offshore fund when section 490 first applies. It is based on paragraphs 5(1) and 6 of Schedule 10 to FA 1996.

1366.The words “the value of that asset” in paragraph 6 of Schedule 10 to FA 1996 have been rewritten as the “value of the holding” since the words in paragraph 6 refer directly back to “valuation of the holding” in sub-paragraph (b) of that paragraph.

Section 492: Disregard of investments made and liabilities incurred with avoidance intention etc

1367.This section provides that in determining credits and debits to be brought into account by any company in respect of its holding (“the relevant holding”) under the deemed creditor relationship, there shall be left out of account amounts relating to any investment or liability of the collective investment scheme or fund where the investment was made or the liability was incurred, or any transaction (or series of transactions) relating to the investment or liability was entered into, with a “relevant avoidance intention”. It is based on paragraph 4(5) and (6) of Schedule 10 to FA 1996 and regulation 95(2) of the Authorised Investment Funds (Tax) Regulations 2006.

Section 493: The qualifying investments test

1368.This section explains what is meant by the qualifying investment test and how “qualifying investment” is to be interpreted when applied to OEICs, unit trust schemes or offshore funds. It is based on paragraph 8(1), (5), (5A), (7A), and (7C) of Schedule 10 to FA 1996 and regulation 95(3) of the Authorised Investment Funds (Tax) Regulations 2006.

1369.Subsection (2)(b) explains the meaning of references to investments of OEICs for cases where under section 468A(3) of ICTA parts of umbrella companies are themselves regarded as separate OEICs. This involves rewriting the reference in paragraph 8(5A) of Schedule 10 to FA 1996 to “investments comprised in the scheme property of that company” with the changes made by paragraph 8(7B) to (7D) for such parts. Paragraph 8(7C)(a) converts these words to a reference to such of the investments of the umbrella company as form part of the separate pool in question. But for paragraph 8(7C)(a), paragraph 8(7C)(b) would operate on the reference in paragraph 8(5A) to scheme property in the case of such parts, but once paragraph 8(7C)(a) has applied, there are no references to scheme property on which paragraph 8(7C)(b) can operate and so it is otiose and has not been rewritten.

Section 494: Meaning of “qualifying investments”

1370.This section lists the investments which constitute “qualifying investments”. It is based on paragraph 8(2), (7) and (7E) of Schedule 10 to FA 1996, paragraph 1 of Schedule 2 to FA 2005 and regulation 95(3) of the Authorised Investment Funds (Tax) Regulations 2006.

1371.Paragraphs 1 and 9 of Schedule 2 to FA 2005 require the reference to “money placed at interest” in paragraph 8(2)(a) of Schedule 10 to FA 1996 to include a reference to arrangements falling within section 47, 48A, 49 or 49A of FA 2005 (rewritten in Chapter 6 of this Part). It does not include diminishing shared ownership arrangements under section 47A of FA 2005.

1372.The Unit Trust Schemes and Offshore Funds (Non-qualifying Investments Test) Order, SI 2006/981 also added a new paragraph 8(2)(h) to the list of qualifying investments in Schedule 10 to FA 1996 to cover “alternative finance arrangements”. They are defined in paragraph 8(7I) of that Schedule by reference to section 46(1) of FA 2005 as arrangements within section 47, 47A, 48A, 49 or 49A of FA 2005.

1373.Therefore, diminishing shared ownership arrangements (section 47A of FA 2005) are included as qualifying investments. However, paragraph 8(2)(e) of Schedule 10 to FA 1996 provides that derivative contracts are only included where the underlying subject matter consists of investments within paragraph 8(2)(a) to (d) of that Schedule. Therefore derivative contracts that consist mainly of diminishing shared ownership arrangements (section 47A) are not included, and hence the exclusion of these arrangements under subsection (1)(f)(i).

1374.The definition of “derivative contract” in paragraph 8(7E) of Schedule 10 to FA 1996 has not been rewritten. If a contract is treated as a derivative contract in Part 7 then it is also treated as a derivative contract for the purposes of this section because the definition of “derivative contract” in section 834(1) of ICTA (which refers to Schedule 26 to FA 2002 and is consequentially amended to refer to Part 7) applies for the purposes of the Corporation Tax Acts.

Section 495: Qualifying holdings

1375.This section explains what is meant by “qualifying holdings” in an OEIC, unit trust scheme or offshore fund within the qualifying investments list in the preceding section. It is based on paragraph 8(3), (3A), (4), (6) and (7C) of Schedule 10 to FA 1996.

1376.Paragraph 8(3)(b) of Schedule 10 to FA 1996 has been rewritten to make it clear that “the same accounting period” refers to the accounting period of the company holding the investment in the unit trust scheme etc and not the accounting period of the unit trust scheme etc.

1377.Paragraphs 8(6A) and (6B) of that Schedule have not been rewritten because they are considered unnecessary and add nothing to the operation of paragraph 8(6)(c). It does not matter for the purposes of paragraph 8(6)(c) whether the shares are of different denominations; all that matters is their value.

Section 496: Meaning of “hedging relationship”

1378.This section provides the meaning of “hedging relationship”. It is based on paragraph 8(7G) and (7H) of Schedule 10 to FA 1996.

Section 497: Power to change investments that are qualifying investments

1379.This section gives the Treasury power to amend this Chapter. It is based on paragraphs 8(8) and 9 of Schedule 10 to FA 1996.

1380.Subsection (1) includes a change that allows the Treasury to amend the descriptions of qualifying investments of an open-ended investment company. See Change 61 in Annex 1.

1381.Subsection (2) allows orders to be made for such “incidental, supplemental, consequential and transitional provision and savings”. This is a standard formulation for this Act for the extra things that can be done under an order and regulation-making powers. It is not considered a change in the law.

Chapter 4: Building societies

Overview

1382.This Chapter brings payments in respect of shares in building societies into the loan relationship regime. It provides that dividends and interest payable in respect of shares in, or deposits with, or loans to, a building society should be treated as a liability arising under a loan relationship of the building society.

Section 498: Building society dividends and interest

1383.This section brings dividends and interest payable by building societies into the loan relationship regime so far as they would not otherwise be within it. It is based on section 477A(3), (4), (9) and (10) of ICTA. The corresponding provision for income tax is section 372 of ITTOIA.

Chapter 5: Industrial and provident societies

Overview

1384.This Chapter brings payments in respect of shares in industrial and provident societies and agricultural or fishing co-operatives into the loan relationship regime. It does not treat the shares themselves as a loan relationship other than to allow dividends etc on shares held for the purposes of a trade to be treated as trading income.

Section 499: Industrial and provident society payments treated as interest under loan relationship

1385.This section treats certain payments by an industrial and provident society and agricultural or fishing co-operatives as payments of interest on a loan relationship. It is based on section 486(1), (4), (9) and (12) of ICTA. The corresponding provision for income tax is section 379 of ITTOIA.

1386.Subsection (2) treats dividends, bonuses and other sums payable on shareholdings held for the purposes of a trade or for other purposes as if that shareholding were a loan relationship so held. See Change 62 in Annex 1.

Section 500: Exclusion of interest where failure to make return

1387.This section disallows a debit for interest paid by industrial and provident societies where returns under section 887 of ITA are not made within the specified period. Section 887 requires such companies to make returns of interest paid without deduction of tax. It is based on section 486(1), (7) and (12) of ICTA.

Chapter 6: Alternative finance arrangements

Overview

1388.This Chapter treats arrangements that comply with Shari’a law as falling within the loan relationships regime. Shari’a law prohibits transactions that involve interest, and arrangements for the borrowing or lending of money will usually involve some form of risk sharing instead. The rules are not limited to Shari’a compliant products but also apply to any finance arrangement that falls within their terms. In this Chapter these arrangements are known as “alternative finance arrangements”.

1389.The rules covering alternative finance arrangements do not change the nature of the finance arrangements, nor do they in any way impute interest, or deem interest to arise where there is none. What they do is bring certain types of finance arrangements and the returns from those arrangements, into the same tax rules as those that apply to interest, providing a level playing field for tax between certain types of economically equivalent, but differently structured, finance arrangements.

1390.The Chapter sets out the nature of the five types of alternative finance arrangements in sections 503 to 507. Sections 509 to 513 explain which elements of the arrangements are treated as if they were loan relationships.

1391.Sections 48(1), 48B(4), 51, 51A and 56(3) of FA 2005 are not relevant for corporation tax purposes and therefore have not been rewritten in this Act. They remain in FA 2005 for non-corporation tax purposes.

Section 501: Introduction to Chapter

1392.This section provides an introduction to the Chapter by explaining what it does and provides definitions for the Chapter. It is based on paragraph 8(7I) of Schedule 10 to FA 1996 and section 46(1) of FA 2005 and is new in part.

Section 502: Meaning of “financial institution”

1393.This section gives the meaning of “financial institution”. It is based on section 46(2) and (3) of FA 2005.

Section 503: Purchase and resale arrangements

1394.This section deals with the first type of alternative finance arrangement, whereby an asset is purchased by a financial institution and then sold to another person with the payment by that second person left on credit. It is based on section 47(1) to (3) of FA 2005. The price paid by that second person exceeds the price paid by the financial institution. The difference between the two prices equates to the return from an investment at interest and is treated as an alternative finance return (see section 511).

Section 504: Diminishing shared ownership arrangements

1395.This section deals with a second type of alternative finance arrangement. It is based on section 47A(1) to (4) of FA 2005. Two persons, at least one of them a financial institution, acquire an interest in an asset. The financial institution receives payments from the other party for that party’s use of the financial institution’s share as well as (usually leasing) payments, with the ownership of the asset passing by degrees to the other party. The other party in the arrangement has full use of the asset being acquired and may grant rights in the asset. Payments made by the other party in excess of the payments for the beneficial interest being acquired are treated as an alternative finance return.

Section 505: Deposit arrangements

1396.This section deals with a third type of alternative finance arrangement whereby deposits are made with a financial institution and payments are made to the depositor out of profits earned by the use of the money. It is based on section 49(1) of FA 2005. The payments must equate to a return from an investment at interest. The return is treated as an alternative finance return.

Section 506: Profit share agency arrangements

1397.This section deals with a fourth type of alternative finance arrangement. It is based on section 49A(1) of FA 2005. Here the investor appoints an agent to whom a sum of money is given to be invested at a specified return. Any additional sum above that specified return is retained by the agent as an incentive fee.

Section 507: Investment bond arrangements

1398.This section deals with a fifth type of alternative finance arrangement and sets out the conditions that must be present for arrangements to be treated as an investment bond arrangement. It is based on section 48A(1) and (2) of FA 2005. Investment bond arrangements are a new variety of alternative finance arrangement that share some characteristics of a bond.

1399.An investment bond arrangement exists where the “bond-issuer” uses the subscription proceeds to acquire assets, which are specified in the arrangement, and are held for the benefit of the “bond-holder”. Income generated from the assets is distributed to the bond-holder and, on maturity of the bond, the assets are sold under pre-existing arrangements and the proceeds returned to the bond-holder.

Section 508: Provision not at arm’s length: exclusion of arrangements from sections 503 to 507

1400.This section excludes arrangements from sections 503 to 507 where the parties are connected persons within the transfer pricing legislation in Schedule 28AA of ICTA, the arrangements are not at arm’s length and the recipient of the alternative finance return is not subject to income or corporation tax or a similar non-United Kingdom tax. It is based on section 52(1) to (3) of FA 2005.

1401.In subsection (2)(c)(ii) “an amount representing relevant return” covers back to back arrangements where there is an intermediary between the two parties to the arrangements.

Section 509: Application of Part 5: general

1402.This section applies Part 5 to the five kinds of alternative finance arrangements. It is based on section 50(1) to (3) of FA 2005.

Section 510: Application of Part 5 to particular alternative finance arrangements

1403.This section provides, for each of the five alternative finance arrangements, the rules for what is to be treated as interest under that deemed loan relationship. It also provides some definitions for terms used in this section. It is based on section 50(1) to (2A) and (4) of FA 2005 and paragraph 7 of Schedule 2 to that Act.

Section 511: Purchase and resale arrangements

1404.This section explains the meaning of “alternative finance return” in relation to the purchase and resale arrangements in section 503. It is based on section 47(4), (6), (7) and (8) of FA 2005. It provides for where the second purchase price is paid either immediately or in instalments.

Section 512: Diminishing shared ownership arrangements

1405.This section explains the meaning of “alternative finance return” in relation to the diminishing shared ownership arrangements in section 504. It is based on section 47A(5) of FA 2005.

1406.“Costs and expenses” in section 47A(5) has been reduced to “expenses” in subsection (3) to avoid tautology.

Section 513: Other arrangements

1407.This section explains the meaning of “alternative finance return” in relation to deposit arrangements, profit share agency arrangements and investment bond arrangements. It is based on sections 48B(1), 49(2) and 49A(2) of FA 2005.

1408.In FA 2005 the return on some alternative investment arrangements is called “alternative finance return”, but the return on deposit arrangements and profit share agency arrangements is called “profit share return”. However, there is no material difference in the returns on these arrangements to justify different terminology. So “profit share return” has been replaced with “alternative finance return” in relation to deposit arrangements (section 505) and profit share agency arrangements (section 506). These are then consistent with purchase and resale arrangements, diminishing shared ownership arrangements and investment bond arrangements.

1409.Chapter 5 of Part 2 of FA 2005 is being amended to remove the term “profit share return” for income tax purposes.

Section 514: Exclusion of alternative finance return from consideration for sale of assets

1410.This section excludes the profits dealt with as interest under a loan relationship in relation to the arrangements under sections 503, 504 and 507 from determining the sale or purchase price for other tax purposes (eg trading or capital gains). It is based on section 53(1) to (3) of FA 2005. It does not prevent other tax provisions applying which substitute a different sum for a sale or purchase amount.

Section 515: Diminishing shared ownership arrangements not partnerships

1411.This section provides that diminishing shared ownership arrangements are not treated as a partnership for the purposes of the Corporation Tax Acts. It is based on section 47A(6) of FA 2005.

Section 516: Treatment of principal under profit sharing agency arrangements

1412.This section ensures that in the case of profit sharing arrangements the deposit-taker is taxable in respect of all of the profit resulting from the use of the money – both the depositor’s share of profit made under the arrangements and also the amount that the deposit-taker can retain. It is based on section 49A(3) of FA 2005. The deposit-taker is entitled to relief for the depositor’s share of profit.

Section 517: Treatment of bond-holder under investment bond arrangements

1413.This section provides that whatever the documentation accompanying investment bond arrangements may say, for tax purposes the bond-holder is not treated as having a legal or beneficial interest in the assets, and so is not entitled to capital allowances, nor is the bond-issuer treated as a trustee, or as making payments in a fiduciary or representative capacity. It is based on section 48B(2) of FA 2005.

Section 518: Investment bond arrangements: treatment as securities

1414.This section provides that alternative finance investment bonds are securities for the purposes of the Corporation Tax Acts. It is based on section 48B(3) of FA 2005.

Section 519: Investment bond arrangements: other provisions

1415.This section provides the rules about how investment bond arrangements impact on the regimes for securitisation companies, close companies and group relief. It is based on section 48B(6) to (8) of FA 2005.

Section 520: Provision not at arm’s length: non-deductibility of relevant return

1416.This section prevents any deduction in calculating profits for corporation tax purposes as a result of alternative finance arrangements where the arm’s length rule in section 508 applies. It is based on section 52(4) and (5) of FA 2005.

Section 521: Power to extend this Chapter to other arrangements

1417.This section provides the Treasury with powers to introduce further arrangements into this Chapter and make consequential amendments to the Tax Acts as necessary. It is based on section 98 of FA 2006.

Chapter 7: Shares with guaranteed returns etc

Overview

1418.The rules in this Chapter counter avoidance through the use of shares which function in a similar way to loan relationships but which fall outside the definition. The schemes making use of these shares exploit the fact that increases in value and gains from the disposal of shares are subject only to the rules for corporation tax on chargeable gains, if at all. The schemes use derivatives in conjunction with shares, or deferred subscription agreements to create what is in form a share but in economic substance a deposit or loan. In most of them the risks associated with equity investments, as well as the rewards, are removed or significantly reduced, leaving the share giving a return, either by the payment of “dividends” or by a wholly predictable increase in value, which is the type of return expected from debt.

Section 522: Introduction to Chapter

1419.This section sets out what the Chapter does, how it is arranged and some useful cross-references. It is based on sections 91A(1), (10) and (11), 91B(1), (7) and (8), 91C(7), 91D(13) and 91E(4) of FA 1996.

1420.Subsection (6) provides that the full definition of “share” in section 476 does not apply for the purposes of this Chapter. The part of the definition that does apply to this Chapter is that the meaning of “share” does not include a share in a building society.

Section 523: Application of Part 5 to certain shares as rights under creditor relationship

1421.This section treats rights in shares as loan relationships and distributions from such shares as debits or credits under this Part where either section 524 or 526 applies. It is based on sections 91A(1), (2) and (2A) and 91B(1), (2), (2A) and (6A) of FA 1996.

Section 524: Shares subject to outstanding third party obligations

1422.This section deals with the first type of shares to fall within section 523: shares which increase in value in a similar way to an investment return as a result of an obligation by a third party. It is based on section 91A(1) and (5) to (6) of FA 1996.

Section 525: Meaning of “interest-like investment”

1423.This section explains a term used in the previous section. It is based on section 91A(7) to (9) of FA 1996.

Section 526: Non-qualifying shares

1424.This section deals with the second type of shares to fall within section 523: shares (“non-qualifying shares”) which produce predictable gains because of the nature of the assets underlying them. It is based on section 91B(1) and (6) of FA 1996. One of three conditions, dealt with in sections 527 and 529 to 532, must be met for shares to fall within this category.

Section 527: The increasing value condition

1425.This section gives the first of the conditions necessary for a share to be a non-qualifying share within section 526. It is based on section 91C(1) to (3) and (6) of FA 1996. This is where the assets of the company in which the shares are held increase at a rate similar to commercial interest but which are not income-producing.

Section 528: Regulations about income-producing assets

1426.This section gives powers to the Treasury to add to the list of income-producing assets in section 527. It is based on section 91C(4) and (5) of FA 1996.

Section 529: The redemption return condition

1427.This section gives the second of the conditions necessary for a share to be a non-qualifying share within section 526. It is based on section 91D(1) to (2A) of FA 1996. This is where a redeemable share (with certain exceptions) produces a return similar to commercial interest.

Section 530: The redemption return condition: excepted shares

1428.This section explains which redeemable shares are excluded from being shares which may meet the condition dealt with by section 529. It is based on section 91D(3) to (8) and (11) of FA 1996.

1429.“Independent person” in section 91D has been rewritten in this section as “persons not connected with the company” which is the definition in section 91D(11). Given that the definition in section 839 of ICTA applies, “persons” here refers to both companies and individuals. Section 839 is not separately referred to in this Part as the definition of “connected persons” in section 1316 applies for the purposes of the Act. The use of “independent person” appears twice in Chapter 2 of Part 4 of FA 1996 with two quite different definitions. The other definition is in section 103 of FA 1996. The use of both terms has been replaced by their definitions.

Section 531: The redemption return condition: unallowable purposes

1430.This section explains what is meant by an unallowable purpose to ascertain whether a share is a qualifying publicly issued share for the purposes of section 530 and thus excluded from the redemption return condition as an excepted share. It is based on section 91D(9) to (11) of FA 1996.

Section 532: The associated transactions condition

1431.This section gives the third and final condition necessary for a share to be a non-qualifying share within section 526. It is based on section 91E(1) to (3) of FA 1996. This is where neither of the other conditions is met but there is a scheme or arrangement under which the combined effect of the shares and another transaction produce a return similar to a commercial rate of interest.

Section 533: Power to change conditions for non-qualifying shares

1432.This section gives the Treasury the power to vary the conditions to be met under which shares may be “non-qualifying shares” for the purposes of section 526. It is based on section 91F of FA 1996.

Section 534: Amounts to be brought into account where section 523 applies

1433.This section sets out rules concerning the amounts to be brought into account for the purposes of this Part by the company holding the shares. It is based on section 91A(3), (4) and (9) and section 91B(3), (4) and (6A) of FA 1996.

1434.Subsection (7) overrides the requirement for amortised cost basis where both this section and section 349 apply. See Change 57 in Annex 1.

Section 535: Shares ceasing to be shares to which section 523 applies

1435.This section treats shares which cease to fall within section 523 as having been disposed of and reacquired. It is based on section 91G(2) of FA 1996.

Chapter 8: Returns from partnerships

Overview

1436.This Chapter deals with arrangements involving firms that are intended to give rise to interest-like returns. It brings into the loan relationship provisions those arrangements that function in a similar way to loan relationships but which fall outside the definition. It is based on sections 91H and 91I of FA 1996 (inserted by paragraph 17 of Schedule 22 to FA 2008).

Section 536: Introduction to Chapter

1437.This section sets out what the Chapter does and how it is arranged. It is based on sections 91H(1), (2) and (6), and 91I(1), (2) and (7) of FA 1996.

Section 537: Payments in return for capital contribution to partnership

1438.This section deals with arrangements under which a company obtains a return by acquiring an interest in a firm for an amount which will increase in value in a similar way to interest. It is based on section 91H(1) to (4) of FA 1996.

1439.In accordance with the Partnership Act 1890, in this Act reference to the relationship between the partners is a “partnership”, but the collection of partners is a “firm”.

Section 538: Change of partnership shares

1440.This section deals with arrangements under which a company invests money in a firm in the form of capital contributions, initially receiving a share of the firm’s profits that is smaller than would be received by reference to that contribution but with a compensating greater entitlement to capital of the firm later on. It is based on section 91I(1) to (5) of FA 1996.

Chapter 9: Manufactured interest etc

Overview

1441.This Chapter treats “manufactured interest” (payments representing interest under a stock-lending arrangement) as interest under a loan relationship.

Section 539: Introduction to Chapter

1442.This section explains when a company has a “manufactured interest relationship”. It is based on section 97(1) and (4) of FA 1996.

Section 540: Manufactured interest treated as interest under loan relationship

1443.This section provides the main rule that the manufactured interest is treated as if it were interest under a loan relationship and the manufactured interest relationship is treated as if it were a loan relationship. It is based on section 97(2), (2A) and (4B) of FA 1996. It also ensures that debits and credits in respect of related transactions can still be taken into account after the company no longer has the right to receive manufactured interest (to prevent the sale of rights to receive such interest to third parties).

Section 541: Debits for deemed interest under stock lending arrangements disallowed

1444.This section disallows a debit under the loan relationship provisions for representative payments under section 736B(2) of ICTA. It is based on section 97(4A) of FA 1996.

Chapter 10: Repos

Overview

1445.The rules in this Chapter provide for the tax treatment of repo transactions to follow their accounting treatment under generally accepted accounting practice (GAAP). These rules have been rewritten from Schedule 13 to FA 2007.

Section 542: Introduction to Chapter

1446.This section sets out the purpose of the Chapter and how it is arranged. It is based on paragraph 1(1) of Schedule 13 to FA 2007.

1447.The purpose of the Chapter is that arrangements involving the sale and subsequent purchase of securities that equate in substance to the lending of money by or to a company (with the securities in substance acting as collateral) are to be taxed in accordance with their economic substance and accounting treatment.

Section 543: Meaning of creditor repo

1448.This section provides the definition of creditor repo - that is, a repo from the point of view of the lender, the company that purchases the securities as collateral. It is based on paragraph 7 of Schedule 13 to FA 2007.

1449.The securities are purchased with cash that, although legally a purchase price, equates in substance to a loan. Commercially this is known as a “reverse repo”. It is intended to cover normal repos executed under standard market documentation (although since it does not require the lender to sell the securities back to “the borrower” it goes wider than this).

Section 544: Meaning of creditor quasi-repo

1450.This section provides the definition of creditor quasi-repo. It is based on paragraph 8 of Schedule 13 to FA 2007. A creditor quasi-repo is intended to cover arrangements that are economically equivalent to standard creditor repos but are on non-standard terms.

Section 545: Ignoring effect on lender etc of sale of securities

1451.This section contains the first of two operative rules that apply when a company (“the lender”) has a creditor repo or creditor quasi-repo. It is based on paragraph 9 of Schedule 13 to FA 2007.

1452.The rule is intended to secure that the lender is not taxed on any income that arises on the securities during the period of the repo and does not obtain tax relief for any manufactured payments made, so long as neither is recognised in determining the lender’s profit or loss. This rule reflects the fact that for accounts purposes neither the income nor the payment will generally be recognised.

Section 546: Charge on lender for finance return in respect of the advance

1453.This section contains the second operative rule for creditor repos and creditor quasi-repos. It is based on paragraph 10 of Schedule 13 to FA 2007. It treats the financial asset as a loan relationship and the finance charge reflected in the accounts as deemed interest on that loan.

Section 547: Repo under arrangement designed to produce quasi-interest: tax avoidance

1454.This section is an anti-avoidance provision. It is based on paragraph 12 of Schedule 13 to FA 2007.

Section 548: Meaning of debtor repo

1455.This section introduces the concept of “debtor repo” – that is, a repo from the point of view of the borrower, the company that sells securities as collateral. It is based on paragraph 2 of Schedule 13 to FA 2007. It is intended to cover normal repos executed under standard market documentation (although since it does not require the borrower to buy the securities back from “the lender” it goes slightly wider than this).

Section 549: Meaning of debtor quasi-repo

1456.This section is the counterpart of section 544 and introduces the concept of “debtor quasi-repo” which is intended to cover arrangements that are economically equivalent to standard debtor repos but are on non-standard terms. It is based on paragraph 3 of Schedule 13 to FA 2007.

Section 550: Ignoring effect on borrower of sale of securities

1457.This section contains the first of two operative rules that apply when a company (“the borrower”) has a debtor repo or debtor quasi-repo. It is based on paragraph 4 of Schedule 13 to FA 2007. It also contains a special rule that applies where a person has entered into a “relevant arrangement”.

1458.It provides for the sale of securities by a company and the manufactured payment made by the other company in respect of the securities to be ignored. The borrower is taxed on the interest (or dividends) from the securities the borrower is selling and any manufactured interest the borrower receives representing that income is ignored.

Section 551: Relief for borrower for finance charges in respect of the advance

1459.This section sets out the second operative rule for debtor repos and debtor quasi-repos which is that the borrower obtains relief for any finance charge shown in its accounts that represents its cost of borrowing. It is based on paragraph 5 of Schedule 13 to FA 2007.

Section 552: General provisions about arrangements

1460.This section provides a number of rules for the purpose of applying other sections in this Chapter. It is based on paragraph 14(5) to (7) of Schedule 13 to FA 2007.

Section 553: Persons buying or selling for others

1461.This section ensures that where the sale or purchase of securities is made by a person for the benefit of another, the rules operate by reference to beneficial ownership. It is based on paragraph 14(3) of Schedule 13 to FA 2007.

Section 554: Power to modify this Chapter

1462.This section contains a power to modify some of the provisions of the Chapter to deal with non-standard repos or cases involving redemption arrangements. It is based on paragraph 15(1), (6), (7) and (9) of Schedule 13 to FA 2007.

Section 555: Cases where section 554 applies: non-standard repos

1463.This section sets out the situations when the powers under section 554 may be used. It is based on paragraph 15(2) to (5) of Schedule 13 to FA 2007.

Section 556: Meaning of securities and similar securities

1464.This section explains the meaning of “securities” for the other sections. It is based on paragraph 14 of Schedule 13 to FA 2007.

Section 557: Meaning of person receiving an asset

1465.This section provides that receiving an asset or payments in respect of an asset includes obtaining the value of, or a benefit from, an asset, whether directly or indirectly. It is based on paragraph 14(2) of Schedule 13 to FA 2007.

Section 558: Interpretation of accounting expressions

1466.This section explains accounting expressions used in the Chapter. It is based on paragraph 14(9) and (11) of Schedule 13 to FA 2007.

Section 559: Minor definitions

1467.This section provides further definitions for expressions used in this Chapter. It is based on paragraph 14(1) of Schedule 13 to FA 2007.

Chapter 11: Investment life insurance contracts

Overview

1468.This Chapter contains provisions that treat investment life insurance contracts as falling within the loan relationship rules. It is based on Schedule 13 to FA 2008.

Section 560: Introduction to Chapter

1469.This section sets out the purpose of the Chapter, how it is arranged and provides definitions for the Chapter. It is based on paragraph 1(1) and (2) of Schedule 13 to FA 2008.

Section 561: Meaning of “investment life insurance contract”

1470.This section defines “investment life insurance contract”, and also states the types of policies that are excluded from that definition. It is based on paragraph 1(1) to (3) of Schedule 13 to FA 2008.

Section 562: Contract to be loan relationship

1471.This section treats the investment life insurance contract as a creditor relationship of the company for the loan relationship provisions. It is based on paragraph 2(1) and (2) of Schedule 13 to FA 2008.

1472.Subsections (3) and (4) provide that credits representing the excess of any lump sum payout on death, or the onset of critical illness, over the policy’s surrender value at that time are exempt from tax under the loan relationship rules.

Section 563: Increased non-trading credits for BLAGAB and EEA taxed contracts

1473.This section provides a special rule within the loan relationships legislation for company-held investment policies. It is based on paragraphs 3(1) to (3) and 4(1) of Schedule 13 to FA 2008.

1474.The rule applies where the contract is a BLAGAB contract or is subject to a comparable “EEA tax charge”. In general, such policies will simply follow the normal rules, but this section recognises that in many cases the insurance company will have borne tax on the income and gains which are building up within the company in order to provide the benefits under the policy.

1475.This section provides that where a company has to bring in a non-trading credit representing a profit from a related transaction, then that credit is increased and the amount of the increase is set off against corporation tax assessable on the company for the accounting period.

Section 564: Section 563: interpretation

1476.This section provides the meaning of “BLAGAB contract” and provides the conditions for when a relevant comparable EEA tax charge has applied. It is based on paragraph 3(4) to (6) of Schedule 13 to FA 2008.

Section 565: Relevant amount where the relevant company uses fair value accounting

1477.This section provides a special rule where the policy is accounted for on the basis of fair value accounting. It is based on paragraphs 3(3) and 4(1) to (4) of Schedule 13 to FA 2008.

1478.The rule ensures that the whole profit, and not just the credit calculated by reference to the opening fair value at the start of the accounting period of sale etc, is used in calculating the additional credit and giving relief for the whole of the relevant I minus E tax.

Section 566: Introduction

1479.This section introduces the following three sections that deal with the charges on future gains of investment life insurance contracts that existed immediately before the beginning of the first accounting period of the company beginning on or after 1 April 2008. It is based on paragraphs 6(1), 7(1) and 8(1) of Schedule 13 to FA 2008.

1480.Although these sections are transitional, they have been placed in the body of this Part, rather than in the Schedules, because those contracts will be the majority for some time.

1481.The part of paragraph 6(1) providing that there was a deemed surrender of the rights under the contract immediately before 1 April 2008 is spent and has not been rewritten.

Section 567: Gains on deemed surrenders to be brought into account on related transactions

1482.This section provides that gains that accrued as a result of that deemed surrender are brought into account in the accounting period in which there is a related transaction. It is based on paragraphs 6(2) to (4) of Schedule 13 to FA 2008.

1483.The deemed gain that is brought into account is apportioned where the company is still party to the contract after the related transaction.

Section 568: Restriction on credits on old contracts: fair value accounting cases

1484.This section applies where the company uses fair value accounting and the cost of the contract at the start of the first accounting period beginning on or after 1 April 2008 is greater than the fair value of that contract at that time. It is based on paragraph 7(1) to (3) of Schedule 13 to FA 2008.

1485.Subsequent credits are not brought into account until they exceed the amount by which cost exceeded fair value at the start of that period.

Section 569: Restriction on debits on old contracts: non-fair value accounting cases

1486.This section applies where the company does not use fair value accounting and the carrying value of the contract at the start of the first accounting period beginning on or after 1 April 2008 is greater than the fair value of that contract at that time. It is based on paragraph 8(1) and (2) of Schedule 13 to FA 2008.

1487.Subsequent debits are not brought into account until they exceed the amount by which that carrying value exceeded that fair value.

1488.This rule prevents amounts being brought into account where the drop in value of the policy occurred before the start of the initial period.

Part 7: Derivative contracts

Overview

1489.This Part deals with profits and losses arising to a company from its derivative contracts. It is based on Schedule 26 to FA 2002.

1490.In most cases, the company’s accounts treatment of its derivatives is followed in identifying and quantifying the credits and debits which make up profits and losses in respect of its derivative contracts for tax purposes.

1491.If the contract is held for the purposes of a company’s trade, credits and debits arising from it are treated as receipts and expenses in calculating the profits of the trade under Part 3 of this Act. If it is not so held, the credits and debits are brought into account under Part 5 of this Act (loan relationships) in determining whether the company has non-trading profits or a non-trading deficit from its loan relationships. But, in a number of cases (primarily if the underlying subject matter of the derivative contract is land or shares), credits and debits are instead treated as giving rise to chargeable gains or allowable losses for the purposes of TCGA.

1492.There are similarities between many of the core rules for derivative contracts and those for loan relationships. The arrangement and drafting of the provisions for such common rules in Parts 5 and 6 and this Part is matched so far as appropriate. There are also rules for the interaction of the two regimes if a loan relationship includes a derivative contract (see section 700).

1493.Secondary legislation modifies the effect of these sections. See in particular the Exchange Gains and Losses (Bringing into Account Gains or Losses) Regulations 2002 (SI 2002/1970), as amended, the Loan Relationships and Derivative Contracts (Disregard and Bringing into Account of Profits and Losses) Regulations 2004 (SI 2004/3256), as amended, and the Loan Relationships and Derivative Contracts (Change of Accounting Practice) Regulations 2004 (SI 2004/3271), as amended. The modifications in secondary legislation have not been rewritten in these sections.

1494.The Part uses a number of defined terms. The more important are those in sections 576 to 583 (meaning of “derivative contract” and other basic definitions) in Chapter 2, section 596 (meaning of “related transaction”) in Chapter 3 and sections 702 to 710 (other general definitions) in Chapter 13.

1495.Part 10 of Schedule 2 contains a number of transitional rules affecting the application of this Part. The commentary draws attention where relevant to particular paragraphs. But see particularly the paragraphs headed “contracts which became derivative contracts on 16 March 2005”, “contracts which became derivative contracts on 28 July 2005” and “plain vanilla contracts which became derivative contracts before 30 December 2006” which have more general effect.

Chapter 1: Introduction

Section 570: Overview of Part

1496.This section contains a brief description of the Part and includes a signpost to the key definition for the Part, that of “derivative contract”. It is new.

Section 571: General rule: profits chargeable as income

1497.This section provides that profits arising to a company from its derivative contracts are chargeable to corporation tax as income. It is based on paragraph 1(1) of Schedule 26 to FA 2002.

1498.Profits arising to a company from its derivative contracts are generally chargeable to corporation tax as income, even if they would otherwise be regarded as capital profits under accounting rules. But some such profits are charged instead to corporation tax as chargeable gains. Subsection (2) signposts this exception to the general rule.

1499.Profits are so chargeable “in accordance with this Part”. That is, this Part contains all the necessary rules for identifying and quantifying the amount to be charged to tax. These rules take priority over any rule that might otherwise apply. See in particular section 699 (priority of this Part for corporation tax purposes).

Section 572: Profits and losses to be calculated using credits and debits given by this Part

1500.This section sets out how profits and losses from derivative contracts are calculated. It is based on paragraph 14(1) of Schedule 26 to FA 2002.

1501.The terms “credit” and “debit” are used in accounting practice. The Part operates by reference to accounts drawn up in accordance with generally accepted accounting practice (see section 595 (general principles about the bringing into account of credits and debits)).

1502.Chapter 3 contains the main rules for finding the relevant credits and debits. Subsection (2) indicates that in some cases profits and losses are calculated using other factors (the sections in question all give rise to amounts to be charged to corporation tax as chargeable gains).

Section 573: Trading credits and debits to be brought into account under Part 3

1503.This section provides for the treatment of credits and debits if the company is a party to the derivative contract for the purposes of a trade it carries on. It is based on paragraph 14(2) and (4) of Schedule 26 to FA 2002.

1504.Credits and debits are treated respectively as receipts and expenses of the company’s trade. Profits and losses in respect of the derivative contract are therefore charged under Part 3 (trading income).

1505.The provisions referred to in subsection (4) are those that would otherwise prevent a debit being taken into account as an expense of the trade.

1506.The provisions referred to in subsection (5) disapply this section, either because the contract in question is taken outside the scope of this Part or because credits and debits are taken into account instead in computing chargeable gains.

Section 574: Non-trading credits and debits to be brought into account under Part 5

1507.This section provides for credits and debits to be brought into account under Part 5 (loan relationships) if section 573 does not apply to them. It is based on paragraph 14(3) of Schedule 26 to FA 2002.

1508.Credits and debits are treated as non-trading credits and non-trading debits for the purposes of Part 5 and lumped in with any non-trading credits and non-trading debits arising on the company’s loan relationships to determine whether there is an amount to charge (or to relieve as a deficit) under that Part. Profits and losses in respect of such credits and debits arising from the derivative contract are therefore charged under Part 5.

1509.Subsection (3) has the same function for non-trading credits and debits as does section 573(5) for trading credits and debits. The paragraphs in Part 10 of Schedule 2 headed “existing assets representing creditor relationships: options”, “existing assets representing creditor relationships: contracts for differences” and “disapplication of section 658” also disapply this section.

Chapter 2: Contracts to which this Part applies

Section 575: Overview of Chapter

1510.This section describes the purpose and content of the Chapter. It is new.

Section 576: “Derivative contract”

1511.This section sets out the conditions under which a contract of a company is a derivative contract. It is based on paragraph 2(1) of Schedule 26 to FA 2002.

1512.The first condition, that it is a “relevant contract” (defined in section 577), limits the application of the term “derivative contract” to contracts that derive their value from underlying subject matter (defined in section 583) which is subject to changes in market prices or other factors.

1513.The second condition, that it meets the “accounting conditions” in section 579, means that the contract either:

is treated by the relevant accounting standards as a derivative or as a financial asset or liability; or
has underlying subject matter within certain categories.

1514.The third condition, that section 589 (contracts excluded because of underlying subject matter: general) or “any other provision of the Corporation Tax Acts” does not prevent it being a derivative contract, cuts down the scope of this Part, particularly in relation to contracts whose underlying subject matter is land or shares. Section 226(3) of FA 1994 (Lloyd’s underwriters: relevant contract forming part of a premium trust fund not to be a derivative contract) is an example of such another provision.

Section 577: “Relevant contract”

1515.This section defines the term “relevant contract”. It is based on paragraph 2(2) of Schedule 26 to FA 2002.

1516.In this Part, the term is used to refer generically to a contract within one of the three categories of contract listed here. In many contexts it is immaterial whether the relevant contract is an option, a future or a contract for differences.

1517.See also sections 584 to 586, under which some of the rights and liabilities under a contract are themselves treated as a relevant contract. The deemed relevant contract is a derivative contract if it meets the other conditions in section 576(1).

Section 578: Relevant contracts of a company and being party to such contracts

1518.This section explains what references in this Part to a company’s relevant contracts, or to a company being a party to such a contract, mean. It is based on paragraphs 2(2A) and 53(1) and (2) of Schedule 26 to FA 2002.

1519.A relevant contract is “of” a company if that company has entered into or acquired the contract. A reference to a company being a party to a contract means the company has entered into or acquired the contract.

1520.Subsection (2) explains what “acquires” means in relation to a contract for the purposes of this Part. The words “whether by assignment or otherwise” in the source legislation have not been reproduced as they add nothing.

Section 579: The accounting conditions

1521.This section sets out the conditions mentioned in section 576(1)(b). It is based on paragraph 3 of Schedule 26 to FA 2002.

1522.Most derivative contracts meet the first of the conditions in subsection (1), that the relevant contract is treated for accounting purposes as a derivative. Subsections (3) and (5) explain when a relevant contract is treated for accounting purposes as a derivative. Financial Reporting Standard 25 (“FRS 25”) deals with the presentation of financial instruments in accounts.

1523.The second condition has two legs. The first covers a contract that does not meet a particular requirement of Financial Reporting Standard 26 (measurement in accounts of financial instruments) (“FRS 26”) that must be satisfied if the contract in question is to be treated as a derivative under FRS 25. Paragraph 9(b) of FRS 26 prescribes that the “financial instrument or other contract within the scope of this Standard… requires no initial net investment or an initial net investment that is smaller than would be required for other types of contract that would be expected to have a similar response to changes in market factors”.

1524.The second leg of the second condition is that the contract is nevertheless treated for accounting purposes as a financial asset or financial liability. Subsections (4) and (5) have the same function in relation to the second condition as have subsections (3) and (5) in relation to the first condition.

1525.The third condition brings in contracts that fail the first or second condition but have underlying subject matter within one of the categories prescribed in subsection (2). If the underlying subject matter is commodities, it does not matter what category of relevant contract the contract is. But only a contract for differences can meet the condition by reference to the other prescribed categories of underlying subject matter. So an option or future whose underlying subject matter is one or more of the categories in subsection (2)(b) is only a derivative contract if it meets one of the other accounting conditions.

Section 580: “Option”

1526.This section defines the term “option”. It is based on paragraph 12(1), (8) and (10) of Schedule 26 to FA 2002.

1527.Subject to the non-exhaustive definition in subsection (1) and the limitation in subsection (2) (itself limited by subsection (3)), the word takes its ordinary meaning. “Warrant”, in subsection (1), is defined in section 710 (other definitions).

1528.The limitation in subsection (2) excludes cash-settled options from the meaning of “option”. Contracts so excluded fall within the definition of contracts for differences and are therefore subject to the rules applying to relevant contracts generally and those applying specifically to contracts for differences.

1529.Subsection (4) lists a number of provisions that dispense with this limitation and so do not exclude cash-settled options from the meaning of “option” in that context.

Section 581: “Future”

1530.This section defines the term “future”. It is based on paragraph 12(1), (6), (7) and (10) of Schedule 26 to FA 2002.

1531.Subsections (3) and (4) exclude cash-settled futures from the scope of the definition in the same way that section 580(2) and (3) does for cash-settled options in relation to the definition of “option”. Contracts so excluded also fall within the definition of contracts for differences.

Section 582: “Contract for differences”

1532.This section defines the term “contract for differences”. It is based on paragraph 12(1), (3), (4) and (5) of Schedule 26 to FA 2002.

1533.This is the broadest category of relevant contract and the definition is expressed initially in wide-ranging terms. Subsection (2) therefore excludes a number of categories of contract from the scope of the definition, in particular an option and a future, but also a loan relationship and a number of other types of financial instrument. Section 710 has definitions of “contract of insurance” and “capital redemption policy”. For the meaning of “loan relationship”, see section 302.

1534.Subsection (3) emphasises the wide-ranging nature of the indices or factors that may be designated in a contract for differences. The words in the source legislation “and, for those purposes, a numerical value may be attributed to any variation in a matter”, have not been rewritten as they add nothing. It is of the essence of any index or factor used in a contract for differences that it has such a numerical value.

Section 583: “Underlying subject matter”

1535.This section defines the term “underlying subject matter” for each category of relevant contract. It is based on paragraph 11 of Schedule 26 to FA 2002.

1536.Subsection (5) echoes section 579(2)(b) in explaining that certain factors may be the underlying subject matter of a contract for differences. One of those factors is interest rates. Subsection (6) provides that interest rates are not regarded as the underlying subject matter of a contract for differences if such rates are only used incidentally in determining the variable amount of a payment due under the contract at a variable date. That is, in such a case an interest rate or rates are a factor in the operation of the contract but are not themselves what its outcome depends on.

1537.Subsection (7) applies to all categories of relevant contract. It stops certain types of property from being regarded as the underlying subject matter of the contract just because income from that property is included in that underlying subject matter. Contracts to which this provision applies are therefore, as regards this aspect of their underlying subject matter, not excluded as derivative contracts under section 589.

Sections 584 to 586: Cases where companies treated as parties to relevant contracts

Overview

1538.These three sections treat certain rights and liabilities under a contract (an “embedded derivative”) as themselves constituting a relevant contract independent of the remaining rights and liabilities under the main contract. The deemed relevant contract is a derivative contract if it meets the conditions in section 576(1)(b) and (c).

1539.All three cases cater for the provision in accounting standards for a financial or other instrument to be treated as divided between:

the rights and liabilities that constitute one or more derivatives or one or more derivative financial instruments or equity instruments; and
the remaining rights and liabilities under the instrument.

1540.All three cases provide for the deemed relevant contract to be treated as an option, future or contract for differences if that is what a contract having only the rights and liabilities of the deemed relevant contract would be. So references in this Part to an option, future or contract for differences include a reference to the deemed relevant contract unless the context requires otherwise. And provisions dealing with a “relevant contract” or “derivative contract” apply to an embedded derivative that is treated as a relevant contract or qualifies as a derivative contract unless the context requires otherwise.

1541.A number of provisions in this Part make special provision for one or other category of embedded derivative (see in particular Chapters 7 and 8 (chargeable gains arising in relation to derivative contracts)).

Section 584: Hybrid derivatives with embedded derivatives

1542.This section treats a relevant contract divided in accordance with generally accepted accounting practice between one or more embedded derivatives and a host contract as a number of relevant contracts for the purposes of this Part. It is based on paragraph 2B of Schedule 26 to FA 2002.

1543.It applies if a relevant contract that is not itself a derivative for accounting purposes is so divided into one or more embedded derivatives and the remaining rights and liabilities (“the host contract”) which by themselves amount to a relevant contract.

1544.The host contract is also treated as a relevant contract with the same consequences as for the embedded derivative (in this respect, this section differs from its two successors).

1545.A relevant contract which may be treated as containing such deemed relevant contracts is called a “hybrid derivative” (subsection (4)). Subsection (5) lists the provisions which apply in relation to a hybrid derivative.

Section 585: Loan relationships with embedded derivatives

1546.This section treats the embedded derivative or embedded derivatives in a company’s loan relationship as relevant contracts. It is based on section 94A of FA 1996.

1547.It applies if a loan relationship is treated under generally accepted accounting practice as divided between rights and liabilities under one or more derivative financial instruments or equity instruments (the embedded derivative(s)) and the remaining rights and liabilities which by themselves constitute a loan relationship.

1548.For the meaning of “equity instrument”, see section 710 (that is, it has the meaning it has for accounting purposes). It is defined in paragraph 11 of International Accounting Standard 32 as follows: “an equity instrument is any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities”.

1549.Subsection (4) is a signpost to section 415 in Part 5 (loan relationships) which deals with the remaining rights and liabilities which by themselves constitute a loan relationship.

1550.Subsection (5) includes a signpost to section 416 which provides for a company to elect that certain of its loan relationships shall be split as mentioned in section 415 and this section, if they would not be so split under the accounting practice the company uses.

Section 586: Other contracts with embedded derivatives

1551.This section provides for the embedded derivative or embedded derivatives in a contract that is neither a hybrid derivative nor a loan relationship to be treated as relevant contracts. It is based on paragraph 2A of Schedule 26 to FA 2002.

1552.It applies if such a contract is divided under generally accepted accounting practice between one or more embedded derivatives and the remaining rights and liabilities under the contract.

1553.Subsection (2)(a) is written in terms of the rights and liabilities of the embedded derivative rather than, as in the source legislation, simply referring to the embedded derivative. This aligns the rule here with the expression of the similar rule in the preceding two sections.

1554.The source legislation for subsection (2)(b) refers at the equivalent point to a contract “whose rights and liabilities consist only of one of the non-financial embedded derivatives”. “Non-financial” is part of the label “non-financial embedded derivative” in paragraph 2A of Schedule 26 to FA 2002, which applies to the relevant contract to which the company is deemed to be a party under this provision. It is not appropriate to the embedded derivative itself by virtue of which the company is treated as a party to a relevant contract. That is, the embedded derivative has first to be identified before there is a deemed relevant contract to which such a label can be applied. “Non-financial” has therefore not been rewritten in subsection (2)(b).

Section 587: Contract relating to holding in OEIC, unit trust or offshore fund

1555.This section treats as a derivative contract a relevant contract that is not otherwise such a contract if its underlying subject matter consists wholly or partly of a holding in a collective investment scheme and that scheme fails to meet a “qualifying investments test”. It is based on paragraph 36(1), (2), (3) and (4) of Schedule 26 to FA 2002.

1556.A number of the contracts to which this section would appear to apply are in fact already derivative contracts because their underlying subject matter does not qualify as “excluded property” under section 589. This section therefore sweeps up any relevant contract that fails to meet the conditions for a derivative contract despite its underlying subject matter consisting wholly or partly of a “relevant holding”.

1557.The words “but for this section”, at the end of paragraph (a) in subsection (1), avoid conflict between the effect of the section (the contract is a derivative contract) and the condition for the section to apply (the contract is not a derivative contract).

1558.If subsection (2) applies to treat the relevant contract as a derivative contract in a particular accounting period, that treatment persists for so long as the contract is a relevant contract of the company (even if the circumstances that first led to it being treated as a derivative contract no longer apply).

1559.Subsection (3) describes what a “relevant holding” is for the purposes of the section. It is drafted in terms of the underlying subject matter of the contract rather than, as in the source legislation, referring to a relevant holding of a “person”. This corrects a misfiring of the provision that arose from adapting a similar provision for loan relationships (see paragraph 4(1) of Schedule 10 to FA 1996, rewritten in section 490 of this Act). See Change 63 in Annex 1. (This Change also applies to section 601; see the signpost to that section in subsection (6).)

1560.The meaning of “material interest in an offshore fund” in subsection (3)(a)(iii) is provided by reference to Chapter 3 of Part 6 of this Act, where the definition is based on paragraph 7 of Schedule 10 to FA 1996, to which the source legislation for this section refers. But that definition pleads into the meaning given to “offshore fund” in section 489(1), which is slightly wider in scope than that given in section 756A of ICTA. See Change 60 in Annex 1.

1561.Subsection (5) refers to the power to amend the definition of “relevant holding”, by regulations under section 17 of F(No 2)A 2005, in relation to the source legislation for both this section and its loan relationships equivalent (section 490 in Part 5). The power has not yet been exercised.

1562.The provisions mentioned in subsections (6) and (7) are those that deal specifically with contracts to which this section applies. But a contract treated as a derivative contract by this section is subject to other provisions that operate on derivative contracts so far as the context permits.

Section 588: Associated transaction treated as derivative contract

1563.This section treats an “associated transaction” in respect of shares held by an “investing company” as either a derivative contract or a transaction in respect of a derivative contract, if it would not already be such a contract or transaction. It is based on section 91B(5) of FA 1996.

1564.If the section does so, credits and debits arising from the associated transaction are then brought into account under this Part under section 603.

1565.Chapter 7 of Part 6 (shares with guaranteed returns etc) deals with certain shares which in substance are equivalent to loan relationships. It provides that the same consequences follow for tax purposes as if the company’s holding of shares were a loan relationship.

1566.Section 523 (which is also based on section 91B of FA 1996) applies to “non-qualifying shares”. A share is “non-qualifying” if one of various conditions is met. One of those conditions (see section 532) is that there is a scheme or arrangement under which the share and “one or more associated transactions” are designed to equate to an investment yielding a commercial rate of interest. An “associated transaction” is one of entering into, or acquiring rights and liabilities under, a derivative contract or contracts having some similarity to a derivative contract or a contract of insurance or indemnity.

1567.Subsection (4) applies if there is such an associated transaction (the “associated transactions condition”).

Section 589: Contracts excluded because of underlying subject matter: general

1568.This section, supplemented by the next four, provides that a relevant contract is not a derivative contract if its underlying subject matter falls wholly into certain categories (or is treated as doing so) and one or more conditions applies. It is based on paragraph 4(1), (2), (2ZA) and (4) of Schedule 26 to FA 2002.

1569.Profits and losses arising in relation to such contracts are therefore not brought into account under this Part but are taxed as appropriate under other provisions, primarily as chargeable gains.

1570.Subsection (1) introduces the term “excluded property” to describe underlying subject matter that causes the relevant contract not to be a derivative contract. Subsection (2), supplemented by subsections (3) to (6) defines the term, with further detail appearing in sections 590 to 592.

1571.Intangible fixed assets are excluded property, but only in the case of an option or future. Profits and losses in respect of such a contract are dealt with primarily under Part 8.

1572.The major categories of excluded property, in relation to any type of relevant contract, are (a) shares in a company and (b) rights of a unit holder under a unit trust scheme. But in such cases the relevant contract must both satisfy one of the conditions in section 591 and not have the characteristics of a commercial investment.

1573.Subsection (3) takes certain types of share out of the excluded category. These are:

shares dealt with by Chapter 7 of Part 6 (shares with guaranteed returns etc); and
shares in an open-ended investment company if that company fails to meet the qualifying investments test for the purposes of the loan relationships provisions.

1574.For more on the qualifying investments test, see the commentary on section 587.

Section 590: Disregard of subordinate or small value underlying subject matter

1575.This section provides that the parts of a relevant contract’s underlying subject matter that are subordinate or of small value are ignored in determining for the purposes of section 589 whether its underlying subject matter consists wholly of excluded property. It is based on paragraph 9 of Schedule 26 to FA 2002.

1576.A relevant contract may contain a number of minor elements in addition to its main purpose. For example, there may also be an option to settle the contract in one or more currencies by reference to a particular exchange rate or there may be some minor leeway as to the settlement date.

1577.Subsection (3) provides that any question of whether part of the underlying subject matter is “subordinate” or of “small value” is determined by reference to the time the company enters into or acquires the contract. But the section does not otherwise provide any definition of “subordinate” or “small value”. Paragraph CFM13120 of HMRC’s Corporate Finance Manual (and the examples in CFM13120a) provides guidance.

1578.See also section 593 which deals with the case of an option or future where the part of the underlying subject matter that is not excluded property is neither subordinate nor of small value.

Section 591: Conditions A to E mentioned in section 589(5)

1579.This section provides the conditions mentioned in section 589(5)(a) which govern whether shares in a company or rights of a unit holder under a unit trust scheme are excluded property under that section. It is based on paragraphs 4(2A) to (2D) and 12(1) and (11A) of Schedule 26 to FA 2002.

1580.Condition A applies to certain relevant contracts entered into or acquired by life insurers that are an “approved derivative” within the meaning of Rule 3.2.5 of the Insurance Prudential Sourcebook issued by the Financial Services Authority on 25 October 2006 or, in the case of an overseas life insurance company which is a European Economic Area firm or a “treaty firm”, are derivative instruments falling within article 23.3 of the EC Consolidated Life Directive (EC/2002/83).

1581.Rule 3.2.5 of the Insurance Prudential Sourcebook sets out a number of conditions to do with the purposes for which the derivative is held, how the risk under the derivative is managed and the circumstances in which it is entered into or acquired. See the definition of “Insurance Prudential Sourcebook” in section 431(2) of ICTA.

1582.Condition A does not apply to a relevant contract that meets the condition in section 579(1)(b) (one that is treated by accounting standards as a financial asset or liability, but is not treated as a derivative by accounting standards because of the size of the initial outlay).

1583.The source legislation for condition A applies only to cases where the contract is “entered into” by the company. But the source legislation for conditions B to D in this section applies if the company enters into or acquires the contract. This condition has been brought into line with those conditions. See Change 64 in Annex 1.

1584.See also section 592 which extends the application of condition A to certain rights and liabilities that are treated as a relevant contract by section 584.

1585.Condition B applies if the company is not a party to the relevant contract for the purposes of its trade and there is a “hedging relationship” (defined in section 707) between the relevant contract and either (a) shares or rights of a unit holder in a unit trust scheme or (b) the company’s share capital or related liability.

1586.Condition B does not apply if the relevant contract is one treated as such by section 585 (that is, it is an embedded derivative in a loan relationship).

1587.Condition C applies if the company is not a party to the relevant contract for the purposes of its trade and the contract is a quoted option to subscribe for shares.

1588.Condition D deals with a relevant contract that relates to the acquisition by company A of a major investment in the share capital of company B other than for the purposes of core activities of company A’s trade. The reference to “activities forming an integral part of a trade” ensures that the condition is not disapplied in the case of, say, a financial trader. For a financial trader, the particular contract may be relevant to its structural assets, which might be regarded as held in the course of its trade, but may not actually be relevant to its core trading activities. The contract must be an option or future for the acquisition or delivery of shares. As with condition B, condition D does not apply if the relevant contract is one treated as such by section 585.

1589.Condition E applies if there is a hedging relationship between the relevant contract and an asset or liability representing a loan relationship to which section 585 applies. The second leg of condition E is that each of the relevant contracts to which the company is treated as a party under that section is a derivative contract to which one of the provisions specified in paragraph (b) of subsection (6) applies. Under the provisions listed in subsection (7), credits and debits are brought into account in calculating chargeable gains rather than as income. Part 10 of Schedule 2 extends that list in respect of certain rules in that Part.

1590.The section does not rewrite those parts of paragraph 4(2B)(a), (2C)(a) and (2CA)(a) of Schedule 26 to FA 2002 that refer to the trading activities of an insurance company or mutual trading company. They are redundant following changes in the source legislation for sections 633 and 634.

Section 592: Embedded derivatives treated as meeting condition in section 591 etc

1591.This section extends the ability to satisfy one of the conditions in section 591 to certain embedded derivatives within the meaning of section 584. It is based on paragraphs 2B(3), 45M and 54(1) of Schedule 26 to FA 2002.

1592.If this section applies, the underlying subject matter of the embedded derivative may satisfy the definition of “excluded property” in section 589(2). The embedded derivative may thereby not be a derivative contract for the purposes of this Part.

1593.The section applies only if the “hybrid derivative” (within the meaning of section 584) is a relevant contract within section 579(1)(b). That is one that is not treated as a derivative by accounting standards because of the size of the initial outlay (for example, a prepaid equity forward) but is treated as a financial asset or liability. Also, the “host contract” (subsection (5)) must be treated for accounting purposes as (or as part of) a financial asset.

1594.The embedded derivative must itself satisfy section 579(1)(a) (a relevant contract that is treated for accounting purposes as a derivative). And its underlying subject matter must be wholly shares in a company or rights of a unit holder in a unit trust scheme. Subsection (4) indicates that section 590 applies if appropriate to determine whether the “wholly” test in paragraph (c) of subsection (1) is met.

1595.If the section applies, the embedded derivative is treated as satisfying one of the conditions in section 591, and therefore meets one element of the meaning of “excluded property” in section 589(2). In the source legislation the embedded derivative is treated as meeting condition A in section 591 because this rule is expected to be relevant primarily (although not exclusively) to insurance companies (and condition A specifically applies to such companies). But it is sufficient to deem the embedded derivative to meet any one of the conditions in section 591 for the purposes of section 589(2).

1596.The section does two more things. First, it treats the embedded derivative (which in all likelihood is not now a derivative contract, because of section 589) as a “chargeable asset” for the purposes of this Part and TCGA. See the definition of that term in section 703.

1597.Second, the host contract is treated as a “creditor relationship” of the company for the purposes of the Corporation Tax Acts. That primarily affects the operation of Parts 5 and 6 (loan relationships). But it also affects those sections in this Part that operate by reference to a creditor relationship (for example, section 631(4)). See the definition of “creditor relationship” in section 704.

Section 593: Contracts where part of underlying subject matter is excluded property

1598.This section provides for an option or future to be treated in certain cases as divided between a relevant contract whose underlying subject matter consists wholly of excluded property within the meaning of section 589 and one whose underlying subject matter consists wholly of other underlying subject matter. It is based on paragraph 46 of Schedule 26 to FA 2002.

1599.See the commentary on section 589 for the significance of the underlying subject matter of a contract being or not being “excluded property”.

Chapter 3: Credits and debits to be brought into account: general

Section 594: Overview of Chapter

1600.This section describes the purpose and content of the Chapter. It is new.

1601.The Chapter provides in particular for the application of generally accepted accounting practice in determining the profits and losses to be brought into account under this Part. In some cases, it provides for departure from generally accepted accounting practice for that purpose. Chapter 4 contains provisions about credits and debits for a number of special situations.

Section 595: General principles about the bringing into account of credits and debits

1602.This section specifies for the identification of the credits and debits to be brought into account under this Part. It is based on paragraphs 15(1), (4) and (9) and 17A(1) of Schedule 26 to FA 2002.

1603.Subsections (1) and (2) make general statements on the part played by accounts prepared in accordance with generally accepted accounting practice in identifying credits and debits for the purposes of this Part. “Generally accepted accounting practice” is defined by section 832(1) of ICTA by reference to section 50(1) of FA 2004. If a company prepares accounts in accordance with international accounting standards, those standards constitute generally accepted accounting practice. Otherwise UK generally accepted accounting practice applies.

1604.The general statement in subsection (2) refers to credits and debits which are amounts “recognised in determining the company’s profit or loss” for the period. For the meaning of “recognised” in this context, see section 597.

1605.But that statement is qualified by the more specific rule in subsection (3) that those credits and debits must “fairly represent” profits, losses and expenses that arise in respect of the derivative contract or arise from certain transactions in respect of the contract (labelled “related transactions”).

1606.There is a further significant rule in subsection (7) that makes both the general statement in subsection (2) and the rule in subsection (3) subject to the qualifying effect of “the following provisions of this Part”.

Section 596: Meaning of “related transaction”

1607.This section provides the meaning of “related transaction” for the purposes of this Part. It is based on paragraph 15(7) and (8) of Schedule 26 to FA 2002.

1608.The term is used extensively in this Part in provisions which may apply to or involve consideration of the acquisition or disposal of a derivative contract.

Section 597: Amounts recognised in determining a company’s profit or loss

1609.This section explains what “an amount recognised in determining a company’s profit and loss” means. It is based on paragraph 17B of Schedule 26 to FA 2002.

1610.The various statements listed in paragraphs (a) and (b) of subsection (1) are those mentioned in UK generally accepted accounting practice or international accounting standards. But subsection (1)(c) caters for amounts recognised in any accounting statement not among those listed.

1611.The statements listed in paragraphs (a) and (b) of subsection (1) include a “statement of comprehensive income”, “statement of recognised income and expense” and “statement of income and retained earnings”. These statements are not mentioned in the source legislation but are the equivalents in more recently applying accounting standards of the statements listed there.

1612.So far as the terms in those paragraphs derive from accounting standards, they are defined in section 710 as having the meaning they have for accounting purposes.

1613.Subsection (2) brings in prior period adjustments for this purpose but subsection (3) excludes amounts recognised “by way of correction of a fundamental error”. Such amounts are brought into account in the prior period affected by the error (so that the amounts so brought into account “fairly represent” profits and losses etc in respect of the contract in that period).

1614.See also sections 613 to 615 for the treatment of adjustments shown in accounts on a change of accounting policy.

Section 598: Regulations about recognised amounts

1615.This section provides powers for regulations that amend the amounts regarded as “recognised” in one or other of the various statements mentioned in section 597(1). It is based on paragraph 17C of Schedule 26 to FA 2002 and paragraph 52 of Schedule 4 to FA 2005.

1616.For regulations made under this power, see the Loan Relationships and Derivative Contracts (Disregard and Bringing into Account of Profits and Losses) Regulations 2004 (SI 2004/3256), as amended, and the Loan Relationships and Derivative Contracts (Change of Accounting Practice) Regulations 2004 (SI 2004/3271), as amended.

Section 599: Meaning of “amounts recognised for accounting purposes”

1617.This section defines “amounts recognised for accounting purposes” by reference to the case of a company that has not prepared accounts in accordance with generally accepted accounting practice. It is based on paragraph 17A(2), (3) and (4) of Schedule 26 to FA 2002.

1618.This section is particularly relevant to the application of section 595 and the interpretative provision in section 597.

1619.See the commentary on section 595(2) for the relevance of “generally accepted accounting practice”. Unless a company uses international accounting standards for a period, the default meaning of “generally accepted accounting practice” is UK generally accepted accounting practice (see section 50(1) of FA 2004). When this section applies, it therefore uses UK generally accepted accounting practice (as defined in section 50(4) of FA 2004).

Section 600: Contract which is or forms part of financial asset or liability

1620.This section provides that fair value accounting is used in the case of certain contracts for the purposes of the general rule in section 595(2). It is based on paragraph 17A(1A) of Schedule 26 to FA 2002.

1621.The contracts to which this section applies are those that are not treated as a derivative for accounting purposes because they fail the requirement of the relevant accounting standard as regards the initial net investment required by the contract but are nevertheless treated as a financial asset or liability. See the commentary for section 579.

Section 601: Contract relating to holding in OEIC, unit trust or offshore fund

1622.This section applies fair value accounting in determining the credits and debits to be brought into account in respect of a contract that is treated as a derivative contract because of section 587. It is based on paragraph 36(1) and (2A) of Schedule 26 to FA 2002.

1623.Section 587 applies if the underlying subject matter of a contract includes a holding in a collective investment scheme that fails to meet a “qualifying investments” test. Because this section operates by reference to section 587, Change 63 in Annex 1 (reference to a “relevant holding” is to a holding which is the underlying subject matter of the contract rather than a holding of the company which is a party to the contract) applies here as well.

Section 602: Contract becoming one relating to holding in OEIC, unit trust or offshore fund

1624.This section determines the opening valuation of a derivative contract for the purposes of section 601. It is based on paragraph 37(1), (2), (3), and (4) of Schedule 26 to FA 2002.

1625.The accounting period to which this section applies is that in which a relevant contract is treated as a derivative contract because of section 587 if that period immediately follows another in which it was not so treated. The section applies only if the relevant contract was a “chargeable asset” (defined in section 703) at the end of the earlier period.

1626.For the meaning of “market value” for the purposes of corporation tax on chargeable gains, see in particular section 272 of TCGA.

Section 603: Associated transaction treated as derivative contract

1627.This section applies fair value accounting in determining the credits and debits to be brought into account by virtue of section 588 in respect of an “associated transaction” that is treated as a derivative contract because of that section. It is based on section 91B(5) of FA 1996.

1628.For the circumstances in which section 588 applies and for the meaning of “associated transaction”, see the commentary on that section.

1629.Subsection (1) provides that this section must be construed as if it were part of Chapter 7 in Part 6 (shares with guaranteed returns etc). That Chapter rewrites sections 91A to 91G of FA 1996.

Section 604: Credits and debits treated as relating to capital expenditure

1630.This section brings a credit or debit that is treated in the accounts as part of a fixed capital asset or project into account under this Part in the same way as a credit or debit that is brought into account in determining the company’s profit or loss. It is based on paragraph 25 of Schedule 26 to FA 2002.

1631.Generally accepted accounting practice may permit a credit or debit of an income nature to be included in the value of a fixed capital asset or project. If this happens, the credit or debit bypasses the statements mentioned in section 597. This section overrides that treatment, except in the cases mentioned in subsections (3) and (5).

1632.Subsection (5) prevents any debit being taken into account under this Part that writes down the value of the asset or project in question, or creates a reserve for amortisation or depreciation of that asset or project, so far as the write down etc is attributable to a debit brought into account under this section. As this section overrides the accounts treatment of the capitalised debit, this rule in this subsection prevents a double deduction should the asset or project be written down, or a reserve created for its amortisation or depreciation, whether in the same or a later period, if the amount taken to profit and loss is attributable to the amount brought into account under this section.

1633.The source legislation for subsection (5) refers to “so much of any amortisation or depreciation as represents a writing off of the interest component of the asset”. The rule is identical to that in the equivalent rule for loan relationships (section 320(6)). But the “interest component” of the asset refers to something that is dealt with by the loan relationships provisions and has no relevance to the derivative contracts provisions. The emphasised words have therefore not been reproduced in this section. See Change 65 in Annex 1.

Section 605: Credits and debits recognised in equity

1634.This section brings a credit or debit that is recognised in equity or shareholders’ funds, rather than in one of the statements mentioned in section 597(1), into account for the purposes of this Part in the same way as a credit or debit that is brought into account in determining the company’s profit or loss. It is based on paragraph 25A of Schedule 26 to FA 2002.

1635.As in the case of section 604, this section overrides the accounts treatment.

Section 606: Exchange gains and losses

1636.This section provides that exchange gains and losses arising from a derivative contract are included in the profits and losses mentioned in section 595(3). It is based on paragraph 16 of Schedule 26 to FA 2002.

1637.Subsection (1) does not rewrite the words “and related transactions” in paragraph 16(1) of Schedule 26 to FA 2002. They are not considered to add to the effect of this provision.

1638.Subsection (3) excludes exchange gains and losses arising in two circumstances from the basic rule in subsection (1) if those gains and losses are recognised in the company’s “statement of total recognised gains and losses”, “statement of recognised income and expense”, “statement of changes in equity” or “statement of income and retained earnings”. Those terms are defined in section 710 as having the meaning they have for accounting purposes. Some are taken from UK generally accepted accounting practice and the others from international accounting standards, but are otherwise equivalent terms. This subsection is subject to the effect of any regulations made under the power in subsection (5).

1639.The section contains two regulatory powers. The first is in subsection (4). It concerns exchange gains and losses from a derivative contract whose underlying subject matter is wholly or partly currency. Regulations may exclude such gains from the scope of subsection (1). For regulations made under this power, see the Loan Relationships and Derivative Contracts (Disregard and Bringing into Account of Profits and Losses) Regulations 2004 (SI 2004/3256), as amended.

1640.The second is in subsection (5). Regulations may countermand the effect of the rule in subsection (3) or of regulations made under subsection (4). Where the regulations apply, the affected amounts are brought into account under this Part as credits or debits arising from a company’s derivative contracts or for the purposes of corporation tax on chargeable gains. (The Exchange Gains and Losses (Bringing into Account Gains or Losses) Regulations 2002 (SI 2002/1970), as amended, are made partly under the power rewritten in subsection (5). But, as amended by regulation 5 of SI 2005/2013, SI 2002/1970 now has no direct impact on the source legislation for this section.)

1641.The source legislation for this section was repealed by paragraph 9 of Schedule 6 to F(No 2)A 2005, subject to the making of an order for the repeal to have effect. That prospective repeal is preserved by the paragraph “repeal of provisions concerning exchange gains and losses from derivative contracts” in Part 10 of Schedule 2.

Section 607: Pre-contract or abortive expenses

1642.This section adds pre-contract and abortive expenses to the expenses that are taken into account under section 595(3) in determining a company’s profits and losses under this Part. It is based on paragraph 15(5) of Schedule 26 to FA 2002.

Section 608: Company ceasing to be party to derivative contract

1643.This section brings into account amounts recognised in accounts in respect of a derivative contract after the accounting period in which the company ceases to be a party to that contract. It is based on paragraph 53(3), (4), (5) and (6) of Schedule 26 to FA 2002.

1644.The accounting policies of a company may treat part of the profit or loss in respect of a contract as deferred income or loss to be brought into account in accounting periods later than that in which the company ceased to be a party to the contract. This section identifies amounts to be treated as credits and debits in subsequent periods until all the deferred income or loss has been brought into account under this Part.

1645.Subsections (3) to (6) set out how certain conditions in this Part may be treated as satisfied in respect of the former derivative contract. Those are conditions that may need to be satisfied for a particular provision to apply in respect of post-cessation credits or debits. For examples of the conditions to which subsection (3) or (5) may apply, see sections 573 and 690.

1646.Subsection (7) makes clear that the deeming effect of subsections (3) to (6) carries through for any question of what a company’s derivative contracts are or whether a company is a party to a derivative contract (see section 578).

Section 609: Company ceasing to be UK resident

1647.This section and the next apply if a derivative contract moves out of the scope of corporation tax because the company holding it is no longer within the charge to tax in respect of it. This section treats a company as making a deemed disposal and reacquisition of the contract at its fair value immediately before the company ceases to be UK resident. It is based on paragraph 22A(1), (2) and (3) of Schedule 26 to FA 2002.

1648.“Fair value” is defined in section 710.

1649.Subsection (1) provides that the company is treated for the purposes of this Part as reacquiring the derivative contract for the same amount. This deemed value will be taken into account should the derivative contract re-enter the scope of corporation tax because of a further change in the residence status of the company or otherwise.

1650.Subsection (2) has an exception to the general rule. This applies if a company moves abroad but leaves behind such a business operation as amounts to a permanent establishment and that operation includes at least some of the rights and liabilities under the derivative contract. In effect, the contract has not left the scope of corporation tax. (“Permanent establishment” is defined in section 832(1) of ICTA by reference to the meaning provided by section 148 of FA 2003.)

1651.Subsection (3) provides an order of priority if this section would apply in relation to the same circumstances as trigger section 631 or 632. There is an equivalent order of priority in section 333 in Part 5. There is no reason for the two sets of provisions to differ in this respect. This subsection brings the provisions for loan relationships and derivative contracts into line. See Change 66 in Annex 1.

Section 610: Non-UK resident company ceasing to hold derivative contract for UK permanent establishment

1652.This section treats a non-UK resident company as making a deemed disposal and reacquisition of a derivative contract at its fair value if and to the extent that some or all of the rights or liabilities under a contract held or owed for the purposes of a permanent establishment of that company cease to be so held or owed. The section is based on paragraph 22A(1) and (4) of Schedule 26 to FA 2002.

1653.The circumstances in which this section applies include where the contract is now held for the purposes of another part of the company’s business (which is not a permanent establishment) or where the permanent establishment ceases to be such. In those cases the derivative contract has left the scope of corporation tax.

1654.A significant difference between the conditions for the application of this section and those for the preceding section is that this section does not apply if the rights and liabilities under the contract cease to be held or owed for the purposes of the permanent establishment because of a “related transaction” (defined in section 596). That is, it does not apply when the contract ceases to be held because it is disposed of. That disposal is itself an occasion leading to amounts being brought into account under this Part.

1655.Subsection (3) introduces the same priority rule as is introduced in the preceding section. See again Change 66 in Annex 1.

Section 611: Release under statutory insolvency arrangement of liability under derivative contract

1656.This section exempts from the scope of this Part any credit arising on the release of a company’s liability to pay an amount under a derivative contract, if the release is part of a statutory insolvency arrangement. It is based on paragraph 22(5) of Schedule 26 to FA 2002.

1657.A “statutory insolvency arrangement” is defined in section 834(1) of ICTA by reference to the Insolvency Act 1986 and other provisions having a similar effect.

Chapter 4: Further provision about credits and debits to be brought into account

Section 612: Overview of Chapter

1658.This section describes the purpose and content of the Chapter. It is new.

Section 613: Introduction to sections 614 and 615

1659.This section sets out when sections 614 and 615 apply. It is based on paragraph 50A(1) and (1A) of Schedule 26 to FA 2002 and paragraph 7(6) of Schedule 6 to F(No 2)A 2005.

1660.A company may decide to apply a different set of standards to the presentation of the company’s results. Regulatory rules may also require that a company switches to a different set of standards. If there is such a change of accounting policy, the value of the company’s assets and liabilities at the start of the first period of account to which the change applies are restated in accordance with the standards adopted.

1661.This section applies only if the change is from an accounting policy that “accords with the law and practice applicable” in relation to the earlier period to another such policy in relation to the next. The law and practice in question is that provided in particular by the Companies Acts and the Accounting Standards Board (or their equivalents in its country of residence if the company is non-UK resident but within the charge to corporation tax in respect of a derivative contract).

1662.Sections 614 and 615 prescribe the credit or debit to be brought into account on a change of accounting policy, according to whether the value of the company’s assets and liabilities increases or decreases on the change.

1663.Subsection (4) treats a particular situation as a change of accounting policy although there is no change in the actual accounting policy used by the company from one period to the next. International accounting standards and new UK generally accepted accounting practice require a company, in certain circumstances, to divide a loan relationship between rights and liabilities under a loan relationship and rights and liabilities under one or more derivative financial instruments or equity instruments (see section 585(1)).

1664.Section 416 allows a company subject to old UK generally accepted accounting practice (which does not permit it to divide a loan relationship in that way) to elect that a loan relationship is treated as divided as mentioned in section 415(1) (the equivalent for loan relationships of section 585(1)), if division would be permitted under new UK generally accepted accounting practice or international accounting standards. Section 416 applies an election made under it for the purposes of this Part as well as for Part 5.

1665.The result of such an election is a change in accounting policy for the purposes of sections 614 and 615, but only in relation to all the derivative financial instruments or equity instruments in the company’s affected loan relationships. This rule applies from the date the election has effect. Broadly, the election has effect from the beginning of the period of account in which the first loan relationship is acquired to which an election can apply.

Section 614: Change of accounting policy involving change of value

1666.This section treats the increase or decrease in the carrying value of a derivative contract on a change of accounting policy as a credit or debit to be brought into account in the later period. It is based on paragraph 50A(2), (3) and (5) of Schedule 26 to FA 2002.

1667.“Carrying value” is defined in section 702.

1668.Subsection (3) makes an exception to the general rule in so far as a credit or debit arising from the change of accounting policy is brought into account for the purposes of this Part under another provision. For example, a prior period adjustment brought into account under section 597(2) would be excepted from the general rule in this section.

Section 615: Change of accounting policy after ceasing to be party to derivative contract

1669.This section requires a credit or debit to be brought into account, similarly to section 614, in a case where section 608(2) applies. It is based on paragraph 50A(3C), (3D) and (5) of Schedule 26 to FA 2002.

1670.Section 608 applies if profits and losses arising to a company from a derivative contract for the accounting period in which the company ceases to be a party to the contract are not wholly reflected in credits and debits brought into account under this Part for that period. In effect, it is a “post-cessation receipts” provision.

1671.Because the derivative contract from which the income or loss derived is either no longer in existence or no longer held by the company, section 613 cannot apply in this case. Section 615 deals with the amount by which the value of the residual deferred income or loss in respect of the former contract alters as a result of the change of accounting policy affecting a subsequent period.

1672.Subsection (4) corresponds to the rule in section 614(3).

1673.Subsection (6) corrects a minor error in the source legislation. Paragraph 50A(3D) of Schedule 26 to FA 2002, in defining the “amount outstanding”, refers to an amount recognised “in respect of the profits, gains or losses that arose from that relationship or a related transaction in the cessation period (within the meaning of section 103(6))”. The words with emphasis are of course appropriate to the loan relationships provisions and not to those for derivative contracts. They reflect the wording of paragraph 19A(4C) and (4D) of Schedule 9 to FA 1996 (rewritten as section 318 in Part 5), on which paragraph 50A(3C) and (3D) of Schedule 26 to FA 2002 was modelled. More appropriate wording has been substituted.

Section 616: Disapplication of fair value accounting

1674.This section reverses the effect of sections 584 and 586 if certain conditions are met by reference to an embedded derivative identified by either of those sections. It is based on paragraphs 45L(1), (1A), (1B), (1C), (2) and (3) of Schedule 26 to FA 2002.

1675.Because the contract out of which the embedded derivative arose is treated as one that is not split in accordance with section 584 or 586, the section disapplies sections 573 and 574 to that derivative.

1676.It also sets aside fair value accounting as an accounting basis in calculating profits and losses on the contract in question. For contracts to which this section applies, splitting of the contract under section 584 or 586, or the use of fair value accounting, may produce unacceptably volatile results for tax purposes.

1677.The section does not apply to an embedded derivative within section 584 that comes within section 592 (so that it may meet the “excluded property” conditions in section 589). Nor does it apply if regulation 9 of the Disregard Regulations applies (SI 2004/3256, as amended). That regulation prescribes credits and debits, in the case of derivative contracts that are interest rate contracts, for the purposes of paragraph 17B of Schedule 26 to FA 2002 (rewritten in section 597).

1678.Nor does the section apply if an election is made under section 617 for this section not to apply. A company may choose to make such an election if it prefers to retain fair value accounting for contracts within section 584 or 586.

1679.Subsection (3) treats the relevant contract that was divided under section 584 as not so divided. It is therefore treated as a single derivative contract for the purposes of this Part. But again the contract is treated as one to which fair value accounting does not apply.

1680.Subsections (4) and (5) treat the contract that was divided under section 586 as not so divided. The contract is therefore outside the scope of this Part. It is dealt with for tax purposes according to what sort of contract it is. Subsection (5) also provides that section 46 in Part 3 of this Act (calculation of trade profits in accordance with generally accepted accounting practice) applies as if fair value accounting was not generally accepted accounting practice for that company.

1681.Subsections (3) and (4) apply to the “original contract” (defined in subsection (7)) rather than (as in the source legislation) the “contract” to avoid confusion with the relevant contract referred to in subsection (1)(a).

Section 617: Election for section 616 not to apply

1682.This section allows a company to elect that section 616 does not apply to its contracts. It is based on paragraph 45L(2A), (2B) and (2C) of Schedule 26 to FA 2002.

1683.For some companies the benefit afforded by section 616 may be disproportionate to the administrative and accounting burden of distinguishing and tracking affected contracts. Or the degree of volatility in the tax consequences of splitting the contract or using fair value accounting may be acceptable to the company holding the contract.

1684.An election under this section applies to all of a company’s contracts. Section 618 contains further provisions modifying or extending the effect of an election made by a member of a group of companies.

1685.Subsection (2) excludes two types of contract from an election. They are, first, a “contract of long-term insurance” (defined in section 431(2) of ICTA) and, second, a contract where the embedded derivative identified by section 584 or 586 has commodities as its underlying subject matter.

1686.Subsection (2)(b) says “embedded derivative” rather than “embedded derivative contract”. The Finance Act 2002, Schedule 26, (Parts 2 and 9) (Amendment) Order 2006, SI 2006/3269 omitted the definition of “embedded derivative contract” from the source legislation. But the use of the term in paragraph 45L(2A) of Schedule 26 to FA 2002 was missed. “Embedded derivative” matches the amendments introduced in this respect by that Order. See in particular sections 584 and 586.

1687.Unlike the source legislation, the section does not specify how the election must be made. See Change 1 in Annex 1.

Section 618: Elections under section 617: groups of companies

1688.This section applies or disapplies the effect of an election under section 617 in a number of cases where a party to a contract is a member of a group of companies. It is based on paragraph 45LA of Schedule 26 to FA 2002.

1689.In the first case, subsection (1) treats the group member who is a counterparty to a contract to which a fellow group member is a party as having made an election in relation to that contract if that fellow group member has made an election. This rule ensures parity of treatment of the contract within the group.

1690.In the second case, subsection (2) provides that a group member to whom a fellow group member has transferred a contract is treated as having made an election in relation to that contract if the fellow group member makes an election. This rule applies even if that fellow group member makes the election at a time after the transfer has been made or at a time when the companies are no longer members of the same group. This rule ensures that a company cannot exclude some of its contracts from the effect of an election by first transferring them to another group member.

1691.The reference in subsection (2) to a contract “to which section 584… or section 586… applies” corrects a missed consequential amendment to paragraph 45LA(3)(b) of Schedule 26 to FA 2002. The reference there to “paragraph 2(3)” is otiose following the replacement of that provision by paragraph 2(2A) of Schedule 26 to FA 2002 (by article 3 of the Finance Act 2002, Schedule 26, (Parts 2 and 9) (Amendment) Order 2006, SI 2006/3269) and the insertion of paragraphs 2A and 2B of Schedule 26 to FA 2002 (by article 4 of that Order). Sections 584 and 586 apply to the types of contract to which paragraph 2(3) of Schedule 26 to FA 2002 applied.

1692.The third case is if:

B becomes a party in place of A to a relevant contract treated as such by section 584 or 586, at a time when they are members of the same group;
that contract was within section 616 in A’s hands (that is, A had not made an election); and
B’s other contracts are outside section 616 by virtue of an election B has made (whether an election made before B has succeeded A as a party to the contract or one made later).

1693.Subsection (4) ring-fences the contract in question, so that any existing or later election by B is ineffective in relation to that contract. This rule ensures that a contract cannot be selected for preferential treatment under another group member’s election if the member who is the original party to the contract does not otherwise wish to make an election. This rule is however disapplied if A makes an election in respect of its contracts subsequent to B becoming a party to the contract in place of A.

Section 619: Partnerships involving companies

1694.This section and the next two set out how a company partner brings into account credits and debits in respect of its share of a firm’s derivative contracts. This section provides that each company partner, not the firm, brings credits and debits into account in calculating its profits chargeable to tax. It is based on paragraph 49(1) and (2) of Schedule 26 to FA 2002.

1695.Paragraph (c) in subsection (1) requires that the firm is a party to a contract that “is a derivative contract or would be a derivative contract if the firm were a company”. A firm is not a company. So a contract held by a firm would not meet any test under which a contract is or is treated as a derivative contract because it is held by a company.

1696.Subsection (2) switches off the normal rule in section 1259 (which rewrites section 114(1) of ICTA) under which the profits of the firm’s trade etc are calculated, in accordance with the partners’ interests in the firm, as if the firm were a company.

Section 620: Determination of credits and debits by company partners

1697.This section determines the credits and debits to be brought into account under section 619(3) by each company partner in a firm. It is based on paragraph 49(3), (4), (5) and (6) of Schedule 26 to FA 2002.

1698.Subsections (2) to (4) attribute the actions of the firm to the partner for the purposes of applying the rules that determine the credits and debits to be brought into account in accordance with this Part.

1699.“Profit-sharing arrangements”, in relation to a partnership, is defined in section 710. A firm’s “profit-sharing arrangements” are described in section 1262, in the sections rewriting section 114 of ICTA, as “the rights of the partners to share in the profits of the trade and the liabilities of the partners to share in the losses of the trade”.

Section 621: Company partners using fair value accounting

1700.This section applies fair value accounting, in determining under section 620 the company partner’s share of the credits and debits arising in respect of the firm’s derivative contracts, if that company partner uses fair value accounting in relation to its interest in the firm. It is based on paragraph 50 of Schedule 26 to FA 2002.

Section 622: Contracts ceasing to be derivative contracts

1701.This section provides that, if a relevant contract to which the company continues to be a party ceases to be a derivative contract, there is a deemed disposal of the contract at the time of that cessation. It is based on paragraphs 43A(5) and 43B of Schedule 26 to FA 2002.

1702.Subsection (2) deems the company to have disposed of the contract in a “related transaction” (defined in section 596) for consideration equal to the “notional carrying value” of the contract at the time it ceases to be a derivative contract. Depending on the amount of the consideration attributed to that disposal under this subsection, a credit or debit arises to be brought into account under this Part. That credit or debit is additional to any other credit or debit that arises in relation to the contract, while it was a derivative contract, for the accounting period in which the deemed disposal occurs. “Carrying value” is defined in section 702.

1703.The source legislation for subsection (4) refers to the amount that would have been the carrying value of the contract in the accounts of the company “if an accounting period had ended immediately before that time”. The source legislation for the equivalent definition in section 625(6), paragraph 28(3) of Schedule 26 to FA 2002, refers to the value found “if a period of account had ended immediately before” the requisite time. But, if a period of account comes to an end, that is the end of an accounting period under section 10. The two definitions have been brought into line using “period of account”.

1704.After the contract ceases to be a derivative contract, it is likely to be a chargeable asset for the purposes of corporation tax on chargeable gains. Subsection (5) therefore signposts section 662 which prescribes the acquisition cost of the contract for that purpose.

Section 623: Index-linked gilt-edged securities with embedded contracts for differences

1705.This section provides that credits and debits arising in respect of an embedded derivative in an index-linked gilt-edged security are not brought into account under this Part if conditions are met. It is based on paragraphs 12(1), (11A) and (11B) and 45I of Schedule 26 to FA 2002.

1706.If the embedded derivative is closely related to the host contract, generally accepted accounting practice does not in fact require the company to divide the security as mentioned in section 585. In that case, sections 399 and 400 in Part 5 (loan relationships) apply. But, for example, a company whose functional currency is not sterling may be required to divide its index-linked securities between an embedded derivative and a host contract, in which case this section may apply.

Chapter 5: Continuity of treatment on transfers within groups

Section 624: Introduction to Chapter

1707.This section describes the purpose of the Chapter. Subsection (3) is based on paragraph 28(6) of Schedule 26 to FA 2002 but otherwise the section is new.

Section 625: Group member replacing another as party to derivative contract

1708.This section and the next three deal with the case where one member of a group of companies replaces another as a party to a derivative contract as the result of a related transaction or similar transactions. This section determines the credits and debits to be brought into account by the transferor company and the transferee company. It is based on paragraph 28(1), (3), (3ZA), (3A) and (7) of Schedule 26 to FA 2002.

1709.“Notional carrying value” is defined in subsection (6) on the model of the similar definition in section 622(4). “Carrying value” is defined in section 702.

1710.Should any “discount” arise in respect of the related transaction or the equivalent series of transactions, it is added to the amount treated as consideration by the transferor under subsection (3) (but not to the amount treated as consideration given by the transferee under subsection (4)).

1711.“Discount” is defined in subsection (6) by reference to section 480 in Part 5 (loan relationships). A discount arises if payment of part of the consideration for a disposal is deferred and the consideration is accordingly increased to recognise the delay.

1712.Subsection (7) disapplies Schedule 28AA to ICTA in a case where credits and debits are determined under subsection (2). Schedule 28AA to ICTA might otherwise substitute market value for the amounts agreed between the parties, which amounts would give rise to credits and debits for the purposes of this Part. Such a substitution is unnecessary given that this section requires both parties to use the notional carrying value of the contract rather than amounts shown in the accounts (the amounts “recognised for accounting purposes”).

Section 626: Transactions to which section 625 applies

1713.This section defines the related transaction or series of transactions which acts or act as a trigger for the application of section 625. It is based on paragraph 28(2) of Schedule 26 to FA 2002.

Section 627: Meaning of company replacing another as party to derivative contract

1714.This section gives a particular example of what the reference in section 625(1) to one company replacing another as a party to a derivative contract means. It is based on paragraph 28(4) of Schedule 26 to FA 2002.

1715.The commonest way in which one company may replace another as a party to a derivative contract is by the assignment of the rights and liabilities under the contract. But there may be other types of transaction that have the same effect.

1716.This section ensures that, if the company referred to as the transferee in section 625 becomes a party to a contract whose rights and liabilities are equivalent to those of the contract to which the company referred to as the transferor in that section has ceased to be a party, the transferee is treated as having replaced the transferor in respect of the derivative contract. A novation is an example of this.

1717.This section still applies in the event of the transferor again becoming a party to the original contract (that is, a contract to which it had previously ceased to be a party).

Section 628: Transferor using fair value accounting

1718.This section substitutes rules based on fair value accounting for those in section 625, in a case to which that section applies, if the transferor uses fair value accounting in respect of the derivative contract in question. It is based on paragraph 30 of Schedule 26 to FA 2002.

1719.As regards the transferee, this section treats it as having acquired the derivative contract at the fair value of the contract as at the time of the transfer for the purposes of determining the credits and debits brought into account under this Part, regardless of whether it itself uses fair value accounting as respects the contract. This treatment continues to apply for any accounting period in which the transferee is a party to the contract.

1720.As in section 625, any “discount” is added to the amount treated as consideration by the transferor (only).

Section 629: Tax avoidance

1721.This section disapplies section 625 in two cases where avoidance of tax is involved. It is based on paragraph 28(3ZB), (3ZC) and (3ZD) of Schedule 26 to FA 2002.

1722.The first case (subsection (1)) is if the transferor is a party to arrangements for tax avoidance purposes under which the derivative contract will be transferred on by the transferee. The second case (subsection (4)) is if another provision countering tax avoidance (section 698) applies to a disposal which would otherwise be within section 625.

Section 630: Introduction to sections 631 and 632

1723.This section and the next two provide for a deemed assignment of the derivative contract in question if a transferee within section 625 ceases to be a member of the group of companies mentioned in section 626(2) or (3). This section sets out when sections 631 and 632 apply and defines terms used in this and those sections. It is based on paragraph 30A(1), (5A) and (8) of Schedule 26 to FA 2002.

1724.If section 625 applies because of a series of transactions within section 626(3), the relevant time limit in respect of the transferee leaving the relevant group of companies before the end of a six year period begins with the last of the transactions in the series of transactions. This contrasts with the rule in section 625(3) which determines the consideration to be brought into account by the transferor by reference to the first transaction in the series.

1725.The rules in these sections take priority if the rules in section 609 or 610 would apply in the same circumstances (see the commentary on those sections).

Section 631: Transferee leaving group otherwise than because of exempt distribution

1726.This section deems the transferee within section 625 to have assigned (and immediately reacquired) the rights and liabilities under the derivative contract, immediately before it left the group, for a consideration equal to their fair value at that time. It is based on paragraph 30A(2), (3), (4), (5) and (8) of Schedule 26 to FA 2002.

1727.One of the conditions for this section to apply is that the company ceases to be a member of the group of companies in question for reasons which are not just that it does so because of an “exempt distribution” under section 213(2) of ICTA. That section provides for a distribution arising from the demerger of the trading activities of a single company or group of companies to a number of companies or groups to be disregarded for certain purposes.

1728.The second condition is that a credit would be brought into account under either this Part (condition A in subsection (3)) or Part 5 (loan relationships) (condition B in subsection (4)). The credit in question, as regards this Part, is the credit that would be brought into account under this Part on the deemed assignment under this section of the rights and liabilities under the derivative contract.

1729.As regards Part 5, the credit in question is the credit brought into account under that Part because of section 345(2)(a) and (b) in a case where the transferee has a “hedging relationship” between the derivative contract and a creditor relationship That section makes matching provision for loan relationships to that made by this section for derivative contracts.

1730.In either case, the second condition is not satisfied if the assignment would give rise to a debit. So the section cannot give rise to a reduction of the transferee’s liability to corporation tax.

1731.“Hedging relationship” is described in section 707 in a number of ways. Broadly, these relate to cases where the derivative contract is entered into to shelter the company from risks associated with holding or owing the hedged asset or liability (such as a fluctuation in values because of movement in a relevant market, such as a stock or commodities exchange).

Section 632: Transferee leaving group because of exempt distribution

1732.This section deems the transferee within section 625 to have assigned (and immediately reacquired) the rights and liabilities under the derivative contract at the time a “chargeable payment” is made, for a consideration equal to the fair value of the rights and liabilities at the time of that payment, if it left the group solely because of an exempt distribution. It is based on paragraph 30A(3), (4), (5), (6), (7) and (8) of Schedule 26 to FA 2002.

1733.A “chargeable payment” is broadly a payment made in connection with tax avoidance or otherwise than for genuine commercial reasons.

1734.Conditions A and B, in subsections (3) and (4), are the same as the conditions in section 631(3) and (4). See the commentary on that section.

Chapter 6: Special kinds of company

Overview

1735.This Chapter contains rules that modify the application of this Part to mutual trading companies or insurance companies. The Chapter does not rewrite paragraph 41 of Schedule 26 to FA 2002 as it is merely introductory.

Section 633: Mutual trading companies

1736.This section treats the activities of a mutual trading company as not being those of a trade. It is based on paragraph 43 of Schedule 26 to FA 2002.

1737.Because of this section, any credits and debits arising to a mutual trading company do not fall within section 573 (trading credits and debits to be brought into account under Part 3). And any provision that operates in part by reference to whether the company is a party to a contract for the purposes of a trade (or a type of business which constitutes a trade) does not apply to a mutual trading company in that respect.

Section 634: Insurance companies

1738.This section treats certain activities of an insurance company as not being those of a trade. It is based on paragraphs 41A and 43 of Schedule 26 to FA 2002.

1739.This section has the same effect, in relation to the activities specified in paragraphs (a) and (b), as the preceding section has for mutual trading companies.

1740.For the meaning of “life assurance business” and “basic life assurance and general annuity business”, see section 431(2) of ICTA.

Section 635: Creditor relationships: embedded derivatives which are options

1741.This section requires a life assurance company to treat a creditor relationship as mentioned in section 585(1) despite the fact that it accounts for that relationship at fair value through profit and loss. It is based on paragraph 45D(3A) of Schedule 26 to FA 2002.

1742.Under generally accepted accounting practice, a company that accounts for a creditor relationship at fair value through profit and loss would not divide the relationship between embedded derivatives and the remaining rights that are a loan relationship. This section overrules that accounting rule for the purposes of both this Part and Part 5 (loan relationships).

Section 636: Modifications of Chapter 5

1743.This section makes modifications of Chapter 5 (continuity of treatment on transfers within groups) in respect of insurance companies. It is based on paragraphs 28(1) and (2) and 29 of Schedule 26 to FA 2002.

1744.Section 625 deals with the case where one member of a group of companies replaces another as a party to a derivative contract as the result of a related transaction or similar transactions. It determines the credits and debits to be brought into account by the transferor company and the transferee company by treating both as using the same consideration in relation to that transaction or transactions.

1745.This section first adds two further cases to the list in section 626 of transactions that trigger the operation of section 625. They are cases involving the transfer of classes of insurance business between two companies where the transfer does not already fall within section 625.

1746.Subsection (4) then disapplies section 625, in respect of a triggering transaction falling within the original categories listed in section 626, in relation to the transfer of derivative contracts moving into or out of a company’s long-term insurance fund.

1747.Subsection (5) disapplies section 625 in respect of a triggering transaction falling within the categories treated as added to section 626 by subsection (3), if derivative contracts are in one of the categories set out in section 440(4) of ICTA before the transfer and in a different category after the transfer.

1748.For the meaning of “contract of long-term insurance”, “insurance business transfer scheme”, “qualifying overseas transfer” and “overseas life insurance company”, see section 431(2) of ICTA (as modified, in relation to the meaning of “qualifying overseas transfer”, by regulation 6(5) of the Overseas Life Insurance Companies Regulations 2006 (SI 2006/3271)). Because the meaning of “overseas life insurance company” is provided by that section “for the interpretation of the life assurance provisions of the Corporation Tax Acts” (and this section is such a provision), it is unnecessary to rewrite paragraph 29(4) of Schedule 26 to FA 2002.

Section 637: Investment trusts: profits or losses of a capital nature

1749.This section and the next except certain capital profits and losses of an investment trust or venture capital trust from the scope of this Part so that credits and debits in respect of such profits or losses do not fall within section 595. This section deals with investment trusts. It is based on paragraph 38 of Schedule 26 to FA 2002 and articles 2 and 3 of The Investment Trusts and Venture Capital Trusts (Definition of Capital Profits, Gains or Losses) Order 2006 (SI 2006/1182).

1750.Subsection (1) refers to “profits or losses” rather than “profits, gains and losses” as in the source legislation. But there is no difference in the meaning of the two phrases in the context of an investment trust’s transactions of a capital nature.

1751.Subsection (2) uses the meaning of profits or losses of a capital nature given by SI 2006/1182 for both trusts using UK generally accepted accounting practice and those using international accounting standards. It does not rewrite the meaning given in paragraph 38(3) of Schedule 26 to FA 2002 as the relevant Statement of Recommended Practice uses terms from international accounting standards (and accordingly does not rewrite the part of paragraph 38(2)(a) of that Schedule which refers to that meaning).

1752.Subsection (4) contains powers for the amendment by Treasury order of the meaning of “profits or losses of a capital nature” in this section. This rewrites the powers in paragraph 38(2) of Schedule 26 to FA 2002 used to make the order in SI 2006/1182 applying to investment trusts and venture capital trusts that use international accounting standards.

1753.There were similar rules in relation to “capital profits, gains and losses” of authorised unit trusts and open-ended investment companies in paragraphs 32 and 33 of Schedule 26 to FA 2002 with regulatory powers in paragraph 34 of that Schedule. The first two of those paragraphs were omitted by F(No 2)A 2005. Paragraph 34 of that Schedule is now omitted and not rewritten as it is redundant.

1754.Schedule 1 to this Act inserts section 842(2D) and (2E) of ICTA (investment trusts: net excess of relevant credits over relevant credits under this Part treated as income derived from shares or securities for the purposes of approval of a company under that section, so far as the credits and debits are brought into account under section 574). This insertion is based on paragraph 39 of Schedule 26 to FA 2002.

Section 638: Venture capital trusts: profits or losses of a capital nature

1755.This section excepts certain capital profits and losses of a venture capital trust from the scope of this Part. It is based on paragraph 38A of Schedule 26 to FA 2002 and articles 2 and 3 of the Investment Trusts and Venture Capital Trusts (Definition of Capital Profits, Gains or Losses) Order 2006 (SI 2006/1182).

1756.This section has the same effect for venture capital trusts as section 637 has for investment trusts. See the commentary on that section.

1757.This section does not rewrite paragraph 38A(2)(a)(part) and (3) of Schedule 26 to FA 2002 for the same reasons as those mentioned in the commentary on section 637 in relation to not rewriting paragraph 38(3) of Schedule 26 to FA 2002.

Chapter 7: Chargeable gains arising in relation to derivative contracts

Overview

1758.This Chapter sets out when profits and losses in relation to derivative contracts are dealt with as chargeable gains or allowable losses for the purposes of the charge to corporation tax on chargeable gains rather than being taken into account as income under Part 3 (trading income) or Part 5 (loan relationships).

Section 639: Overview of Chapter

1759.This section gives an overview of the contents of the Chapter. It is new.

1760.Sections 640 and 651 switch off respectively section 574 and both that section and section 573, under which credits and debits are brought into account as income, so that the credits and debits in question may be used instead to give rise to chargeable gains or allowable losses.

1761.Section 641 (to which there are exceptions in section 642) brings credits and debits on four types of derivative contract into account as chargeable gains or allowable losses. The four types are:

derivative contracts relating to land and certain tangible movable property (section 643, with a supplementary rule in section 644);
embedded derivatives in a creditor relationship that are options (section 645, to which there are exceptions in section 646);
embedded derivatives in a creditor relationship that are exactly tracking contracts for differences (section 648); and
property based total return swaps (section 650).

1762.The remaining provisions of the Chapter (other than various interpretative sections) provide bespoke chargeable gains rules for a number of cases:

embedded derivatives in a debtor relationship that are options (the affected derivative contract is defined in section 652 and the rules that apply are set out in sections 653 to 655); and
embedded derivatives in a debtor relationship that are contracts for differences (the affected derivative contract is defined in section 656 and the rules that apply are set out in section 658).

1763.Chapter 8 contains further rules for a miscellany of situations in which chargeable gains rules are applied or modified.

Section 640: Credits and debits not to be brought into account under Part 5

1764.This section disapplies section 574 to “relevant credits and debits” in respect of a derivative contract to which one of the provisions listed in subsection (2) applies. It is based on paragraph 45A(1) and (2) of Schedule 26 to FA 2002.

Section 641: Derivative contracts to be taxed on a chargeable gains basis

1765.This section treats a chargeable gain or allowable loss as arising in respect of a contract to which one of the provisions listed in subsection (2) applies. It is based on paragraph 45A(1), (4) and (5) of Schedule 26 to FA 2002.

1766.Whether there is such a gain or loss depends on whether the relevant credits arising in respect of the contract exceed such relevant debits or those debits exceed those credits.

Section 642: Exception from section 641

1767.This section provides an exception to the general rule in section 641 for a contract to which section 645 (embedded derivatives in a creditor relationship that are options) applies if a condition is met. It is based on paragraph 45A(4) and (6) of Schedule 26 to FA 2002.

1768.The condition is that paragraph 2 of Schedule 7AC to TCGA would apply to a gain arising on the disposal of the option represented by the rights and liabilities under the embedded derivative. Schedule 7AC to TCGA provides exemptions from the charge to corporation tax on chargeable gains for disposals of a company’s substantial shareholdings in another company. Paragraph 2 of that Schedule extends the exemption to most disposals of assets relating to shares if a disposal of the shares themselves would qualify for exemption.

1769.The condition applies on the assumptions given in subsection (2), which deem the embedded derivative to be a separate contract that is an option which is disposed of at the end of the accounting period in question and the disposal results in a gain.

Section 643: Contracts relating to land or certain tangible movable property

1770.This section sets out the type of derivative contract it applies to (so that section 641 may then apply to credits and debits in respect of the contract). It is based on paragraph 45C(1) and (4) of Schedule 26 to FA 2002.

1771.As with a number of similar sections in this Chapter which define the derivative contracts to which they apply, condition B in subsection (3) is that the company does not hold the derivative contract for the purposes of a trade it carries on. This subsection does not rewrite the disapplication of the condition to life assurance and mutual trading companies that is provided by paragraph 45C(2) of Schedule 26 to FA 2002. That disapplication is obsolete by virtue of the rules in sections 633 and 634.

1772.Condition C, in subsection (4), an equally common element in such sections, is that the company in question is not an “excluded body”. That term is defined in section 706 for the purposes of this Part and refers to various types of collective investment scheme.

1773.Condition A, in subsection (2), is the distinguishing characteristic of this type of derivative contract. The underlying subject matter of the contract is either or both of land and certain tangible movable property. Subsection (5) contains a signpost to an additional rule in section 644 that modifies what the underlying subject matter of the contract is taken to consist of.

Section 644: Income to be left out of account in determining whether section 643 applies

1774.This section provides for underlying subject matter that is income from property of the type or types mentioned in condition A in section 643 to be disregarded in determining whether that condition is met. It is based on paragraph 45C(5) and (6) of Schedule 26 to FA 2002.

1775.This section is substantially similar to section 590, which performs the same function in relation to the definition of “excluded property” in section 589.

Section 645: Creditor relationships: embedded derivatives which are options

1776.This section sets out the type of derivative contract it applies to (so that section 641 may then apply to credits and debits in respect of the contract). It also disapplies a chargeable gains provision in TCGA. It is based on paragraphs 12(1) and (11A) and 45D(1), (2), (3), (8) and (9) of Schedule 26 to FA 2002.

1777.Condition C in subsection (4) sets out the main distinguishing characteristic of the type of derivative contract to which this section applies. It is that the underlying subject matter of the contract is “qualifying ordinary shares” (broadly, fully participating shares in a listed company, holding company or trading company) or “mandatorily convertible preference shares” (shares that have to be converted into qualifying ordinary shares within 24 hours of acquisition).

1778.Subsection (7) provides that the creditor relationship, by virtue of which there is a deemed derivative contract to which this section applies, is itself not treated as a “qualifying corporate bond” although section 117(A1) of TCGA would otherwise treat it as such. That section defines a qualifying corporate bond as “any asset representing a loan relationship of a company”. This subsection effectively switches off for the creditor relationship those provisions in TCGA or elsewhere that apply to qualifying corporate bonds.

1779.Condition D, in subsection (5), does not rewrite the disapplication of the condition to life assurance and mutual trading companies that is provided by paragraph 45D(3) of Schedule 26 to FA 2002. That disapplication is obsolete by virtue of the rules in sections 633 and 634.

1780.See also Part 10 of Schedule 2 which disapplies this section and applies other rules if the asset representing the creditor relationship is an asset in relation to which paragraph 9(2) of Schedule 10 to FA 2004 has effect.

Section 646: Exclusions from section 645

1781.This section makes two exclusions from the scope of section 645. It is based on paragraph 45E(1), (3) and (4) and 12(11C) of Schedule 26 to FA 2002.

1782.The exclusions apply in circumstances where the holder is not sharing in the equity risk that is a part of the creditor relationship in which the derivative contract is an embedded derivative. The circumstances are where the holder of the deemed derivative contract may get a predetermined cash amount (condition A) or where cash payable instead of the shares differs significantly from the value of the shares (condition B).

Section 647: Meaning of certain expressions in section 645

1783.This section provides definitions of “mandatorily convertible preference shares” and “qualifying ordinary shares” for the purposes of section 645 and contains signposts to other relevant definitions. It is based on paragraph 45D(4), (5), (6) and (7) of Schedule 26 to FA 2002.

1784.“Shares” is defined in section 710. “Recognised stock exchange”, in condition B of the definition of “qualifying ordinary shares”, has the meaning given by section 841 of ICTA.

Section 648: Creditor relationships: embedded derivatives which are exactly tracking contracts for differences

1785.This section sets out the type of derivative contract it applies to (so that section 641 may then apply to credits and debits in respect of the contract). It also disapplies a chargeable gains provision in TCGA. It is based on paragraphs 12(1) and (11A) and 45F(1), (2), and (8) of Schedule 26 to FA 2002.

1786.Condition C, in subsection (4), and condition D, in subsection (5), set out the distinguishing characteristics of this type of derivative contract. They are that the underlying subject matter of the contract is qualifying ordinary shares listed on a recognised stock exchange and that the derivative contract is an “exactly tracking contract”.

1787.“Exactly tracking contract” is defined in section 649(2) by reference to a formula. Such a contract is one under which the amount to be paid to discharge the rights and liabilities under the contract varies according to a percentage figure applied to the cost of the asset representing the creditor relationship when that asset comes into existence. The percentage figure is equal to the movement in the value of the assets (that is, the listed shares) which are the underlying subject matter of the contract (or an index of that value). The period over which the movement in the value of the assets is tracked is the period from when the asset representing the creditor relationship came into existence to the date the corresponding debtor relationship comes to an end. (Paragraph (b) of section 649(3) provides a minor amount of leeway in measuring that period for the case where a valuation date in respect of the assets in question is not exactly coterminous with either the beginning or end of the period.) In such a case, the discharge amount tracks the value of those assets exactly.

1788.Condition E, in subsection (6), does not rewrite the disapplication of the condition to life assurance and mutual trading companies that is provided by paragraph 45F(3) of Schedule 26 to FA 2002. That disapplication is obsolete by virtue of the rules in sections 633 and 634.

1789.Subsection (8) provides that that creditor relationship is itself not treated as a “qualifying corporate bond” although section 117(A1) of TCGA would otherwise treat it as such. See the commentary on the similar provision in section 645(7).

1790.Subsection (9) contains a signpost to section 672, which modifies the rules for acquisition costs in section 38 of TCGA if the asset representing the creditor relationship mentioned in this section is disposed of.

1791.See also Part 10 of Schedule 2 which disapplies this section and applies other rules if the asset representing the creditor relationship is an asset in relation to which paragraph 11(2) of Schedule 10 to FA 2004 has effect.

Section 649: Meaning of certain expressions in section 648

1792.This section provides definitions for the interpretation of section 648. It is based on paragraph 45F(4), (5), (6) and (7) and 12(11C) of Schedule 26 to FA 2002.

1793.See the commentary on section 648 in relation to the meaning of “exactly tracking contract”.

1794.“Shares” is defined in section 710.

Section 650: Property based total return swaps

1795.This section sets out the type of derivative contract it applies to (so that section 641 may then apply to credits and debits in respect of the contract). It is based on paragraph 45G(1) and (1A) of Schedule 26 to FA 2002.

1796.Conditions A to D, in subsections (2) to (5), set out the distinguishing characteristics of this type of derivative contract. It is, first, a contract for differences whose underlying subject matter includes interest rates (in addition to other underlying subject matter). Second, one or more indices are specified in the contract including an index of changes in the value of land (a “capital value index”).

1797.Condition E, in subsection (6), does not rewrite the disapplication of the condition to life assurance and mutual trading companies that is provided by paragraph 45G(1B) of Schedule 26 to FA 2002. That disapplication is obsolete by virtue of the rules in sections 633 and 634.

1798.By virtue of the special meaning of “relevant debits and credits” in this section, provided by section 659(3), only part of the credits and debits found under section 595 is brought into account under section 641 as a chargeable gain or allowable loss.

Section 651: Credits and debits not to be brought into account under Part 3 or Part 5

1799.This section disapplies section 573 to “relevant credits and debits” from a derivative contract to which one of the provisions listed in subsection (2) applies. It is based on paragraphs 45J(3) and 45K(3) of Schedule 26 to FA 2002.

Section 652: Introduction to sections 653 to 655

1800.This section sets out the type of derivative contract it applies to (so that section 653, 654 or 655 may then apply in respect of the contract). It is based on paragraphs 12(1) and (11A) and 45J(1), (2), and (10) of Schedule 26 to FA 2002.

1801.It applies to a derivative contract that comprises the rights and liabilities treated by section 585 as a relevant contract, because of a debtor relationship of the company, if that relevant contract is also treated as an option by that section. For the purposes of this section, the definition of “option” in section 580 is shorn of its usual limiting conditions (that a cash-settled option is not an option).

1802.The paragraph “issuers of securities with embedded derivatives: deemed options” in Part 10 of Schedule 2 disapplies the rules in sections 653 and 655, and modifies the application of the rule in section 654 if the company was a party to the debtor relationship before its first accounting period to begin on or after 1 January 2005.

1803.For other rules that apply if a company is a party to an embedded derivative because of a debtor relationship of the company and the embedded derivative is treated as an option, see sections 665 and 666 in Chapter 8. They apply if the embedded derivative is an equity instrument and the company pays an amount to the creditor in the loan relationship in discharge of obligations under the relationship.

Section 653: Shares issued or transferred as a result of exercise of deemed option

1804.This section determines for the purposes of section 144(2) of TCGA the value of the consideration given for the option represented by the derivative contract within section 652 if shares are issued or transferred as a result of the exercise of the option. It is based on paragraph 45J(3), (4A) and (5) of Schedule 26 to FA 2002.

1805.Section 144(2) of TCGA treats the grant of an option and the transaction under which the grantor fulfils the obligation under the option as a single transaction. The consideration for the option is regarded as part of the consideration for the sale. This section determines the amount of the consideration for the grant of the option for the purposes of that section. It does so by reference to the carrying value of the option at the time the company became a party to the relevant debtor relationship. “Carrying value” is defined in section 702.

1806.The source legislation for this rule, paragraph 45J(5)(a) of Schedule 26 to FA 2002, refers to “the amount treated in accordance with section 94A(2) of the Finance Act 1996 as the carrying value of the option”. That section makes no direct reference to the carrying value of any item. But paragraph 50A(3B) of Schedule 26 to FA 2002 refers to that section in the course of setting out what the carrying value of a contract is. That reference is rewritten in section 702, but in terms of section 585. It would be superfluous to add any such reference to the present section, so the words “in accordance with section 94A(2) of the Finance Act 1996” have not been rewritten here.

Section 654: Payment instead of disposal on exercise of deemed option

1807.This section provides for a chargeable gain or allowable loss in the same circumstances as those applying in section 653, except that an amount is paid in fulfilment of the company’s obligations under the debtor relationship (and there is no issue or transfer of shares). It is based on paragraphs 12(1) and (11B) and 45J(3), (6), (7), (8) and (9B) of Schedule 26 to FA 2002.

1808.In a number of circumstances it may suit one or other or both parties to a debtor relationship containing an option for the issue or transfer of shares not to go ahead when the option is exercised. Instead the matter is settled by a monetary payment. Such a cash settlement would fall foul of the limiting conditions in the definition of an “option” in section 580, so those conditions are disapplied for the purposes of the present section by section 652.

1809.There is a chargeable gain if the carrying value of the derivative contract at the time the company became a party to the debtor relationship exceeds the amount paid in fulfilment of the company’s obligations under the debtor relationship. For this purpose that amount is first reduced, but not below nil, by the fair value of the host contract at the time the option is exercised. But if that amount (as so reduced) exceeds that carrying value, an allowable loss arises. The gain or loss, as the case may be, is the amount of the excess.

Section 655: Ceasing to be party to debtor relationship when deemed option not exercised

1810.This section deems there to be an acquisition and disposal of an asset for the purposes of corporation tax on chargeable gains if a company ceases to be a party to a debtor relationship within section 652 at a time when the option has not been exercised. It is based on paragraphs 12(1) and (11B) and 45J(3), (8), (9), (9A) and (9B) of Schedule 26 to FA 2002.

1811.A company may cease to be a party to a debtor relationship by redeeming or repaying the liability in question or by some other means (such as assigning the rights and liabilities under the relationship).

1812.Subsection (2) treats the company as having acquired an asset for consideration equal to the amount paid to cease to be a party to the relationship. It also treats the company as having disposed of that asset for consideration equal to the carrying value of the relationship when acquired. But the carrying value is first reduced, as in respect of section 654, by the fair value of the host contract at the time the option was acquired. The deemed disposal may give rise to a chargeable gain or allowable loss.

Section 656: Introduction to section 658

1813.This section sets out the type of derivative contract it applies to (so that section 658 may then apply in respect of the contract). It is based on paragraphs 12(1) and (11A) and 45K(1) and (2) of Schedule 26 to FA 2002.

1814.Subsection (3)(b) provides that this section does not apply to a derivative contract that falls within section 652. The definition of “option” in section 580 is shorn for the purposes of that section of its usual limiting conditions (by virtue of which a cash-settled option is not an option). A contract which is an option under the modified definition is a contract for differences and would otherwise fall also within this section.

1815.The distinguishing characteristic of this section, condition C in subsection (4), is that the derivative contract is an “exactly tracking contract”, as defined in section 657. That term has a similar meaning to that in section 648, as defined in section 649. But what is being tracked here is the amount regarded in accordance with generally accepted accounting practice as the proceeds of issue of the liability which represents the debtor relationship in this case. And, as this section deals with a debtor relationship (while section 648 deals with a creditor relationship), the period over which the tracking takes place is measured from the date the liability representing the debtor relationship begins to the date the corresponding creditor relationship ends.

Section 657: Meaning of “exactly tracking contract” in section 656

1816.This section defines “exactly tracking contract” for the purposes of section 656. It is based on paragraph 45K(2A), (2B) and (2C) of Schedule 26 to FA 2002.

Section 658: Chargeable gain or allowable loss treated as accruing

1817.This section provides for a chargeable gain or allowable loss to arise when a debtor relationship within section 656 comes to an end if an amount is paid to discharge a company’s obligations under that relationship. It is based on paragraphs 12(1) and (11B) and 45K(3), (3A) and (3B) of Schedule 26 to FA 2002.

1818.The gain or loss is calculated on the assumptions that:

there is a disposal of an asset which is the contract for differences in section 656;
the cost of that asset is the amount paid to discharge the company’s obligations; and
the consideration for the disposal is the amount of the proceeds of the issue of the security representing the debtor relationship (or, if the company became a party to that relationship at a time after it was created, the carrying value of the host contract at that time).

1819.See the paragraph headed “disapplication of section 658” in Part 10 of Schedule 2 which applies if the liability representing the debtor relationship was owed by the company immediately before its first accounting period to begin on or after 1 January 2005.

Section 659: Meaning of “relevant credits” and “relevant debits”

1820.This section provides the meaning of “relevant credits” and “relevant debits” for the purposes of this Chapter. It is based on paragraphs 45A(3), 45G(2), (3) and (4), 45J(3) and 45K(3) of Schedule 26 to FA 2002.

1821.For all but one case the meaning is the same as that of credits and debits within section 595(3) and (4).

1822.The exception is the meaning of the terms in the case of a derivative contract to which section 650 (property based total return swaps) applies. For the purposes of section 641, as it applies to derivative contracts within section 650, the credits and debits found by section 595(3) and (4) are relevant credits and debits only to the extent they are also amounts found by applying the calculation formula in subsection (4).

1823.Section 650 applies to contracts for differences in which there is a specified “capital value index” (see the commentary on that section). Subsection (4) finds an amount of credits and debits by calculating the percentage change (“R%”) in the value of that index over the relevant accounting period (or part of that period, if the company is not a party to the contract throughout) and applying R% to the “notional principal amount”. That term is not defined but is used in relation to derivative contracts to describe the notional amount of capital by reference to which payments are due between the parties to the contract (see the reference to interest rates in condition D in section 650).

1824.The R% x N rule may give a credit but the accounts show a debit, or may give a larger credit (or debit) than the accounts credit (or debit). See the example in paragraph CFM13540a of HMRC’s Corporate Finance Manual.

Chapter 8: Further provision about chargeable gains and derivative contracts

Section 660: Contract relating to holding in OEIC, unit trust or offshore fund

1825.This section provides for a chargeable gain or allowable loss to arise when a company ceases to be a party to a relevant contract that is treated as a derivative contract because of section 587. It is based on paragraph 37(1), (2), (3) and (5) of Schedule 26 to FA 2002.

1826.Section 587 applies if the underlying subject matter of a relevant contract is an interest in a collective investment scheme and that scheme fails to meet a “qualifying investments test” in the relevant accounting period. The relevant contract is treated as a derivative contract for that accounting period and later periods.

1827.Section 602 provides for value to be attributed to the deemed derivative contract by reference to its market value when it is so deemed. Section 601 sets out the credits and debits to be brought into account for the purposes of this Part.

1828.This section deals with the profit and loss latent in the contract immediately before it is deemed to be a derivative contract. It applies if the contract was then a “chargeable asset”. That term is defined in section 703 as an asset on whose disposal any gain would be a chargeable gain for the purposes of corporation tax on chargeable gains. The charge on that accrued gain or loss is in effect deferred until the company ceases to be a party to the contract.

1829.The consideration for the disposal equals any value given to the relevant contract in the company’s accounts for the period immediately preceding that in which it is deemed to be a derivative contract. This value may be the same as or different from that found under section 602.

Section 661: Contract which becomes derivative contract

1830.This section provides for a chargeable gain or allowable loss to arise when a company ceases to be a party to a relevant contract that, not having been a derivative contract, became a derivative contract. It is based on paragraph 43A(1), (2), (4) and (5) of Schedule 26 to FA 2002.

1831.There are a number of ways in which a relevant contract that was not a derivative contract may become one. For example, if the terms of the contract change (without creating a new contract) in such a way that the accounting conditions in section 579 are now met, the contract may become a derivative contract. Or it may be that the contract no longer meets the “excluded property” rule in section 589 by virtue of which it was not a derivative contract. See for example the circumstances described in the paragraph “contracts which became derivative contracts on 16 March 2005” in Part 10 of Schedule 2.

1832.If this section applies, it operates similarly to section 660. Again, bringing into account the gain or loss latent in the relevant contract (which is also a chargeable asset) is deferred until the company ceases to be a party to the relevant contract.

1833.“Notional carrying value” has the same meaning as in section 622(4), that is, the carrying value the contract would have had in the books of the company had a period of account ended immediately before the deemed disposal. See the commentary on that section as regards the use of “period of account” rather than “accounting period” in that definition.

1834.See also the paragraph headed “disapplication of section 661” in Part 10 of Schedule 2 which applies if the relevant contract became a derivative contract before 30 December 2006.

Section 662: Contracts ceasing to be derivative contracts

1835.This section provides that, if a relevant contract to which the company continues to be a party ceases to be a derivative contract, the company is treated as acquiring the contract for an amount equal to its notional carrying value at the time it ceases to be a derivative contract. It is based on paragraph 43B of Schedule 26 to FA 2002.

1836.This section is the companion to section 622 which deals with the deemed disposal of the relevant contract for the purposes of this Part at the time it ceases to be a derivative contract. See the commentary on that section.

Section 663: Contracts to which section 641 applies

1837.This section provides that, if a company makes a claim, allowable losses deemed to arise for an accounting period may be carried back and set against chargeable gains deemed to arise in accounting periods in the previous 24 months. It is based on paragraph 45B(1), (2) and (3) of Schedule 26 to FA 2002.

1838.The gains and losses deemed to arise are those given by section 641 (chargeable gains basis substituted for income basis in charging credits and debits from certain types of derivative contract).

1839.The gains eligible for relief in an earlier period are the total section 641 gains for that period less the total of allowable losses under that section for that period. Those gains are further reduced by any other allowable losses for that period so far as those other allowable losses could not be deducted, within the meaning of section 8(1) of TCGA, from other chargeable gains. That is, any allowable losses for the purposes of corporation tax on chargeable gains, other than losses under section 641, are notionally deducted from the section 641 gains if they cannot be set against any chargeable gains, other than gains under section 641, to find the amount of gains against which the losses carried back under this section can be set. The amount found under this rule is called “net section 641 gains”.

1840.Subsection (3) provides that, to the extent the losses for a period are carried back and relieved under this section, they are used up and cannot otherwise be relieved under the provisions for corporation tax on chargeable gains by set off or carry forward.

Section 664: Meaning of certain expressions in section 663

1841.This section provides the meaning of some terms used in section 663. It is based on paragraph 45B(4), (5), (6), (7) and (8) of Schedule 26 to FA 2002.

Section 665: Introduction to section 666

1842.This section sets out the type of contract it applies to for the purposes of the relief provided by section 666. It is based on paragraphs 12(1) and (11A) and 45JA(1), (2) and (5) of Schedule 26 to FA 2002.

1843.For the purposes of this section, the definition of “option” in section 580 is shorn of its usual limiting conditions (that a cash-settled option is not an option).

1844.“Equity instrument” is defined in section 710 as having the meaning it does for accounting purposes. (See the commentary on section 585 for further detail.)

1845.For other rules that apply if a company is a party to an embedded derivative because of a debtor relationship of the company and the embedded derivative is treated as an option, see sections 652 to 655 in Chapter 7. They apply if the underlying subject matter of the embedded derivative is shares.

Section 666: Allowable loss treated as accruing

1846.This section deems there to be an allowable loss for the purposes of corporation tax on chargeable gains if a company pays an amount to discharge obligations under the debtor relationship to which section 665(2) refers. It is based on paragraphs 12(1) and (11B) and 45JA(3) and (4) of Schedule 26 to FA 2002.

1847.The allowable loss equals any excess of that payment (as first reduced by the fair value of the host contract at that time) over the carrying value of the equity instrument that is treated as a derivative contract under section 585 as at the time the company became a party to the debtor relationship.

1848.“Fair value” is defined in section 710.

1849.The definition of “B” in subsection (2) does not rewrite the words “in accordance with section 94A(2) of the Finance Act 1996” for the same reasons as given in the commentary on section 653.

1850.See also the paragraph headed “disapplication of section 666” in Part 10 of Schedule 2 which applies if the liability representing the debtor relationship was owed by the company immediately before its first accounting period to begin on or after 1 January 2005.

Section 667: Shares acquired on exercise of non-embedded option

1851.This section and the next modify the amounts otherwise allowable as acquisition costs under section 38 of TCGA on the disposal of shares acquired under an option or future. This section deals with shares acquired as the result of the exercise of rights under an option. It is based on paragraph 45HA(1), (2) and (3) of Schedule 26 to FA 2002.

1852.This section applies only if the derivative contract is a “plain vanilla contract” (defined in section 708). That is, it does not apply to the exercise of rights within rights and liabilities treated as a derivative contract under section 584, 585 or 586. Although the provision normally operates on the terminal exercise of the option, it is theoretically possible for it to apply to each instalment of a staged exercise of the option. Paragraph (e) of subsection (1) is therefore in terms of the exercise of “any of” the rights under the option.

1853.Subsection (2) provides for allowable acquisition costs under section 38(1)(a) of TCGA to be increased (or reduced) when there is a disposal of the shares acquired as a result of the exercise of rights under the option. The increase or reduction in effect reverses the earlier treatment of credits and debits in respect of the option, so far as referable to the shares which were the subject of the option, as non-trading credits and debits for the purposes of Part 5 (loan relationships).

1854.Subsection (2) also provides that, if there is only a part disposal of those shares, section 42(2) of TCGA applies. That provision deals with the calculation of costs allowable under section 38 of TCGA if there is a part disposal of an asset. It uses an A divided by A+B formula which takes into account the consideration for the part disposal (“A”) and the value of the remainder of the asset (“B”).

1855.Section 669 sets out the amount of the credits and debits to be used in calculating the amount of the adjustment to expenditure allowable under section 38 of TCGA.

1856.In a case where the adjustment reduces allowable expenditure and exceeds the amount that can be so reduced, the excess reduction is instead treated under subsection (3) as additional consideration for the disposal of the shares.

Section 668: Shares acquired on running of future to delivery

1857.This section makes provision equivalent to that in section 667 if shares are disposed of following their acquisition as the result of the delivery of those shares under the terms of a future. It is based on paragraph 45HA(1A), (2) and (3) of Schedule 26 to FA 2002.

1858.See the commentary on section 667.

Section 669: Meaning of G and L in sections 667 and 668

1859.This section determines the amounts used under section 667 or 668 to modify the amounts allowable as acquisition costs under section 38 of TCGA on the disposal of shares acquired as mentioned in either section. It is based on paragraph 45HA(4) and (5) of Schedule 26 to FA 2002.

1860.The credits and debits relevant to the calculation under section 667(2) or 668(2) are those brought into account under section 574. That is, they are amounts which are treated as non-trading credits and debits for the purposes of Part 5 (loan relationships). It is unnecessary to take account for this purpose of credits and debits within section 573, as profits and losses on derivative contracts to which that section applies are brought into account as trading profits rather than as chargeable gains.

1861.The credits and debits in question are those referable to the shares acquired or delivered. That is, they are credits and debits arising in respect of the derivative contract before the exercise of the option or the running to delivery of the future, as appropriate, as a result of which the shares were acquired. And they are referable to the shares which are the subject of the contract. Subsection (2) also provides that any necessary apportionment of credits and debits may be made on a just and reasonable basis.

1862.Subsection (4) indicates that the credits and debits in question are those arising in respect of any accounting period of the company during which it is a party to the derivative contract up to and including that in which the shares are disposed of. It is a question of fact whether in any of those accounting periods there are relevant credits or debits.

Section 670: Treatment of net gains and losses on exercise of option

1863.This section modifies the amounts allowable under section 38 of TCGA in respect of a disposal of (a) shares acquired as a result of the exercise of rights under an option, if those rights were held under a derivative contract which is an embedded derivative in a creditor relationship within section 645 or (b) the asset representing the creditor relationship in such a case. It is based on paragraph 45H(1), (2), (3), (4), (5), (5A) and (6) and 12(11C) of Schedule 26 to FA 2002.

1864.“Creditor relationship” is defined in section 704.

1865.As in section 667, it is theoretically possible for the section to apply to each instalment of a staged exercise of the option as well as the terminal exercise of the option. Paragraph (c) of subsection (1) is therefore in terms of the exercise or disposal of “any of” those rights.

1866.Credits and debits arising in a case to which section 645 applies are brought into account as chargeable gains or allowable losses under section 641. The effect of this section is to reverse that treatment when the asset representing the creditor relationship or the shares acquired under the option are disposed of. It avoids double charging of so much of the value in that asset or shares as represents the credits or debits already brought into charge as a chargeable gain or allowable loss.

1867.The adjustment under subsection (5) applies only if the circumstances in which the shares were acquired involved a disposal treated as not occurring because of section 127 of TCGA. That provision disregards as a disposal the replacement of a holding of shares by another such holding in the course of a reorganisation of share capital. That is, the disposal of the rights under the option, as a result of exercising those rights, was not treated as a disposal.

1868.Similarly to section 667, if the adjustment to be made under subsection (3) or (5) is a reduction that exceeds the amounts otherwise allowable under section 38 of TCGA, the excess is added to the consideration for the disposal.

1869.Subsection (7) disapplies sections 37 and 39 of TCGA in relation to a disposal covered by this section. Those sections remove from the chargeable gains calculation any consideration and expenditure that is taken into account in an income calculation.

Section 671: Meaning of G, L and CV in section 670

1870.This section provides the meaning of labels used in the calculations made under section 670(3) and (5). It is based on paragraphs 12(1) and (11B) and 45H(6) and (7) of Schedule 26 to FA 2002.

1871.The chargeable gains (“G”) and allowable losses (“L”) relevant to those calculations are those referable to the shares acquired as a result of the exercise of the option. That is, they are credits and debits arising in respect of the derivative contract before the exercise of the option as a result of which the shares were acquired. And they are referable to the shares which are the subject of the contract.

1872.Subsection (5) indicates that the credits and debits in question are those arising in respect of any accounting period of the company during which it is a party to the derivative contract up to and including that in which the shares are disposed of.

Section 672: Treatment of net gains and losses on disposal of certain embedded derivatives

1873.This section modifies the amounts allowable under section 38 of TCGA on a disposal of the asset representing the creditor relationship mentioned in section 648 in a case where that section applies. It is based on paragraph 45HZA(1), (2), (3), (4) and (5) of Schedule 26 to FA 2002.

1874.For the circumstances in which section 648 applies, and for the meaning of an “exactly tracking contract for differences”, see the commentary on that section.

1875.As with section 670, this section in effect reverses the treatment of credits and debits in respect of the embedded derivative under section 641 so that double counting is avoided when the asset representing the creditor relationship is disposed of.

1876.And similarly again to that section and others, if the adjustment to be made under subsection (2) is a reduction that exceeds the amounts otherwise allowable under section 38 of TCGA, the excess is added to the consideration for the disposal.

Section 673: Meaning of G, L and CV in section 672

1877.This section provides the meaning of labels used in the calculations made under section 672(2). It is based on paragraphs 12(1) and (11B) and 45HZA(5) and (6) of Schedule 26 to FA 2002.

1878.The definitions of “G”, “L” and “CV” are similar to those in section 671 but modified for the purposes of section 672. See the commentary on section 671.

Chapter 9: European cross-border transfers of business

Overview

1879.This Chapter gives the rules that apply for derivative contracts in the case of cross-border transfers within the European Community of the whole or part of a business carried on in the United Kingdom.

Section 674: Introduction to Chapter

1880.This section sets out the two conditions required for the Chapter to apply together with the claim requirement. It is based on paragraphs 30D(1), (2), (3) and (4), 30G(1) and 30I(1) of Schedule 26 to FA 2002.

1881.The source legislation for subsection (2)(c) requires that the transferee is resident in the United Kingdom or within the corporation tax charge in section 11 of ICTA. The subsection says “within the charge to corporation tax” as the result is the same.

1882.See also the paragraph headed “references to Companies Act 2006” in Part 10 of Schedule 2 which provides for the interpretation of references to section 658 of that Act before that section comes into force.

Section 675: Transfer of derivative contract at notional carrying value

1883.This section provides the rule that if either of the conditions in section 674 applies, debits and credits in respect of derivative contracts which are transferred as part of the business transfer are brought into account by both transferor and transferee as if the contracts had been transferred at the carrying value in the accounts of the transferor. It is based on paragraph 30D(1), (2) and (6) of Schedule 26 to FA 2002.

1884.The definition of “notional carrying value” is the same as that used in section 625(6).

Section 676: Transferor using fair value accounting

1885.This section provides the rule to apply in place of section 675 if the transferor company uses fair value accounting. It is based on paragraph 30D(7) of Schedule 26 to FA 2002.

Section 677: Tax avoidance etc

1886.This section disapplies the Chapter if the transfer of business is not effected for genuine commercial reasons, unless the Commissioners for HMRC are satisfied, following an application, that this Chapter should apply. It is based on paragraph 30F(1) and (2) of Schedule 26 to FA 2002.

Section 678: Procedure on application for clearance

1887.This section sets out the procedure to be followed for an application that section 677 should not apply. It is based on paragraph 30F(3) of Schedule 26 to FA 2002.

1888.This section follows the procedure set out in the equivalent provision in Part 5 (loan relationships) (see section 427).

Section 679: Decision on application for clearance

1889.This section sets out how the outcome of an application that section 677 should not apply is notified. It is based on paragraph 30F(3) of Schedule 26 to FA 2002.

1890.This section follows the procedure set out in the equivalent provision in Part 5 (loan relationships) (see section 428).

Section 680: Disapplication of Chapter where transparent entities involved

1891.This section disapplies the Chapter under certain circumstances if transparent entities are involved in the transfer of business. It is based on paragraphs 30G(1) and (2) and 30I(1) of Schedule 26 to FA 2002.

Section 681: Interpretation

1892.This section defines “company” and explains what company residence in a member State means for the purposes of the Chapter. It is based on paragraph 30I of Schedule 26 to FA 2002.

Chapter 10: European cross-border mergers

Overview

1893.This Chapter gives the rules that apply for derivative contracts in the case of European cross-border mergers if the merging companies are resident in different member States of the European Community.

Section 682: Introduction to Chapter

1894.This section sets out the conditions (which include the different categories of merger) under which the Chapter applies. It is based on paragraphs 30B(1) and (2) and 30H(1) of Schedule 26 to FA 2002.

1895.The source legislation for subsection (5) requires that the transferee is resident in the United Kingdom or within the corporation tax charge in section 11 of ICTA. The subsection says “within the charge to corporation tax” as the result is the same.

1896.See also the paragraph headed “references to Companies Act 2006” in Part 10 of Schedule 2 which provides for the interpretation of references to section 658 of that Act before that section comes into force.

Section 683: Meaning of “the transferee” and “transferor”

1897.This section gives the meaning of the two terms for the different categories of merger set out in section 682(2). It is based on paragraph 30B(9) of Schedule 26 to FA 2002.

Section 684: Transfer of derivative contract at notional carrying value

1898.This section provides that debits and credits in respect of derivative contracts transferred under a merger are brought into account as if the transfer had been for a consideration of an amount equal to the carrying value of the contract in the transferor company’s or companies’ accounts. It is based on paragraph 30B(3) of Schedule 26 to FA 2002.

Section 685: Transferor using fair value accounting

1899.This section provides the rule to apply in place of section 684 if the transferor company uses fair value accounting. It is based on paragraph 30B(4) of Schedule 26 to FA 2002.

Section 686: Tax avoidance etc

1900.This section disapplies the Chapter if the merger is not effected for genuine commercial purposes unless the Commissioners for HMRC are satisfied, following an application, that this Chapter should apply. It is based on paragraph 30B(6), (7) and (8) of Schedule 26 to FA 2002.

1901.Subsections (2) and (3) provide a clearance procedure equivalent to that in the previous Chapter.

Section 687: Disapplication of Chapter where transparent entities involved

1902.This section disapplies the Chapter under certain circumstances if transparent entities are involved in the merger. It is based on paragraphs 30H(1) and (2) and 30I(1) of Schedule 26 to FA 2002.

Section 688: Interpretation

1903.This section defines some terms used in the Chapter. It is based on paragraphs 30B(9) and 30I of Schedule 26 to FA 2002.

Chapter 11: Tax avoidance

Section 689: Overview of Chapter

1904.This section describes the content of the Chapter. It is new.

Section 690: Derivative contracts for unallowable purposes

1905.This section prevents certain credits and debits being brought into account for corporation tax purposes, whether under this Part or otherwise, if the derivative contract in question has an “unallowable purpose”. It is based on paragraph 23(1), (2), (3), (8), (9) and (10) of Schedule 26 to FA 2002.

1906.Subsection (3) prevents a company bringing into account all debits in respect of the derivative contract that are referable to the unallowable purpose. But subsection (2) only does so for credits that are “exchange credits” (defined in subsection (6)).

1907.Subsection (4) signposts the relief in section 692, which provides that some of the debits mentioned in subsection (3) may be brought into account in the shape of “excess accumulated net losses”.

1908.Subsection (5) makes clear that an amount that is not brought into account because of this section (or section 692) is nevertheless regarded as brought into account for the purposes of the priority rule in section 699. That rule provides that this Part exhausts the corporation tax treatment of an amount to which it applies, unless otherwise stated. The amounts in question are therefore not to be brought into account for corporation tax purposes in any other way.

Section 691: Meaning of “unallowable purpose”

1909.This section defines “unallowable purpose” and “has an unallowable purpose” for the purposes of sections 690 and 692. It is based on paragraph 24 of Schedule 26 to FA 2002.

1910.A purpose is unallowable if it is one of the purposes for which the company is a party to the contract (or enters into related transactions in relation to it) but it is not a business or other commercial purpose of the company.

1911.Subsection (2) excludes any activities in respect of which the company is not within the charge to corporation tax from the business and commercial purposes of the company that are relevant to this definition. For example, if a non-UK resident company is a party to the contract for the purposes of a permanent establishment it has in the United Kingdom, the purposes of the activities of the company that are not part of the activities of the permanent establishment are disregarded.

1912.Subsections (3) to (6) exclude a tax avoidance purpose from the business and commercial purposes of the company for the purposes of this definition. The effect of this is that a tax avoidance purpose is an unallowable purpose unless it is a minor part of the company’s motivation for being a party to, or entering into related transactions in relation to, the derivative contract.

Section 692: Allowance of accumulated net losses

1913.This section gives relief for some of the debits prevented from being brought into account by section 690. It is based on paragraph 23(1), (4), (5), (6) and (7) of Schedule 26 to FA 2002.

1914.The amount that is relieved under this section by being brought into account as a debit, by virtue of subsection (4), is the amount of the “excess accumulated net losses” found in accordance with the method statement in subsection (5).

1915.In effect, debits excluded for an accounting period because of section 690(3) are nevertheless relieved in that or a later period to the extent that there are non-excluded credits against which they can be set.

1916.The calculation of the amount to be relieved is on a cumulative basis and that amount is reduced by any debit already given under this section.

Section 693: Bringing into account adjustments under Schedule 28AA to ICTA

1917.This section brings into account under this Part credits and debits in respect of amounts treated under Schedule 28AA to ICTA (provision not at arm’s length) as profits, losses or expenses. It is based on paragraph 31A of Schedule 26 to FA 2002.

1918.It brings credits and debits into account to the extent that actual amounts of such profits, losses or expenses would be brought into account.

1919.Schedule 28AA to ICTA identifies adjustments (“imputed amounts”) to be made to return the profit or loss from a transaction between parties not at arm’s length to what that profit or loss would be had the parties been at arm’s length. This section ensures that such amounts are taken into account under this Part although they arise under Schedule 28AA rather than under this Part.

1920.Subsections (3) and (5) indicate that the credits and debits brought into account by this section are subject to the same rules as apply under this Part to credits and debits in respect of actual amounts. So, for example, debits brought into account in respect of expenses are those falling within the categories listed in section 595(4).

Section 694: Exchange gains and losses

1921.This section gives effect in this Part to adjustments or other treatment of exchange gains and losses prescribed by Schedule 28AA to ICTA, further to those in section 693. It is based on paragraph 8(1) and (4) of Schedule 28AA to ICTA and paragraph 27 of Schedule 26 to FA 2002.

1922.Under paragraph 1 of Schedule 28AA to ICTA, a company may be treated as not a party to a derivative contract. The actual exchange gains and losses on that contract are then disregarded. Subsection (3) provides that such exchange gains and losses are also left out of account in determining the credits and debits to be brought into account under this Part.

1923.Schedule 28AA to ICTA may also impute amounts of exchange gains and losses (the “adjusted amount”) calculated on the basis that the parties to the derivative contract are acting at arm’s length although in fact they do not do so. Subsection (5) requires the “adjusted amount” to be brought into account under this Part.

Section 695: Transfers of value to connected companies

1924.This section treats as a credit the amount paid by a company for the grant of an option by a company connected with it if the option is allowed to expire to the benefit of the connected company. It is based on paragraph 26 of Schedule 26 to FA 2002.

1925.Value is transferred on the expiry of the option because the connected company retains the amount paid for the option and does not suffer the commercial loss that would have occurred had the option been exercised. The required assumption in subsection (6), that the option would have been exercised had the parties not been connected, points to the fact that it would have been advantageous to the option holder to exercise it (and therefore disadvantageous to the company granting the option).

1926.The section applies only if the connected company is not within the charge to corporation tax in respect of the derivative contract under or because of this Part. For example, it applies if the connected company is not a UK resident company (and the derivative contract is not held for the purposes of a permanent establishment it has in the United Kingdom).

1927.Subsection (7) indicates that, for the purposes of this section, the definition of “option” in section 580 is shorn of its usual limiting conditions (that a cash-settled option is not an option).

Section 696: Derivative contracts with non-UK residents

1928.This section excludes a debit if a company within the charge to corporation tax makes payments of notional interest in excess of payments of notional interest to it by a company which is non-UK resident. It is based on paragraph 31(1), (2), (3), (4) and (9) of Schedule 26 to FA 2002.

1929.This section typically applies to a contract for differences which is an interest rate swap. It has some similarities with section 695 in that the flow of benefit in the direction of a company outside the charge to corporation tax is countered in taxing the other company.

1930.Subsection (4) defines “notional interest payment”. The rate applied in calculating such a payment is not necessarily an interest rate as such but paragraph (c) of the definition requires that it matches the interest rate specified in the contract.

Section 697: Exceptions to section 696

1931.This section sets out three circumstances in which section 696 does not apply. It is based on paragraph 31(5), (6), (7), (8) and (9) of Schedule 26 to FA 2002 and section 153(2) of FA 2003.

1932.The third exception is if there is a double taxation agreement between the United Kingdom and the territory in which the non-UK resident is resident which covers payments of interest (whether by relief or otherwise). Unlike the first two exceptions, where the financial institution or non-UK resident must hold the derivative contract as principal, this exception can apply if the non-UK resident holds the derivative contract as agent or nominee of another person. But in that case, the relevant territory is that in which the principal is resident.

1933.“Permanent establishment” is defined in section 148 of FA 2003.

Section 698: Disposals for consideration not fully recognised by accounting practice

1934.This section brings into account that part of the consideration for a disposal of rights or liabilities under a derivative contract that is not fully recognised under applicable generally accepted accounting practice, if the company in question made the disposal with avoidance motives. It is based on paragraph 27A of Schedule 26 to FA 2002.

1935.Subsection (5) gives priority to paragraph 1(2) of Schedule 28AA to ICTA, if that provision would apply a tax charge on the disposal in question. That paragraph may operate in effect through section 693.

Chapter 12: Priority rules

Section 699: Priority of this Part for corporation tax purposes

1936.This section provides that this Part has priority, as regards amounts brought into account in accordance with it in respect of any matter, over any corporation tax provision that would otherwise apply. It is based on paragraph 1(2) of Schedule 26 to FA 2002.

1937.This rule covers not only the case where an amount is dealt with under sections 573 or 574 but also a case to which Chapter 7 applies.

1938.Subsection (3) lists particular cases where the rule is disregarded.

1939.Section 700 deals with the case where Part 5 (loan relationships) has priority over this Part. If that Part applies to any amounts, those amounts are not in fact brought into account in accordance with this Part and so this section cannot apply.

Section 700: Relationship of this Part to Part 5: loan relationships

1940.This section gives priority to Part 5 if the amount that would otherwise be brought into account under this Part, or (if different) the profit or loss accruing to the company on the derivative contract, is brought into account under that Part. This section is based on section 101 of FA 1996.

1941.This rule covers, for example, the case where a loan relationship arises from the conduct of a derivative contract (say, if one party defaults on a payment in the course of an interest rate swap and so owes money to the other). A payment due in respect of the loan relationship is dealt with under Part 5 and not under this Part.

1942.Subsection (3) sets out the significant exception to the general rule, that is, in a case where section 585 (loan relationships with embedded derivatives) applies. This Part applies instead of Part 5 to profits and losses in respect of an embedded derivative that is a derivative contract.

Chapter 13: General and supplementary provisions

Section 701: Power to amend some provisions

1943.This section contains powers for the amendment of this Part (and related paragraphs in Part 10 of Schedule 2). It is based on paragraph 13 of Schedule 26 to FA 2002 and paragraph 52 of Schedule 4 to FA 2005.

1944.The permitted amendments are broadly concerned with redefining what is or is not a derivative contract (whether by reference to the underlying subject matter of a relevant contract or otherwise). They are also concerned with adjusting the regime for special cases.

1945.Subsections (1) and (2) define what provisions in this Part and Schedule 2 may be amended by an order under this section. The lists in these subsections reflect the fact that the rules in the amendable provisions of the source legislation (Parts 2 and 9 of Schedule 26 to FA 2002) are now ordered differently in this Part.

1946.Subsection (5) contains the commencement provisions for an order made under this section. The normal rule is that an order applies to accounting periods ending on or after the date on which the order comes into force. That rule includes a degree of retrospection in that the order may apply by reference to events that occurred in that accounting period before the order came into force. Retrospective application is partly increased by paragraph (b) of this subsection, which allows the order to apply to periods of account beginning in the year in which they are made (which would cover, for example, an accounting period of less than 12 months which has ended before the order is made).

Section 702: “Carrying value”

1947.This section defines the meaning of “carrying value” for the purposes of this Part. It is based on paragraphs 28(6) and 50A(3A) and (3B) of Schedule 26 to FA 2002.

1948.Subsections (2) and (3) ensure that the effect of various provisions dealing with special cases carries through for the purposes of calculating the carrying value under this section.

1949.Subsection (4) provides a definition of “impairment loss” (a term taken from international accounting standards) which is only implied by the source legislation by virtue of its reference to “amounts recognised for accounting purposes”. The definition is modelled on that provided for loan relationships by section 476. See Change 67 in Annex 1.

Section 703: “Chargeable asset”

1950.This section defines the meaning of “chargeable asset” for the purposes of this Part. It is based on paragraphs 4A(4), 4B(5), 37(6) and 43A(3) of Schedule 26 to FA 2002.

1951.The definition extends under subsection (2) to amounts that are treated under section 143 of TCGA as assets whose disposal falls within TCGA. Those assets are obligations under a futures contract, that is, the obligation to supply or to take delivery of a commodity or other item under the contract at an agreed price. If there has been such market movement in the price of the commodity that the obligation is heading to produce a profit, a disposal of the obligation (before the contract has run to delivery) would be a disposal of an asset for the purposes of TCGA.

Section 704: “Creditor relationship” and “debtor relationship”

1952.This section defines “creditor relationship” and “debtor relationship” for the purposes of this Part. It is based on paragraphs 30A(7) and 54(1) of Schedule 26 to FA 2002.

1953.These terms occur in this Part in connection with a loan relationship or a relevant contract within section 585(2). The section therefore defines the terms by reference to section 302 in Part 5. In short, a creditor relationship refers to a debt owned and a debtor relationship to a debt owed by the company.

Section 705: Expressions relating to exchange gains and losses

1954.This section provides for the interpretation of references in this Part to “exchange gains” or “exchange losses” in relation to a company. It is based on paragraph 54(2), (2A) and (3) of Schedule 26 to FA 2002.

1955.Subsection (2) provides that, in the event that the comparison of values described in subsection (1) gives neither a gain nor a loss, an exchange gain of nil arises. This rule applies in a case where it is necessary for there be an amount of an exchange gain or exchange loss for a provision to apply (say, section 694(6)).

1956.Subsection (3) provides powers for the Treasury to make regulations as to the calculation of exchange gains and losses and any other profits, gains or losses if the company uses fair value accounting. See The Loan Relationships and Derivative Contracts (Exchange Gains and Losses using Fair Value Accounting) Regulations 2005 (SI 2005/3422). As in the case of the powers in section 701, regulations made under these powers may apply to any period of account beginning in the year in which they are made.

1957.Subsection (5) sets out what a reference to an exchange gain or loss from a company’s derivative contracts means (for the purposes of, say, section 606(1)).

Section 706: “Excluded body”

1958.This section defines “excluded body” for the purposes of this Part. It is based on paragraphs 45C(3), 45D(2), 45G(1A), 45J(2) and 45K(2) of Schedule 26 to FA 2002.

1959.The bodies which are excluded bodies are all types of collective investment scheme.

1960.“Authorised unit trust” is defined in section 832(1) of ICTA by reference to section 468(6) of that Act, which in turn refers to a scheme in respect of which an order under section 243 of FISMA is in force in the relevant accounting period.

1961.“Investment trust” has the meaning given by section 842 of ICTA and “venture capital trust” the meaning given by section 834(1) of ICTA (by reference to Part 6 of ITA).

1962.“Open-ended investment company” is defined in section 710 by reference to section 468A(2) of ICTA which in turn refers to a company incorporated in the United Kingdom to which section 236 of FISMA applies.

Section 707: “Hedging relationship”

1963.This section sets out two cases in which a company is regarded as having a “hedging relationship” for the purposes of this Part. It is based on paragraph 12(14) of Schedule 26 to FA 2002.

1964.The concept of “hedging” has to do with contracts undertaken to protect the company’s assets (or to guard against increase in its liabilities) in a case where there is some form of market volatility associated with the item. The cases described in this section derive from those set out in accounting standards. Paragraph 86 of Financial Reporting Standard 26, the equivalent for UK generally accepted accounting practice of International Accounting Standard 39, describes a hedging relationship as follows:

Hedging relationships are of three types:

fair value hedge: a hedge of the exposure to changes in fair value of a recognised asset or liability or an unrecognised firm commitment, or an identified portion of such an asset, liability or commitment that is attributable to a particular risk and could affect profit or loss.
cash flow hedge: a hedge of the exposure to variability in cash flows that is (i) attributable to a particular risk associated with a recognised asset or liability (such as all or some future interest payments on variable rate debt) or a highly probable forecast transaction and (ii) could affect profit or loss.
hedge of a net investment in a foreign operation as defined in FRS 23.

1965.Paragraph 9 of Financial Reporting Standard 26 also provides definitions of “hedging instrument” and “hedged item”.

Section 708: “Plain vanilla contract”

1966.This section defines “plain vanilla contract”. It is based on paragraph 2(2B) of Schedule 26 to FA 2002.

1967.The term means any relevant contract except those to which a company is treated as a party under section 584, 585 or 586.

Section 709: “Securities house”

1968.This section defines “securities house” for the purposes of this Chapter. It is based on paragraphs 45J(10), 45JA(5) and 45K(4) of Schedule 26 to FA 2002.

Section 710: Other definitions

1969.This section defines a number of terms for the purposes of this Part. It is based on paragraphs 12(1), (2), (9), (11), (12), (13) and (17) and 54(1) and (4) of Schedule 26 to FA 2002.

1970.Where appropriate, terms used in this Part in connection with the business of a life assurance company take the meaning given in Chapter 1 of Part 12 of ICTA (see in particular section 431(2) of ICTA).

1971.The section does not rewrite those definitions in paragraph 54(1) of Schedule 26 to FA 2002 of terms that are no longer in use in that Schedule (for example, “UK company”) or have been replaced by other terms (for example, “nested derivative”). Nor does it rewrite the definition of “investment trust” as that is already provided by section 842 of ICTA.

Part 8: Intangible fixed assets

Overview

1972.This Part gives a comprehensive scheme for the taxation of profits and losses arising to a company from its intangible fixed assets. It is based on Schedule 29 to FA 2002.

1973.This Part sets out a uniform and largely self-contained set of rules on the tax treatment of intangible fixed assets used for business purposes by companies. For assets within its rules, it overrides all other tax legislation. Broadly, it applies only to assets acquired from third parties, or created, after 31 March 2002. Other intangible fixed assets continue, subject to some particular exceptions, to be dealt with under general rules. The tax treatment of intangible fixed assets within this Part generally follows the accountancy treatment. In this respect, it resembles the loan relationship and derivative contract provisions which also largely erase the distinction between capital and revenue expenditure.

Chapter 1: Introduction

Section 711: Overview of Part

1974.This section provides a “route map” of the Part. It is new.

Section 712: “Intangible asset”

1975.This section explains what is meant by “intangible asset”. It is based on paragraph 2 of Schedule 29 to FA 2002.

Section 713: “Intangible fixed asset”

1976.This section explains what is meant by “intangible fixed asset”. It is based on paragraph 3 of Schedule 29 to FA 2002.

1977.Subsection (2) is an important general extension to the rules. That is, if an asset is an “intangible fixed asset” under the rules in this Part, so is an option or other right to acquire or dispose of that asset. There is a counterpart, obverse rule in section 805.

Section 714: “Royalty”

1978.This section is definitional. It is based on paragraph 139 of Schedule 29 to FA 2002.

Section 715: Application of this Part to goodwill

1979.This section brings goodwill within the intangible fixed assets regime. It is based on paragraph 4 of Schedule 29 to FA 2002.

1980.The inclusion of goodwill extends the relevance of these rules to a far wider range of companies than would otherwise be the case.

Section 716: “Recognised” amounts and “GAAP-compliant accounts”

1981.This section identifies the accountancy amounts from which the related tax amounts are derived. It is based on paragraph 134 of Schedule 29 to FA 2002.

1982.Subsection (4) rewrites part of paragraph 5(1) of Schedule 29 to FA 2002. The subsection uses the label “GAAP-compliant accounts” as being a more neutral term than the label “correct accounts” used in the source legislation.

Section 717: Companies without GAAP-compliant accounts

1983.This section deals with the case where a company does not draw up accounts in accordance with generally accepted accounting practice or, exceptionally, does not draw up accounts at all. It is based on paragraph 5 of Schedule 29 to FA 2002.

1984.In both cases the rules apply as though GAAP-compliant accounts had been drawn up.

1985.Subsection (3) applies where accounts are GAAP-compliant in themselves but follow on from a period for which the accounts were not. It allows the later accounts to be adjusted to reflect the adjustments required in the earlier accounts.

Section 718: GAAP-compliant accounts: reference to consolidated group accounts

1986.This section allows reference to be made to consolidated group accounts in determining whether a company’s accounts are GAAP-compliant. It is based on paragraph 6 of Schedule 29 to FA 2002.

Section 719: Accounting value

1987.This section is definitional. It is based on paragraph 135 of Schedule 29 to FA 2002.

Chapter 2: Credits in respect of intangible fixed assets

Section 720: Introduction

1988.This section introduces the rules dealing with the main category of accounting gains to be brought into account as credits for tax purposes. It is based on paragraph 13 of Schedule 29 to FA 2002.

1989.The rules in this Chapter do not apply on a realisation of an intangible fixed asset. Subsection (3) gives a signpost to the rules that do.

Section 721: Receipts recognised as they accrue

1990.This section covers all kinds of receipts (including most ordinary royalties) from the exploitation of intangible fixed assets, apart from those deriving from the realisation of such assets. It is based on paragraph 14 of Schedule 29 to FA 2002.

Section 722: Receipts in respect of royalties so far as not dealt with under section 721

1991.This section applies to credits in respect of some exceptional royalties to bring them within the charge when this would not otherwise happen. It is based on paragraph 14A of Schedule 29 to FA 2002.

Section 723: Revaluation

1992.This section applies when an intangible fixed asset is revalued upwards. It is based on paragraph 15 of Schedule 29 to FA 2002.

Section 724: Negative goodwill

1993.This section applies to certain releases of negative goodwill. It is based on paragraph 16 of Schedule 29 to FA 2002.

Section 725: Reversal of previous accounting loss

1994.This section applies to an accounting gain that reverses a previous loss for which relief was given. It is based on paragraph 17 of Schedule 29 to FA 2002.

1995.Subsection (3) ensures that if the tax debit in the previous period was not the same figure as the accounting loss, the credit on the reversal of the loss is the accounting gain adjusted in the ratio which the debit bears to the loss.

1996.There is a parallel, converse rule in section 732.

Chapter 3: Debits in respect of intangible fixed assets

Section 726: Introduction

1997.This section introduces the rules dealing with the main category of accounting losses which may be brought into account as a debit for tax purposes. It is based on paragraph 7 of Schedule 29 to FA 2002.

1998.The rules in this Chapter do not apply to the realisation of an intangible fixed asset. Subsection (3) provides a signpost to the Chapter that does.

Section 727: References to expenditure on an asset

1999.This section explains what is meant by “expenditure on an asset”. It is based on paragraph 133 of Schedule 29 to FA 2002.

2000.Subsection (2) puts beyond doubt the exclusion of capital expenditure on tangible assets that might otherwise appear to come within subsection (1) such as expenditure on cars used by company staff promoting the company’s brand name.

Section 728: Expenditure written off as it is incurred

2001.This section gives a deduction for expenditure never capitalised but written off in the period of account in which it is incurred. It is based on paragraph 8 of Schedule 29 to FA 2002.

2002.An example of expenditure within this section might be expenditure on maintaining an asset or expenditure on acquiring an asset which, in the event, proves abortive.

Section 729: Writing down on accounting basis

2003.This section gives a deduction for amounts written off an intangible fixed asset that has been capitalised in the company’s accounts. It is based mainly on paragraph 9 of Schedule 29 to FA 2002.

Section 730: Writing down at fixed rate: election for fixed-rate basis

2004.This section gives the option of a writing down deduction at a fixed rate, regardless of the accounting treatment of the intangible fixed asset. It is based on paragraph 10 of Schedule 29 to FA 2002.

2005.The main purpose of this option is to make relief available for the cost of acquiring the most durable of intangible assets which either are not amortised at all in the accounts or are amortised over a very long period. An example of such an asset could be a very strong brand name.

Section 731: Writing down at fixed rate: calculation

2006.This section gives the calculation rule that applies when the fixed rate writing down option is taken under the previous section. It is based on paragraph 11 of Schedule 29 to FA 2002.

Section 732: Reversal of previous accounting gain

2007.This section gives relief if a previous, taxed, accounting gain is reversed. It is based on paragraph 12 of Schedule 29 to FA 2002.

2008.The debit will usually be the same as the accounting loss. If, however, the credit brought into account for the earlier period was different from the accounting gain, the formula in subsection (3) ensures that the debit to be recognised is the accounting loss adjusted in the ratio which the earlier credit bears to the earlier accounting gain.

2009.There is a parallel, converse rule in section 725.

Chapter 4: Realisation of intangible fixed assets

Section 733: Overview of Chapter

2010.This section introduces the provisions that provide for credits or debits for tax purposes when an intangible fixed asset is realised. It is based on paragraph 18 of Schedule 29 to FA 2002.

2011.Subsection (3) rewrites paragraph 25 of Schedule 29 to FA 2002 as an early signpost to the possibility of roll-over relief in realisation cases.

Section 734: Meaning of “realisation”

2012.This section defines “realisation”. It is based on paragraph 19 of Schedule 29 to FA 2002.

2013.Consistent with the underlying principle of this Part, “realisation” is defined by reference to generally accepted accounting practice. Only events which are “realisations” in these terms are within this Chapter. And only events within this Chapter can come within the roll-over rules in Chapter 7 of this Part.

2014.Subsection (3) is relevant to assets that have been wholly written off or to assets which have been generated internally (such as goodwill) which cannot be capitalised under generally accepted accounting practice.

Section 735: Asset written down for tax purposes

2015.This section gives the rules quantifying the credit or debit for an intangible fixed asset which has previously been written down for tax purposes. It is based on paragraph 20 of Schedule 29 to FA 2002.

Section 736: Asset shown in balance sheet and not written down for tax purposes

2016.This section gives the rules quantifying the credit or debit for an intangible fixed asset shown in the company’s balance sheet and not previously written down for tax purposes. It is based on paragraph 21 of Schedule 29 to FA 2002.

2017.Examples of intangible fixed assets to which this section applies include those sold soon after acquisition.

Section 737: Apportionment in case of part realisation

2018.This section deals with cases where either of the two previous sections apply to a part realisation of an intangible fixed asset. It is based on paragraph 22 of Schedule 29 to FA 2002.

2019.The section determines the appropriate proportion of the tax written-down value or cost of the asset to be set off.

2020.Subsection (2) gives a formula that covers both the simple case, where the tax written-down value has not diverged from the book value in the accounts, and the more complicated case where the tax and book values have diverged.

Section 738: Asset not shown in balance sheet

2021.This section deals with cases where the intangible fixed asset that is realised is never shown in the balance sheet. It is based on paragraph 23 of Schedule 29 to FA 2002.

2022.Internally-generated goodwill is probably the most common example of an intangible fixed asset to which this section applies.

Section 739: Meaning of “proceeds of realisation”

2023.This section defines “proceeds of realisation”. It is based on paragraph 24 of Schedule 29 to FA 2002.

Section 740: Abortive expenditure on realisation

2024.This section provides for a debit for tax purposes in respect of abortive realisation expenditure. It is based on paragraph 26 of Schedule 29 to FA 2002.

2025.“Abortive” expenditure is expenditure incurred for the purposes of a transaction which would have amounted to a realisation of the intangible fixed asset if it had proceeded to completion. Such expenditure would not be allowable under any other rules.

Section 741: Meaning of “chargeable intangible asset” and “chargeable realisation gain”

2026.This section defines two related key terms used in this Part. It is based on paragraph 137 of Schedule 29 to FA 2002.

Chapter 5: Calculation of tax written-down value

Overview

2027.Identifying the “tax written-down value” of an intangible fixed asset is an essential part of calculating the credit or debit for tax purposes.

2028.This Chapter provides rules to determine the “tax written-down value”.

Section 742: Asset written down on accounting basis

2029.This section provides the tax written-down value when the intangible fixed asset has been written down on the accounting basis under section 729. It is based on paragraph 27 of Schedule 29 to FA 2002.

Section 743: Asset written down at fixed rate

2030.This section provides the tax written-down value when the intangible fixed asset has been written down on the fixed-rate basis under section 730. It is based on paragraph 28 of Schedule 29 to FA 2002.

Section 744: Effect of part realisation of asset

2031.This section provides the tax written-down value when there has been a part realisation of the intangible fixed asset. It is based on paragraph 29 of Schedule 29 to FA 2002.

Chapter 6: How credits and debits are given effect

Section 745: Introduction

2032.This section introduces this Chapter which deals with how effect is given to credits and debits brought into account under this Part. It is based on paragraph 30 of Schedule 29 to FA 2002.

2033.In this Part, accounting gains and accounting losses are translated, respectively, into credits and debits for tax purposes. Although all the credits and debits are brought into account as revenue items, different rules govern how they enter the calculation depending on the nature of the business activity for which the intangible fixed asset in respect of which they arise is held.

Section 746: “Non-trading credits” and “non-trading debits”

2034.This section explains two key terms. It is new.

Section 747: Assets held for purposes of trade

2035.This section incorporates the credits and debits directly into the trade profit calculation if the intangible fixed asset is held for the purposes of a trade. It is based on paragraph 31 of Schedule 29 to FA 2002.

Section 748: Assets held for purposes of property business

2036.This section incorporates the credits and debits directly into the property business profit calculation if the intangible fixed asset is held for the purposes of a property business. It is based on paragraph 32 of Schedule 29 to FA 2002.

2037.Paragraph 32(4) of Schedule 29 to FA 2002 has not been rewritten because it is not necessary. It is intended to make clear that losses of a furnished holiday lettings business consisting of Schedule 29 debits are still to be treated as trade losses but it is difficult to see what alternative, without paragraph 32(4), could ensue. Paragraph 32(4) applies the provisions of section 503 of ICTA which treats all a company’s lettings of furnished holiday accommodation (as defined in section 504 of ICTA) as a separate and single trade for (and only for) the purposes of loss relief although the income remains chargeable as income from property. But paragraph 32(3) of Schedule 29 to FA 2002 already ensures that the furnished holiday lettings profits and other property profits are kept separate. That being the case, the fact that the debits and credits are (under paragraph 32(1) of Schedule 29 to FA 2002) brought into account as part of the separate furnished holiday lettings business identified by paragraph 32(3) would seem to be enough. Once that has taken place, the general corporation tax loss rules (of which section 503 of ICTA is really part) then apply in the ordinary way to the result.

Section 749: Assets held for purposes of mines, transport undertakings, etc

2038.This section incorporates the credits and debits directly into the profit calculation of a relevant business if the intangible fixed asset is held for the purposes of that business. It is based on paragraph 33 of Schedule 29 to FA 2002.

Section 750: Assets held for purposes falling within more than one section

2039.This section provides an apportionment rule. It is based on paragraph 30 of Schedule 29 to FA 2002.

Section 751: Non-trading gains and losses

2040.This section sets out rules to give effect to non-trading credits and debits. It is based on paragraph 34 of Schedule 29 to FA 2002.

Section 752: Charge to tax on non-trading gains on intangible fixed assets

2041.This section applies the charge to corporation tax on income when there is a non-trading gain under section 751. It is based on section 18 of ICTA.

2042.It is necessary because the general charge label of the source referred to in paragraph 34(4) of Schedule 29 to FA 2002 (“Case VI of Schedule D”) ceases to exist in this Act.

Section 753: Treatment of non-trading losses

2043.This section provides for loss relief when there is a non-trading loss under section 751. It is based on paragraph 35 of Schedule 29 to FA 2002.

2044.Relief under this section is subject to a claim in accordance with subsection (2) Under the source legislation a discretionary power of extension of the time limit for the claim is exercised by the Commissioners for HMRC. In practice it would be exercised by an officer of HMRC and the Act reflects that. See Change 1 in Annex 1.

Chapter 7: Roll-over relief in case of realisation and reinvestment

Section 754: The relief: the “old asset” and “other assets”

2045.This section introduces a form of roll-over relief enabling some or all of a credit arising under Chapter 4 of this Part on the realisation of an intangible fixed asset (including goodwill) to be deferred. It is based on paragraph 37 of Schedule 29 to FA 2002.

2046.Subsection (4) is new. The rules in this Chapter deal only with mainstream cases where, broadly, assets already within the intangible fixed assets regime are replaced in arm’s length transactions by a single company by assets that, on acquisition, are also within the regime. This is the simplest case. Subsection (4) gives a signpost to additional, more complex, rules that deal with those cases involving group company and related party transactions as well as transitional interaction with the capital gains rules.

Section 755: Conditions relating to the old asset and its realisation

2047.This section states the conditions for roll-over relief that must be met in respect of the intangible fixed asset that is replaced. It is based on paragraph 38 of Schedule 29 to FA 2002.

2048.Subsection (4) applies to such assets as internally-generated goodwill.

Section 756: Conditions relating to expenditure on other assets

2049.This section states the conditions that must be met in respect of the intangible fixed asset that replaces the old asset. It is based on paragraph 39 of Schedule 29 to FA 2002.

2050.Subsection (1) sets a reinvestment period which is subject to discretionary extension. Under the source legislation this power is exercised by the Commissioners for HMRC. In practice it would be exercised by an officer of HMRC and the Act reflects that. See Change 1 in Annex 1.

Section 757: Claim for relief

2051.This section sets out the required contents of a claim for relief. It is based on paragraph 40 of Schedule 29 to FA 2002.

Section 758: How the relief is given: general

2052.This section states how the relief is given. It is based on paragraph 41 of Schedule 29 to FA 2002.

Section 759: Determination of appropriate proportion of cost and adjusted cost

2053.This section adjusts the cost of the intangible fixed asset that is replaced in cases of part realisation. It is based on paragraph 42 of Schedule 29 to FA 2002.

Section 760: References to cost of asset where asset affected by change of accounting policy

2054.This section modifies the cost of the intangible fixed asset that is replaced, for the purposes of the reinvestment relief rules, in cases where there has been a change of accounting policy resulting in adjustments under Chapter 15 of this Part. It is based on paragraph 42A of Schedule 29 to FA 2002.

Section 761: Declaration of provisional entitlement to relief

2055.This section allows a company reinvestment relief on a provisional basis if it intends to incur expenditure on other assets within the prescribed time limit. It is based on paragraph 43 of Schedule 29 to FA 2002.

Section 762: Realisation and reacquisition

2056.This section treats an intangible fixed asset that is realised and subsequently reacquired as a different asset for the purposes of the reinvestment relief rules. It is based on paragraph 44 of Schedule 29 to FA 2002.

2057.This enables relief to be given where, for example, a company has a change of business plans.

Section 763: Disregard of deemed realisations and reacquisitions

2058.This section gives a general rule that deemed realisations and reacquisitions are ignored for the purposes of the reinvestment relief rules. It is based on paragraph 45 of Schedule 29 to FA 2002.

Chapter 8: Groups of companies: introduction

Section 764: Meaning of “company”, “group” and “subsidiary”

2059.This section gives rules of interpretation. It is based on paragraph 46 of Schedule 29 to FA 2002.

Section 765: General rule: a company and its 75% subsidiaries form a group

2060.This section gives the basic group membership rule for the purposes of the intangible fixed assets regime. It is based on paragraph 47 of Schedule 29 to FA 2002.

Section 766: Only effective 51% subsidiaries of principal company to be members of group

2061.This section imposes an additional group requirement for the purposes of the intangible fixed asset rules. It is based on paragraph 48 of Schedule 29 to FA 2002.

2062.Subsection (2) is new and gives a signpost to the definition of “effective 51% subsidiary”.

Section 767: Principal company cannot be 75% subsidiary of another company

2063.This section gives a general rule that prevents a 75% subsidiary company from being the principal company of a group. It is based on paragraph 49 of Schedule 29 to FA 2002.

2064.Subsection (3) defines the only exception to the general rule.

Section 768: Company cannot be member of more than one group

2065.This section gives a general rule that prevents a company from belonging to more than one group for the purposes of the reinvestment relief rules. It is based on paragraph 50 of Schedule 29 to FA 2002.

2066.If a company is a member of more than one group, this section sets out tests that are applied sequentially to determine to which group that company belongs for the purposes of the reinvestment relief rules.

Section 769: Continuity of identity of group

2067.This section gives a general rule that preserves the identity of a group as long as the same company remains the principal company of the group. It is based on paragraph 51 of Schedule 29 to FA 2002.

Section 770: Continuity where group includes an SE

2068.This section preserves group identity in certain cases involving the formation of an SE. It is based on paragraph 51A of Schedule 29 to FA 2002.

2069.This provision and the other rules specifically concerning SEs remove any uncertainty about their tax position. The section preserves continuity of group identity in the circumstances set out in subsection (1).

legislation.gov.uk

Search Legislation

Corporation Tax Act 2009

You are here: