Section 180 Schedule 20: Controlled Foreign Companies and Foreign Permanent Establishments
Summary
1.Section 180 and Schedule 20 provide for a new regime for controlled foreign companies (CFC) to be inserted as Part 9A of the Taxation (International and Other Provisions) Act 2010 (TIOPA), and repeal the current CFC rules in Chapter 4 of Part 17 of the Income and Corporation Taxes Act 1988 (ICTA). The section and schedule also provide for the new regime to apply, with necessary adaptations, to the rules for foreign permanent establishments (PE) in Chapter 3A of Part 2 of the Corporation Tax Act 2009 (CTA 2009).
2.The new regime introduced by this section will have effect for accounting periods of CFCs beginning on or after 1 January 2013.
Details of the Section
3.Section 180 introduces Schedule 20 which makes provision for rules dealing with CFCs and PEs of UK companies.
Details of the Schedule
Part 1.Controlled Foreign Companies
4.Paragraph 1 of Schedule 20 inserts Part 9A after Part 9 of TIOPA.
Chapter 1 – Introduction
5.Chapter 1 provides an overview of Part 9A, describing what is contained in each chapter and stating that Part 9A is part of the Corporation Tax Acts.
6.New section 371AA(1) and (2) states that the CFC charge will be charged on UK resident companies which have certain interests in CFCs and that this charge will be by reference to the chargeable profits of CFCs (see section 371BA below).
7.New subsection (3) defines a CFC as a non-UK resident company which is controlled by a UK person or persons.
8.New subsection (4) outlines the content of Chapter 2, where the basic details of the CFC charge including the steps to be taken to calculate the charge are set out.
9.New subsections (5) to (10) outline the contents of the subsequent chapters. These include Chapter 3, which sets out how to determine which (if any) of Chapters 4 to 8 apply in relation to the CFC’s profits, and Chapters 4 to 8 which if applicable set out how to determine the CFC’s profits (if any) that pass through the CFC charge gateway.
10.New subsection (11) provides that nothing in Part 9A affects the liability to corporation tax of a non-resident company that is itself within the charge to corporation tax or of the determination of such a company’s chargeable profits under the relevant provisions of CTA 2009.
11.New subsection (12) confirms that Part 9A is part of the Corporation Tax Acts.
Chapter 2 – The CFC Charge
12.New section 371BA outlines the basis on which a CFC charge is to be applied to a UK resident company. The CFC charge is imposed in relation to a CFC’s accounting period only if the CFC has chargeable profits for that period and none of the entity level exemptions set out in Chapters 10 to 14 apply for that period.
13.New section 371BA(3) defines a CFC’s chargeable profits for an accounting period as its assumed taxable total profits (see Chapter 19) for that period, determined on the basis that:
its assumed total profits (see Chapter 19) are limited to those profits that pass through the CFC charge gateway, as explained further in new section 371BB; and
amounts are to be relieved against those profits (as provided for in step 2 of section 4(2) of the Corporation Tax Act 2010 (CTA 2010)) only so far as is just and reasonable, having regard to the limitation of profits passing through the CFC charge gateway.
14.New section 371BB(1) sets out the steps for determining the extent to which a CFC’s assumed total profits for an accounting period pass through the CFC charge gateway.
15.Step 1 is to determine under Chapter 3 which (if any) of Chapters 4 to 8 apply for that period. If none of those Chapters apply step 2 is not to be taken as none of the assumed total profits pass through the CFC charge gateway.
16.Step 2 is to apply Chapters 4 to 8 so far as required by Step 1 to determine how much (if any) of the CFC’s assumed total profits fall within those chapters for the accounting period and hence pass through the CFC charge gateway.
17.New section 371BB(2) provides that subsection (1) is subject to Chapter 9 (exemptions for profits from qualifying loan relationships) and new section 371JE, which provides for adjustments of profits which would otherwise pass through the gateway where the exempt period exemption in Chapter 10 applies.
18.New section 371BC provides that, where there are profits that pass through the CFC charge gateway, the CFC charge is determined in accordance with a series of steps. These are used to work out whether or not a charge arises and, if it does, which UK resident companies are chargeable. The detailed rules that explain how these steps are to be applied are provided by subsequent chapters of Part 9A.
Step 1 of new section 371BC(1) is to determine in accordance with Chapter 15 the persons (the relevant persons) who have relevant interests in the CFC at any time during the accounting period. A CFC charge will arise for an accounting period only where a relevant person meets the UK residence condition set out at new section 371BC(2). If there are no such persons no further steps are to be taken and no CFC charge arises for the accounting period.
Step 2 is to determine the CFC’s creditable tax for the accounting period in accordance with Chapter 16.
Step 3 is to apportion the chargeable profits and creditable tax of a CFC among the relevant persons in accordance with Chapter 17.
Step 4 limits the CFC charge to chargeable companies, which are companies that hold a specified level of interest in the CFC as determined by new section 371BD. If there are no chargeable companies Step 5 is not to be taken and no CFC charge is to be charged for the accounting period.
Step 5 charges the CFC charge on each chargeable company. The charge is a sum equal to the appropriate rate of corporation tax on P% of the CFC’s chargeable profits, less Q% of the CFC’s creditable tax. The appropriate rate, P% and Q% are defined in new section 371BC(3). The charge is calculated as if it were an amount of corporation tax charged on the company for the “relevant corporation tax accounting period” (defined at new section 371BC(3)). This step is subject to the application of new section 371BG (companies holding shares as trading assets etc) and new section 371BH (companies carrying on basic life assurance and general annuity business).
19.New section 371BC(2) sets out the residence condition for step 1, which is met if a company is resident in the UK at a time during the accounting period when it has a relevant interest in the CFC.
20.New section 371BC(3) defines a number of terms for the purposes of taking Step 5 and charging the CFC charge in relation to a chargeable company.
21.New section 371BD(1) in effect provides the definition of a “chargeable company” where a company meets the residence condition (of section 371BC(2)). Such a company is a chargeable company if the percentage of the chargeable profits apportioned to it, together with the percentages of the chargeable profits (if any) apportioned to relevant persons connected or associated with it at any time during the accounting period, are at least 25 per cent of the total chargeable profits of the CFC. So if, following Step 3 of section 371BC(1), two UK resident companies which are members of the same group, respectively have 90 per cent and 10 per cent of the CFC’s chargeable profits apportioned to them, they are both chargeable companies. New section 371BD(1) is subject to the application of new section 371BE (companies which are managers of offshore funds) and new section 371BF (companies which are participants in offshore funds).
22.New section 371BE removes from charge, for the purposes of step 4 of section 371BC(1), companies which are managers of offshore funds and hold a relevant interest in a CFC by virtue of an investment made in order to “seed” a fund. Four conditions must be met. They are set out at new section 371BE(1) as follows:
the CFC is an offshore fund (as defined in section 355);
the genuine diversity of ownership condition set out in regulation 75 of the Offshore Funds (Tax) Regulations 2009 (S.I. 2009/3001) is met in relation to the fund;
the fund management condition is met; and
apart from this section, a sum of no more than £500,000 would be charged on C as a chargeable company at Step 5 in section 371BC(1). This is reduced proportionately where the accounting period is less than 12 months.
23.The fund management condition at new section 371BE(3) itself comprises three conditions. At all times during the accounting period during which a company has a relevant interest in the offshore fund;
the assets of the offshore fund must be managed by the company with a relevant interest or by a person connected with that company;
either the company or the connected person must receive a fee for managing the assets; and
the company’s relevant interests in the offshore fund must be held only or mainly for the purpose of attracting participants in the offshore fund not connected with the company. Participants are defined in section 362.
24.New section 371BF provides circumstances in which companies which are participants in offshore funds will not be chargeable companies. Difficulties can occur in identifying when a UK company with an interest in an offshore fund may fall to be a chargeable company when the relevant interest may be close to the 25 per cent threshold set at section 371BD. This is because the proportionate holding in an offshore fund may fluctuate as by their nature offshore funds acquire and lose investors over time.
25.New section 371BF(1) deems a company not to be a chargeable company for the purposes of Step 4 in section 371BC(1) if:
the CFC is an offshore fund (as defined in section 355);
at the relevant time and at all subsequent relevant times, the company reasonably believes that the requirement of section 371BD(1) will not be met in relation to it (the 25 per cent requirement); and
the meeting of the 25 per cent requirement in relation to the company is in no way attributable to any step:
which was taken by the company or any person connected or associated with the company, and
which, at the time it was taken, could reasonably have been expected to cause the 25 per cent requirement to be met.
26.Thus where a CFC is an offshore fund, a company participating in the fund will not be a chargeable company provided that at particular points during the accounting period (see below) it reasonably believes that its interest does not exceed the 25 per cent requirement, and provided that if the 25 per cent requirement is exceeded the cause is not directly attributable to the participant company or any persons connected or associated with it.
27.New subsection (2) defines the “relevant time” at which the participant company must hold the reasonable belief regarding its interest. The relevant time is the beginning of the accounting period, or if the company has no relevant interests in the offshore fund at the beginning of the accounting period, the time when the company first has a relevant interest during the accounting period.
28.New subsection (3) determines that any “subsequent relevant time” for considering the reasonable belief of the participant company is any time during the accounting period at which there is an increase or some other change in the relevant interests of the company to which the section applies.
29.New section 371BG modifies the calculation of the CFC charge for the relevant corporation tax accounting period where the chargeable company has a relevant interest that is a direct or indirect shareholding in a CFC. The section applies if the chargeable company treats any increase in the value of those shares and any distributions received from them as income for the purposes of its charge to corporation tax.
30.New section 371BG(1) provides that new subsection (2) applies to a chargeable company that holds a relevant interest in a CFC if conditions A to C are met at all times during the CFC’s accounting period.
31.New subsections (2) and (3) modify the operation of Step 5 in section 371BC(1). The modification in effect omits as much of the amounts P% and Q% as reflects the relevant interest as described in section 371BG, without affecting any CFC charge that may arise from any other relevant interest.
32.P% and Q% in Step 5 refer respectively to the proportions of the CFC’s chargeable profits and its creditable tax that are taken into account in calculating the chargeable company’s CFC charge.
33.New subsection (4) sets out Condition A which is met if the relevant interest or the part of a relevant interest is held by way of a direct or indirect holding by the chargeable company of shares in the CFC.
34.New subsection (5) sets out Condition B which is met if any increase in the value of the shares mentioned in Condition A is brought into account in determining the income of the chargeable company for corporation tax purposes.
35.New subsection (6) sets out Condition C which is met if any dividend or other distribution received by the chargeable company directly or indirectly from the shares mentioned in Condition A is brought into account in determining its income for corporation tax purposes.
36.New subsections (7) and (8) provide that Conditions B and C are taken to be met if:
the chargeable company has the relevant interest mentioned in Condition A only by virtue of new section 371OB(3) (an interest held by an open-ended investment company) or new section 371OB(4) (an interest held by the trustees of an authorised unit trust);
the CFC is an offshore fund (within the definition of section 355) that does not meet the qualifying investments test in section 493 of CTA 2009 (i.e. it is a ‘bond fund’); and
Conditions B and C would be met if the offshore fund met the qualifying investments test.
37.New subsection (9) provides that section 371BG is subject to new section 371BH (companies carrying on basic life assurance and general annuity business), which has the effect of restoring the CFC charge if certain conditions are met.
38.New section 371BH modifies the application of Step 5 of new section 371BC(1) for companies that carry on basic life assurance and general annuity business (BLAGAB).
39.New section 371BH(1) sets out the conditions to be met if Step 5 at new section 371BC(1) is to be taken in line with new section 371BH(2) and (3). The conditions are:
the chargeable company carries on BLAGAB during the relevant corporation tax accounting period;
the life insurance I - E rules apply to the chargeable company for the relevant corporation tax accounting period; and
certain conditions set out in the section are met in relation to a relevant interest that the chargeable company holds in a CFC at all times during the CFC’s accounting period. Conditions D and G must both be met and at least one of Conditions E or F must be met for the section to apply.
40.New subsection (2) provides for additional sum to be charged on the chargeable company and step 5 in section 371BC(1) is to be taken on the basis set out in new subsection (3).
41.New subsection (3) in effects limits the additional sum charged in relation to the relevant interest of the chargeable company to the policyholders’ share of the BLAGAB component of the CFC’s apportioned profit (see subsection (11) below), which is charged at an ”appropriate rate”.
42.The appropriate rate is determined by reference to section 102 of the Finance Act 2012 (FA 2012), or an average rate where there is more than one such rate over the relevant corporation tax period. The CFC’s creditable tax to be apportioned to the chargeable company is calculated by reference to the proportion that the policyholders’ share of the BLAGAB component of the apportioned profit is of the whole of the apportioned profit.
43.New subsection (4) defines Condition D which is met if the relevant interest or the part of a relevant interest is held by way of a direct or indirect holding by the chargeable company of shares in the CFC.
44.New subsections (5) and (6) define Condition E which is met if no part of any increase in the value of the shares mentioned in Condition D is brought into account at step 1 in section 73 of FA 2012 in determining the income of the chargeable company for the purposes of the I-E profit computation for the relevant corporation tax accounting period.
45.New subsections (7) and (8) define Condition F which is met if no part of any dividend or other distribution received by the chargeable company directly or indirectly from the shares mentioned in Condition D is brought into account at step 1 in section 73 of FA 2012 in determining the income of the chargeable company for the purposes of the I-E profit computation for the relevant corporation tax accounting period.
46.New subsection (9) defines condition G which is met if any part of the shares mentioned in Condition D is held for the purposes of the chargeable company’s long term business.
47.New subsection (10) defines ‘the apportioned profit’ as the part of P% that is attributable to the relevant interest or the part of a relevant interest mentioned in Condition D (CC’s relevant interest).
48.New subsection (11) sets out the steps required to determine the “BLAGAB component” of the apportioned profit:
first assume that the apportioned profit was income paid to CC at the end of the CFC’s accounting period that is brought into account for the purpose of computing its life insurance profits;
on the basis of that assumption, determine how much of the apportioned profit would be referable to CC’s BLAGAB business. That amount is the ‘BLAGAB component’ of the apportioned profit.
49.New subsection (12) explains that the “policyholders’ share” of the BLAGAB component is equal to the policyholders’ share of the I-E profit for the relevant corporation tax accounting period as determined by Chapter 5 of Part 2 of FA 2012.
Chapter 3 - The CFC charge gateway: determining which (if any) of Chapters 4 to 8 apply
49.Chapter 3 of Part 9A applies for the purposes of Step 1 of section 371BB in order to determine which (if any) of Chapters 4 to 8 need to be considered in determining whether any of a CFC’s profits pass through the CFC charge gateway. If Chapter 3 does not require any of Chapters 4 to 8 to be applied there will be no CFC charge.
50.New section 371CA provides that Chapter 4 (profits attributable to UK activities) will apply for a CFC’s accounting period unless any one of four conditions (A to D) is met.
51.Condition A at new section 371CA(2) is met if the CFC does not, at any time in the accounting period, hold assets or bear risks under an arrangement to which both new subsections (3) and (4) apply. These subsections apply where:
the main purpose, or one of the main purposes, of the arrangement is to reduce or eliminate any liability of any person to UK tax or duty;
the CFC expects the arrangement to increase the profits of its business at some time by more than a negligible amount; and
there is an expectation that one or more persons will have liabilities to tax or duty imposed under the law of any territory reduced or eliminated and it is reasonable to suppose that the arrangement would not have been made without there being that expectation.
52.Condition B at new subsection (5) is met if the CFC has no UK managed assets and bears no UK managed risks at any time during the accounting period.
53.Condition C at new subsection (6) is met if the CFC has itself the capability throughout the accounting period to ensure that its business would be commercially effective if its UK managed assets and risks were to stop being UK managed.
54.New subsection (7) specifies that, for the purpose of Condition C, the required capability includes the CFC being able to select providers of goods and services from persons not connected with it and to manage its transactions with such persons.
55.New subsection (8) requires two assumptions to be made in determining whether Condition C is met at any time during the accounting period. The first assumption is that the CFC would continue to carry on the same business as it is actually carrying on at that time. The other assumption is that none of the relevant UK activities, by which any asset or risk was UK managed, would be replaced by activities carried on by any person connected with the CFC at any time, or in any other way which relied to any extent upon the CFCs receiving resources or other assistance from any person connected with the CFC at any time.
56.New subsection (9) determines that an asset or risk is “UK managed” if any of the functions specified in the subsection are managed or controlled to any significant extent through relevant UK activities.
57.New subsection (10) defines relevant UK activities as activities carried on in the UK either by the CFC itself (unless through a UK permanent establishment) or by companies connected with the CFC. In the latter case the meaning is limited to activities under arrangements which it is reasonable to suppose would not be entered into by companies that were independent of each other.
58.Condition D at new subsection (11) is that the CFC’s assumed total profits only consist of (one or both of):
non-trading finance profits; or
property business profits.
59.New section 371CB(1) provides that Chapter 5 (non-trading finance profits) applies for a CFC’s accounting period only if the CFC has non-trading finance profits. This is subject to new sections 371CC and 371CD, which deal with incidental non-trading finance profits. The references to non-trading finance profits in the section and Chapter 5 exclude any profits that fall within Chapter 8 (solo consolidation) or within new section 371CB(3) or (4).
60.New section 371CB(3) excludes profits which arise from the investment of funds held for the purposes of a trade if that trade is carried on by a CFC and no profits of that trade for the accounting period pass through the CFC charge gateway
61.New subsection (4) excludes profits which arise from the investment of funds held by the CFC for the purposes of its UK or overseas property business.
62.New subsection (5) sets out a number of circumstances in which the exclusions in subsections (3) and (4) will not apply. Those exclusions will not apply to non-trading finance profits arising from funds held:
because of a prohibition or restriction on CFCs paying dividends or making other distributions, except those ceasing to have effect before the end of the “relevant 12 month period”, imposed under:
the law of the territory in which the CFC is resident;
the articles of association or other documentation governing the manner in which distributions may be made by the CFC; or
an arrangement entered into by or in relation to the CFC;
with a view to paying dividends or other distributions at a time after “the relevant 12 month period”;
(“the relevant 12 month period” is defined in new subsection (7) as being 12 months after the end of the accounting period)
with a view to acquiring shares in any company, or making a capital contribution to a person;
with a view to investing in land at a time after the relevant 12 month period;
only or mainly for contingencies; or
in order to reduce or eliminate a tax or duty imposed by any territory.
63.New subsection (8) provides that where a chargeable company makes a claim under Chapter 9 (exemptions for profits from qualifying loan relationships) its qualifying loan relationship profits are excluded from the references to non-trading finance profits in this section and in Chapter 5.
64.New section 371CC applies if one or both of the requirements of new section 371CC(1) is met. These are:
that the CFC has trading or property business profits (or both);
that the CFC has exempt distribution income and at all times during the accounting period a substantial part of its business of the CFC is the holding of shares or securities in companies which are its 51 per cent subsidiaries.
65.New section 371CC(2) provides that Chapter 5 will not apply for an accounting period if the CFC’s non-trading finance profits are not more than 5 per cent of the relevant amount, as defined in section 371CC(3).
66.New subsection (3) defines “the relevant amount” with reference to whether one or both of the requirements are met. If (a) is met then the relevant amount is the total of trading or property business profits, as calculated before any deduction for interest or any tax or duty. If (b) is met the amount is the total of the CFC’s exempt distribution income. If both (a) and (b) are met the amount is the sum of the two totals. New subsection (9) defines “exempt distribution income” as any dividends or other distributions which are excluded from the assumed total profits of the CFC because they would be exempt under Part 9A of CTA 2009.
67.New subsections (4) and (5) apply if requirement (b) is met and at any time during the accounting period a 51 per cent subsidiary of the CFC is also a CFC (“the CFC subsidiary”) which has relevant non-trading finance profits determined in accordance with new subsection (6) or (7). In that case the CFC subsidiary’s relevant non-trading finance profits are to be added in with the non-trading finance profits of the CFC for the purposes of testing the 5 per cent limit.
68.New subsections (6) and (7) define the CFC subsidiary’s “relevant non-trading finance profits” with reference to whether it has an accounting period that is the same as or falls wholly within that of the CFC, or if it has an accounting period which otherwise overlaps with that of the CFC.
69.Subsection (6) deals with a CFC subsidiary whose accounting period either matches or falls entirely within the accounting period of the holding company CFC, provided that by virtue of new sections 371CC or 371CD, Chapter 5 does not apply to the CFC subsidiary for the relevant period. The relevant non-trading finance profits of such a CFC are its non-trading finance profits for the relevant period.
70.Subsection (7) deals with a CFC subsidiary whose accounting period overlaps with the accounting period of the holding company CFC, again provided that by virtue of sections 371CC or 371CD, Chapter 5 does not apply to the CFC subsidiary for the relevant period. The relevant non-trade financing profits of such a CFC are a just and reasonable proportion of its non-trading finance profits for that period.
71.New subsection (8) excludes any trading profits that pass through the CFC charge gateway for the accounting period from trading profits for the purposes of this section.
72.New section 371CD applies where both the requirements of section 371CC(1)(a) and (b) are met but the CFC’s tested non-trading finance profits exceed 5 per cent of the relevant amount for the purposes of section 371CC(2). In that case new section 371CD(2) provides that Chapter 5 does not apply for the accounting period if the CFC’s adjusted non-trading finance profits do not exceed 5 per cent of the total of the CFC’s exempt distribution income.
73.New subsection (3) defines the CFC’s adjusted non-trading finance profits as all of its non-trading finance profits less those arising from the investment of funds held for the purposes of the CFC’s trade and/or property business within section 371CB(3) or (4).
74.New subsection (5) applies if a CFC subsidiary’s relevant non-trading profits are added to the CFC’s non-trading finance under section 371CC(5) for the purposes of the test at section 371CC(2). It specifies that the adjusted non-trading finance profits for the test in section 371CD(2) are also to include the CFC subsidiary’s relevant non-trading finance profits.
75.The effect of the further 5 per cent rule at section 371CD for a ‘mixed activity’ CFC not within the 5 per cent limit of section 371CC is that Chapter 5 will apply to any non-trading finance profits that are not incidental to its trade or property business, unless that amount is within 5 per cent of the CFC’s exempt distribution income.
76.New section 371CE provides that Chapter 6 (trading finance profits) applies for a CFC’s accounting period only if the CFC has trading finance profits and at any time during the accounting period the CFC has funds or other assets derived directly or indirectly from UK connected capital contributions.
77.New section 371CE(2) provides that Chapter 6 will not apply and that trading finance profits will be treated as if they were non-trading finance profits if the CFC is a group treasury company in the accounting period who has issued a notice to an Officer of HM Revenue & Customs requesting this treatment.
78.New section 371CE(3) provides that where a group treasury company issues a notice under section 371CE(2) then those profits will not be treated as non-trading finance profits falling within section 371CB(3) and (4). These subsections exclude non-trading finance profits from the application of Chapters 5 and 9 where they have arisen from the investment of funds held for the purposes of an exempt trade or property business. As a result a group treasury company who has issued a notice will also not be able to exclude any of its finance profits under the incidental non-trading finance profit rules in sections 371CC and 371CD.
79.New subsection (4) applies the definition of group treasury company at section 316.
80.The group treasury company notice provisions work in accordance with the worldwide debt cap rules at Part 7. Those rules do not apply to groups that are not large. New subsection (5) ensures that a group that is not large is able to issue a notice under section 371CE(2).
81.New subsections (6) to (8) set out the requirements for issuing a notice under this section, which must be within 20 months after the end of the accounting period or a longer period that an Officer of HM Revenue & Customs may allow.
82.New subsection (7) allows a company to issue a notice if it would be a chargeable company under section 371BC for the accounting period and the percentage of the CFC’s chargeable profits to be apportioned to it would be more than half of the percentage specified in subsection (9).
83.New subsection (8) allows two or more companies to issue a notice if they would be chargeable companies under section 371BC for the accounting period and the percentage of the CFC’s chargeable profits to be apportioned to them, taken together, would be more than half of the percentage specified in subsection (9).
84.New subsection (9) gives the percentage (X%) for the purposes of subsections (7) and (8) as the total percentage of the CFC’s chargeable profits which would be apportioned to chargeable companies if the CFC charge was charged for the accounting period.
85.New section 371CF provides that Chapter 7 (captive insurance business) applies for a CFC’s accounting period only if at any time in that period the main part of its business is insurance business and its assumed total profits include amounts derived from contracts of insurance as specified in new subsection 371CF(2). These are contracts entered into with:
a UK resident company connected with the CFC;
a non-UK resident company connected with the CFC and acting through a UK permanent establishment; or
a UK resident person where the contract is linked to the provision of goods or services to the UK resident person. This excludes services provided as part of insurance business.
86.New section 371CG provides that Chapter 8 (solo consolidation) only applies for a CFC’s accounting period if either of two conditions is met. The first condition is that at any time in the period the CFC is a subsidiary undertaking which is the subject of a solo consolidation waiver under section BIPRU 2.1 of the FSA Handbook, and the CFC’s parent undertaking in relation to that waiver is a UK resident company.
87.The second condition is that at any time in the period the CFC is controlled by a UK resident bank (alone or with other persons) which holds shares in the CFC, and any fall in the value of those shares would be (wholly or mainly) ignored for the purpose of determining whether the UK resident bank meets the requirements of the FSA Handbook in relation to it’s capital. This is limited to where the main purpose, or one of the main purposes, of the UK resident bank in holding the shares is to obtain a tax advantage for itself or any connected company.
88.Solo consolidation is an arrangement whereby the FSA allows a regulated financial company to treat an unregulated subsidiary for regulatory purposes as if it were a division of the regulated company. A company that wishes to solo consolidate must apply to the FSA for a waiver.
89.New section 371CG(4) provides definitions of the terms “FSA Handbook” and “UK resident bank” used in the section. Subsections (5) and (6) provide that the Treasury may by regulations amend the chapter, or Chapter 8, to take account of changes to or replacement of the relevant regulatory publications.
Chapter 4 - the CFC charge gateway: profits attributable to UK Activities
90.Chapter 4 applies subject to the conditions given in section 371CA. It determines whether any of a CFC’s assumed total profits pass through the CFC charge gateway (see section 371BB) because of UK activities that contribute to those profits. New section 371DB sets out the steps by which any profits falling within this chapter are calculated, but this is subject to the exclusions provided for in the rest of Chapter 4.
91.New section 371DA introduces the Chapter. New section 371DA(2) excludes non-trading finance profits and property business profits from the CFC’s assumed total profits for the purposes of the Chapter.
92.New subsection (3) defines, for the purposes of the Chapter, the following terms: “the OECD Report”, “the CFC group”, “the provisional Chapter 4 profits”, “the relevant assets and risks”, “SPF”, “UK SPF” and “non-UK SPF”. Subsection (3)(b) specifies that terms used which are also used in the OECD Report have the same meaning for the purposes of the Chapter as they have in that report.
93.New subsection (4) provides that the Treasury may by regulations amend Chapter 4 to take account of any “relevant document” published by the OECD. New subsection (5) defines “relevant document” as one which replaces, updates or supplements the OECD Report, or one that replaces, updates or supplements one which is itself a “relevant document”.
94.New section 371DB(1) sets out the steps to determine the Chapter 4 profits which are to be taken in accordance with the principles set out in the OECD Report so far as relevant.
Step 1 is to identify the assets the CFC has or has had and the risks it bears or has borne, in so far as they give rise to the CFC’s profits. It calls these “the relevant assets and risks”.
Step 2 is to exclude from the relevant assets and risks any asset or risk if the CFC’s assumed total profits are only negligibly higher than they would have been if the CFC had not held that asset or borne that risk to any extent at all. This exclusion applies only if the excluded assets or risks together increase the CFC’s profits by only a negligible amount (see new section 371DB(2) to (4))
Step 3 is to identify, based on the assumption that the CFC group is a single company, the SPFs carried out by the CFC group which are relevant to the economic ownership of assets and the taking on and management of risks. The assets and risks that this step is concerned with are those included in the relevant assets and risks from Step 2.
Step 4 is to determine the extent to which the SPFs identified in the previous step are UK SPFs and the extent to which they are non-UK SPFs. If none of them is a UK SPF, then no profits fall within Chapter 4 and no further steps are to be taken.
Step 5 is to assume that the identified UK SPFs are carried out by a UK permanent establishment of the CFC and then to determine the extent to which the assets and risks identified at Step 1 would be attributed to that permanent establishment. It is also assumed for this step that any non-UK SPFs are carried out by the CFC itself.
Step 6 is to exclude assets and risks to which new section 371DC (see below) applies from the relevant assets and risks.
Step 7 is to re-determine the CFC’s assumed total profits as if the CFC did not hold the assets and did not bear the risks included in the relevant assets and risks so far as they would be attributed to the permanent establishment at Step 5. “The provisional Chapter 4 profits” are defined as the amount of CFC’s assumed total profits left out of the Step 7 re-determined profits.
Step 8 is to determine the profits that fall within the Chapter by excluding from the provisional Chapter 4 profits amounts excluded by new sections 371DD to 371DF.
95.New section 371DC provides for the exclusion of assets and risks at Step 6 in section 371DB(1) where most of the SPFs are not UK SPFs. New section 371DC(1) applies the exclusion to an asset or risk included in the relevant assets and risks where amount A is not more than 50 per cent of amount B. Amounts A and B are defined by subsections (2) and (3) respectively.
96.New subsection (2) defines amount A as the total of the gross amounts of the CFC’s income defined by subsection (2)(a) and additional expenses defined by subsection (2)(b).
97.The gross amounts of the CFC’s income are those that would not have become receivable during the accounting period if the CFC had not held the asset or borne the risk so far as it would be attributed to the permanent establishment mentioned at step 5 in section 371DB(1). An example of such a receipt is a royalty (or part royalty) that the CFC would not have received if it did not hold the relevant Intellectual Property (IP) (or did not hold the whole of it).
98.The additional expenses are those that the CFC would have incurred if it had not held the asset or borne the risk so far as it would be attributed to the permanent establishment mentioned at step 5. An example of such an expense would be a royalty for the use of IP that the CFC would have to pay if it did not hold the IP itself (or did not hold the whole of it).
99.New subsection (3) defines amount B as the total of the gross amounts of the CFC’s income defined by subsection (3)(a) and additional expenses defined by subsection (3)(b). The gross amounts of the CFC’s income are those that would not have become receivable during the accounting period if the CFC had not held the asset or borne the risk to any extent at all. The additional expenses are those that the CFC would have incurred if it had not held the asset or borne the risk to any extent at all.
100.The exclusion therefore applies if the attribution of assets or risks to UK SPFs required by Step 5 of section 371DB reduces gross income, or increase expenses by less than half of the amount that would follow if the assets or risks were not owned or borne by the CFC at all.
101.New subsections (4) and (5) provide for a bundle of assets or of risks to be treated as if it were a single asset or risk for the purposes of this section. Assets or risks are bundled in this way if it is not reasonably practicable to separate them for the purpose of identification of SPFs.
102.New section 371DD excludes amounts from the provisional Chapter 4 profits where substantial economic value, other than tax savings, arises from the CFC’s holding of assets or its bearing of risks.
103.New section 371DD(1) and (2) exclude amounts from its provisional Chapter 4 profits if:
the CFC’s holding of the asset or its bearing of the risk gives rise to non-tax value for the CFC group; and
that value (as qualified by subsection (4)) is a substantial proportion of the “net economic value” resulting from the CFC’s holding the assets or bearing the risks.
104.New subsection (3) defines the term “net economic value” used in subsection (2). It excludes value directly or indirectly derived from the reduction or elimination of any person’s liability to tax or duty imposed under the law of any territory outside the United Kingdom.
105.New subsection (4) defines the term “relevant non-tax value” used in subsection (2). It is the part of the value which results from the CFC holding the asset or bearing the risk that does not derive from the reduction or elimination of any person’s UK tax or duty.
106.Overall therefore, non-tax value which results from the CFC holding the asset or bearing the risk is compared to the aggregate of non-tax value and value derived from the UK tax advantage. Foreign tax effects are wholly disregarded for the purposes of this comparison.
107.New subsections (5) and (6) provide for a bundle of assets or of risks to be treated as if it were a single asset or risk for the purposes of this section. Assets or risks are bundled in this way if it is not reasonably practicable to separate them for the purpose of identification of SPFs.
108.New section 371DE excludes amounts from the provisional Chapter 4 profits where they arise from arrangements that independent companies would have entered into.
109.New section 371DE(1) sets out the circumstances in which subsection (2) will apply.
110.New subsection (2) excludes the amount arising from the arrangements identified in subsection (1), if it is reasonable to suppose that if the UK SPFs were not carried out by companies connected with the CFC then the CFC would enter into arrangements with companies it was not connected with and that those arrangements would:
be structured in the same way as the actual arrangements; and
have the same commercial effect in relation to the CFC’s business.
111.New subsections (3) and (4) provide for a bundle of assets or of risks to be treated as if it were a single asset or risk for the purposes of this section. Assets or risks are bundled in this way if it is not reasonably practicable to separate them for the purpose of identification of SPFs.
112.New section 371DF introduces an exclusion from Chapter 4 for trading profits. If all the conditions for the exclusion to apply are met, then all the trading profits of the CFC are excluded from the provisional Chapter 4 profits, and therefore exempt from a CFC charge.
113.With the exception of the management expenditure condition in new section 371DI, the conditions only apply on an entity basis, so that a CFC as a whole will either meet or fail the conditions. The conditions provide an alternative to consideration of the detailed SPF provisions in Chapter 4.
114.New section 371DF(1) sets out the conditions to be met. Those conditions are set out in subsequent sections, and relate to:
business premises;
UK Income;
management expenditure;
IP; and
export of goods from the UK.
115.New section 371DF(2) also excludes trading profits from a CFC charge under Chapter 4 in accordance with the management expenditure condition in new section 371DI. The management expenditure condition can be applied to the whole of a CFC or to certain assets or risks of the CFC. This subsection allows for trading profits which arise from certain assets or risks to be excluded from a CFC charge.
116.New subsection (3) provides that the exclusion is subject to an anti-avoidance rule in section 371DL.
117.New section 371DG sets out the business premises condition. New section 371DG(2) requires the CFC to have premises with a degree of permanence in its territory of residence throughout the accounting period, and that those premises are the sole or main base from which the CFC’s activities in that territory are carried on.
118.New subsection (3) defines premises to include an office, factory, mine or oil well, and a building site where the work will last at least 12 months.
119.New section 371DH sets out the UK income condition. New section 371DH(2) requires that no more than 20 per cent of the CFC’s “relevant trading income” comes directly or indirectly from UK resident persons or UK permanent establishments.
120.New subsection (3) defines “relevant trading income” as the trading income of the CFC excluding any income from UK sales of goods produced in the CFC’s territory of residence.
121.New subsections (4) and (5) set out an alternative UK income condition for a CFC whose main business is banking business which is regulated in its territory of residence. The condition is that the “relevant UK trading income” is no more than 10 per cent of the CFC’s total trading income. For this purpose, new subsection (6) defines “relevant UK trading income” as trading income derived directly or indirectly from UK resident persons or UK permanent establishments, excluding interest received from UK resident companies which are connected or associated with the CFC.
122.New subsection (7) restricts the application of the trading income condition in relation to income from UK companies which have made an exemption election in relation to PEs. In such cases, income is disregarded if the corresponding expense is taken into account for the purposes of section 18A of CTA 2009.
123.New section 371DI sets out the management expenditure condition.
124.New section 371DI(2) and (3) limit “UK related management expenditure” to 20 per cent of “total related management expenditure”
125.New subsection (3) defines “total related management expenditure” as the total expenditure incurred by the CFC in relation to staff or other individuals who carry out “relevant management functions.” A relevant management function is defined in new subsection (5) as a function whereby a person manages or controls any of the relevant assets or risks of the CFC. Relevant assets or risks are defined at section 371DB(1) as assets and risks which give rise to profits.
126.The expenditure incurred by the CFC is categorised in subsection (3)(a) to (c) and covers expenditure incurred on staff or other individuals, and on the engagement of related companies. The related companies’ expenditure is itself limited to amounts which relate to the engagement of staff or other individuals.
127.Expenditure in relation to individuals who are not members of staff is included in related management expenditure if those individuals carry out relevant management functions as the result of an arrangement between the CFC or related company and that individual.
128.New subsection (4) defines “UK related management expenditure” as related management expenditure which relates to staff or other individuals who carry out relevant management functions in the UK.
129.New subsection (6) provides an example of a person carrying out relevant management functions, as a person who formulates plans or makes decisions in relation to the acquisition, creation, development or exploitation of assets, or the taking on or bearing of risks. This definition matches the definition of assets or risks that are “UK managed” which is provided by section 371CA(4) in Chapter 3, which determines whether Chapter 4 applies.
130.New subsections (7) to (9) apply in circumstances where the 20 per cent management expenditure condition in subsection (2) is not met, but all the other trading income safe harbour conditions are met. If, for any given asset or risk, the UK related management expenditure is not more than 50 per cent of the total related management expenditure for that asset or risk, then this 50 per cent condition is met and the trading profits which arise from that asset or risk are excluded from the provisional Chapter 4 profits (see Step 7 of section 371DB(1)).
131.New subsections (10) and (11) allow assets or risks which it is not reasonably practicable to separate for the purposes of the 50 per cent condition set out in subsections (7) to (9) to be considered together in the application of that condition.
132.New section 371DJ sets out the IP condition.
133.The condition is met unless IP has been transferred to the CFC from related parties in the UK within the previous six years and the transfer has had a significant impact on the profits of the CFC, the total IP held by the CFC, or the value of IP held by the transferor.
134.New section 371DJ(2)(a) defines “the exploited IP”. New section 371DJ(2)(b) then asks whether any of that exploited IP was transferred to the CFC by related parties at any time during the accounting period or the previous six years (see subsection (5)) or otherwise derived (directly or indirectly) out of or from IP held at times during that period by persons related to the CFC.
135.New subsection (2)(c) asks whether, as a result of those IP transfers, the value of IP held by the related party transferors is significantly less than it would otherwise have been.
136.New subsection (2)(d) then applies the significance condition in all cases where the transferred (or derived) IP is less than the total exploited IP held by the CFC. In cases where all of the exploited IP has been transferred to the CFC by related parties (or otherwise derived as mentioned in subsection (2)(b)), the significance condition does not apply.
137.New subsection (3) contains the significance condition, which is met if IP which has been transferred from the UK (or otherwise derived as mentioned in subsection (2)(b)) forms a significant part of the total exploited IP of the CFC, or if the transfer (or other derivation) of IP from the UK produces CFC profits which are significantly higher than they otherwise would have been. The part of the exploited IP transferred from the UK is referred to as “the UK derived IP”.
138.New subsection (4) limits the scope of the section in relation to transfers or holding of IP from non-UK resident related persons. Such transfers or holding of IP are relevant only if the IP was held for the purposes of a UK permanent establishment of the non-UK resident person.
139.New subsection (5) defines “the relevant period” as the period covering the accounting period and the previous six years.
Example of Application of IP Condition
140.A CFC holds IP (exploited IP). Some of this IP has been generated by the CFC’s own trading activity. The rest has been transferred to the CFC from a related company in the UK within the past six years.
141.Prior to transfer, the transferred IP was around 40 per cent of the total IP (by balance sheet value) held by the UK related company transferor. The UK derived IP constitutes 25 per cent of the exploited IP of the CFC (by balance sheet value).
142.As a result of the transfer the CFC’s assumed total profits are 30 per cent higher than they otherwise would have been. The assumed total profits of the CFC do include amounts arising from IP – section 371DJ(2)(a).
143.Parts of the exploited IP were transferred from persons related to the CFC during the relevant period – section 371 DJ(2)(b). The related person was a UK related person, so the limitation required by section 371DJ(4) does not apply.
144.As a result of the transfer, the value of IP held by the transferor has been significantly reduced – section 371DJ(2)(c).
145.As only part of the exploited IP has been so transferred, the significance condition has to be considered – section 371DJ(2)(d).
146.The UK derived IP (the transferred IP) is a significant part of the exploited IP, and the profits of the CFC are significantly higher as result of that transfer – section 371DJ(3)(a) and (b). Note that only one of these conditions has to be met in order for the significance condition to be met.
147.Application of section 371DJ in this case means that the IP condition is not met – and therefore the trading profits exclusion cannot apply.
148.New section 371DK provides that the export of goods condition is met if no more than 20 per cent of the total trading income of the CFC arises from goods exported from the UK. However, goods which are exported from the UK into the CFC’s territory of residence are disregarded.
149.New section 371DL provides an anti-avoidance measure for the trading profits exclusion. The section applies if it is reasonable to assume that the various conditions would not have been met in the absence of an arrangement. An arrangement falls within this section if one of the main purposes of an organisation or reorganisation of a significant part of the business of the CFC group is to ensure that one or more of the conditions are met. This includes the 50 per cent asset or risk management expenditure condition (for which see section 371DI).
Chapter 5 – The CFC charge gateway: non-trading finance profits
150.Chapter 5 is the charge gateway for non-trading finance profits within the main charging provision at new section 371BA(3)(a). Such profits are any non-trading finance profits that are included within the CFC’s assumed total profits for the accounting period, so far as they fall within one of more of new sections 371EB to 371EE. These sections apply where the CFC has non-trading finance profits derived from one or more of the following categories:
UK SPFs;
UK capital investment;
arrangements (typically loans) with the UK; and
UK finance leases.
151.Non-trading finance profits are defined in new section 371VG(1) to (3). They are profits from loan relationships which would be chargeable to corporation tax under section 299 of CTA 2009 and non-exempt distributions within Part 9A of CTA 2009. Non-trading finance profits also include profits arising from a relevant finance lease as defined at new section 371VA.
152.Section 371CE(2) also provides for the trading finance profits of a group treasury company to be treated as non-trading finance profits where a notice is issued to an Officer of HM Revenue and Customs. This rule enables a group treasury company that has trading finance profits to access the non-trading finance profits rules at Chapter 5 (and the finance company exemptions within Chapter 9). Once a notice has been issued the deemed non-trading finance profits become chargeable profits of a CFC only if they fall within one or more of new sections 371EB to 371EE.
153.New section 371EB includes within Chapter 5 any non-trading finance profits that are attributable to UK activities. The profits are calculated by applying Steps 1 to 5 and 7 at section 371DB to the CFC’s non-trading finance profits. By excluding Step 6 of that section from the calculation, profits are brought into charge without the limitation imposed by section 371DC for cases where less than 50 per cent of the SPFs attributable to managing the asset or risk associated with the non-trading finance profits are UK SPFs.
154.New section 371EC includes within Chapter 5 any non-trading finance profits so far as they arise from the investment of “relevant UK funds or other assets”. For these purposes “UK funds” are monetary assets and “other assets” are non-monetary assets.
155.The calculation of the profits that pass through the CFC charge gateway by virtue of the profits falling within Chapter 5 takes account of any expenditure or deduction that would be taken into account in calculating the CFC’s assumed total profits. In arriving at the amount of non-trading finance profit that is attributable to capital investment from the UK new section 371EC(2) and (3) allow for an additional deduction that represents the difference (if any) between the arm’s length fund management fee that it is reasonable to suppose would be charged for managing the funds or assets and the management expenditure actually incurred in realising the non-trading finance profit.
156.New subsection (4) defines “relevant UK funds or other assets” as funds derived, directly or indirectly, from:
a UK connected company’s subscription for shares in, or other type of capital contribution to the CFC;
any amounts included within the CFC’s chargeable profits for any earlier accounting period to which new Part 9A applied (which are the profits that form part of the reserves of the CFC, which have been subject to an apportionment in a previous accounting period);
any amounts which are left out of account in determining the CFC’s assumed total profits for that or any earlier accounting period to which new Part 9A applied due to a claim under section 174 TIOPA (transfer pricing: claims by disadvantaged person); or
any other funds or other assets received by the CFC directly or indirectly from a UK connected company except (by virtue of subsection (5)) a payment for the provision of goods or services, or sums received by way of a loan from the UK to the CFC.
157.New subsection (6) defines “UK connected company” for the purposes of subsection (4) and includes the UK permanent establishment of a non-UK connected company.
158.New section 371ED includes non-trading finance profits to the extent that they arise from an arrangement, directly or indirectly with a UK resident company connected with the CFC, or to UK permanent establishments of non-UK companies connected with the CFC. An arrangement will typically be a loan to a UK resident company. An example of an indirect arrangement would be a loan from the CFC to a non-UK resident person, who then makes a loan to a UK resident company that is connected with the CFC.
159.Profits from such an arrangement are included in Chapter 5 if it is reasonable to suppose that the arrangement has been made as an alternative to making a dividend or other form of distribution, directly or indirectly, to the UK and that the main reason or one of the main reasons for adopting the alternative arrangement is a reason relating to any UK or non-UK tax liability. This test focuses on the reason why the arrangement was made rather than a dividend being paid (or any other distribution being made) to the UK. The section will therefore apply, for example, to profits arising from a loan made by the CFC to the UK to repatriate funds if a loan was made because a dividend paid to the UK would have attracted withholding tax.
160.New section 371EE includes non-trading finance profits within Chapter 5 where they arise from the direct or indirect relevant finance lease of an asset to a UK resident company or UK permanent establishment of a non-UK company that is connected to the CFC. The rule is limited to those cases where it is reasonable to suppose that the main reason or one of the main reasons for entering into the lease rather than directly or indirectly purchasing the asset is a UK or non-UK tax reason. This test focuses on the reason why a lease was entered into in preference to another means of obtaining the use of the asset.
Chapter 6 – The CFC charge gateway: trading finance profits
161.Chapter 6 determines the trading finance profits for the purpose of the CFC charge gateway. Profits are within this Chapter to the extent they derive from excess capital or in the case of an insurance business from excess free assets. Trading finance profits are defined by new section 371VG(4) and (5). They are profits from trading loan relationships (including amounts within Parts 6 and 7 of CTA 2009 that arise from relationships that are treated as loan relationships), distributions treated as trading income and trading profits from a relevant finance lease as defined at section 371VA.
162.New section 371FA(1) provides the basic rule for determining the profits that fall into this Chapter for an accounting period. There are three steps.
163.Step 1 is to determine if the CFC’s free capital is greater than what it is reasonable to suppose it would be if the CFC was a company which was not a 51 per cent subsidiary of any other company, but carrying on the same business with the same amount of funding. The test will take account therefore of any assets in the form of shareholdings held by the CFC in other companies. The amount of this excess free capital is limited to the extent it derives, directly or indirectly from “UK connected capital contributions” (which is defined in section 371VA).
164.So for example, a UK company A provides capital of 60 to a non-UK intermediate holding company B, which in turn provides capital of 60 to CFC C. Company B also provides, from its own reserves, additional capital of 40 to C, so that C’s total capital is 100. If C was not a 51 per cent subsidiary of A, it would have free capital of 20. C therefore has excess capital of 80, but as only 60 is provided by the UK the amount of excess free capital calculated by step 1 of subsection (1) is limited to 60.
165.Step 2 uses the same approach as step 1, but only applies if the CFC carries on insurance business (as defined in section 371VA). This test requires a comparison of the CFC’s actual level of free assets, against the amount of free assets it would be expected to have if the CFC was not a 51 per cent subsidiary of any other company but was carrying on the same insurance business. The amount of any excess free assets is limited to the extent it derives, directly or indirectly from UK connected capital contributions (which is defined in section 371VA).
166.Where there is either excess free capital as a result of performing step 1, or excess free assets as a result of performing step 2, step 3 determines the profits that fall into Chapter 6 as the amount of trading finance profits that it is reasonable to suppose arise from the use or investment of either or both amounts during the accounting period.
167.New section 371FA(2) defines free capital for the purpose of the test in step 1 as funding that does not give rise to debits that are brought into account in determining the non-trading finance profits or trading finance profits of the CFC. A CFC’s free capital is therefore any funding that does not give rise to a deduction that would be taken into account in calculating those profits.
168.New subsections (3) and (7) define free assets for the purpose of the test in step two as the amount by which the value of the CFC’s assets exceeds its loan capital. The value of an asset is the amount that it reasonable to suppose the CFC would obtain from an unconnected third party if it transferred all its rights in that asset to that person.
169.New subsections (5) and (6) provide for a reduction in the amount of the free assets for the purpose of the test in step 2 to the extent the CFC holds assets under certain circumstances. Those circumstances are that the insurance CFC, for regulatory reasons, is required to hold more assets than it otherwise would because it has provided a guarantee to another company connected with the CFC undertaking insurance business and that guarantee is required for regulatory reasons in order for the company connected with the CFC to carry on insurance business.
170.New section 371FB provides for the free capital or free assets to be increased by an amount of loan capital owed by the CFC to the extent that the profits of the lender (where the lender is a connected CFC) in respect of that loan capital, which is a qualifying loan relationship, are exempt under Chapter 9. New section 371FB(3) provides a calculation that determines if E% of the profits arising from the qualifying loan relationship are exempt for the lender. If so, E% of the qualifying loan relationship is added to the amount of free capital or free assets.
171.New subsection (4) explains what assumptions are to be made in calculating the amount of the profits arising from the qualifying loan relationship. This includes establishing the period over which the profits of the qualifying loan relationship should be tested in subsection (3). New subsection (5) provides the steps to be taken to establish what amount of those profits are exempt profits. Those steps are taken for each chargeable company that makes a claim under Chapter 9 that relates to the accounting period of the CFC that has lent the loan capital.
172.So for example if an insurance company receives a loan, which is a qualifying loan relationship, of 200, with the profits from that loan being 75 per cent exempt in the lender (which is a connected CFC), then the same proportion of the loan should be disregarded as loan capital, so that 150 is treated instead as being included in the free assets. If a bank were to receive the same loan, its free capital would be increased by 150. In both cases the effect would be to increase the amount being tested (free capital or free assets) by 150.
173.New section 371FC gives a similar result to section 371FB where the qualifying loan relationships are made by PEs within Chapter 3A of Part 2 of CTA 2009 to banking or insurance CFCs that are ultimate debtors. The result is that loans that are treated as qualifying loan relationships from PEs will therefore be counted as equity for Chapter 6 purposes in the same way as loans that are treated as qualifying loan relationships from CFCs.
174.New sections 371FD and FE confers a power on the HMRC Commissioners to make regulations setting out conditions under which the third step (and thus Chapter 6) will not apply in relation to the CFC’s trading finance profits to the extent they arise from the CFC’s insurance or banking business (which are defined in section 371VA). The regulations may specifically refer to a territory or to the banking or insurance regulatory requirements of a territory.
Chapter 7 – The CFC charge gateway - captive insurance business
175.Chapter 7 contains the rules that identify the profits of a captive insurance CFC that are within the scope of the CFC charge.
176.New section 371GA(1) outlines the basic rule for identifying a CFC’s profits that fall within Chapter 7. The basic rule charges both underwriting and investment profits arising from captive insurance business written with UK resident persons (whether connected to the CFC or not). The profits are captured under Chapter 7 and pass through the CFC charge gateway to the extent they are within the CFC’s assumed total profits and also arise from:
the CFC’s insurance business;
contracts of insurance falling within new section 371GA(2); and
where applicable, contracts of insurance where the CFC is resident in an EEA state and the insured (or original insured person) has no significant UK non-tax reason for entering into that contract.
177.New subsection (2) limits the scope of Chapter 7 to UK persons or UK permanent establishments that enter into contracts of insurance with the CFC. Profits are captured to the extent they are derived directly (or indirectly) from a contract of insurance (which is defined in section 371VA) entered into by a UK resident company or a non-UK resident company acting through a UK permanent establishment, that are connected with the CFC. A contract of insurance between the CFC and a UK resident person (who need not be connected to the CFC) is also included where the insurance relates to the provision of goods or services to that person. It does not include a case where those services are provided as part of an insurance business.
178.Subsection (2)(b) is targeted at situations where the insurance contract relates to the provision of goods or services to the UK resident person. For example, a UK retail group may establish a captive insurance company offshore. It may then market warranty plans, written by the captive insurance company, to UK resident persons at the point of sale of its retail goods. The profits from such insurance are within the scope of Chapter 7.
179.Profits are indirectly derived from a contract of insurance where, for example, the insurance is provided through insurance fronting arrangements. A particular instance would be where company A (a UK resident company) wants to enter into an insurance contract with its connected company B (a captive insurance CFC). If A enters into a ‘fronting arrangement’ with an unconnected insurance group whereby A enters into an insurance contract with company C (a member of the unconnected insurance group), who then reinsures the risk to company B, then B’s profits are within the scope of Chapter 7.
180.New subsection (4) excludes from Chapter 7 premiums paid under a contract of insurance by a connected UK resident company which has made a PE election under section 18A of CTA 2009 and where the premium is wholly brought into account for the purposes of determining an exemption adjustment.
181.New subsection (5) outlines the extent to which reinsurance contracts fall within Chapter 7. Amounts arising from reinsurance contracts are captured where the original contract of insurance would have fallen within subsection (2)(a) if it had been written by the CFC. This extends to cases where there is a chain of reinsurance between the original contract of insurance and the final contract of reinsurance.
182.By new subsection (6), new subsection (7) applies to a captive insurance CFC that is resident in an EEA state, provided the profits do not arise from the activities of a permanent establishment that the CFC has in a non-EEA state. Where subsection (7) applies, profits from an EEA resident captive insurance CFC will fall within Chapter 7 where they are derived from either:
a contract of insurance, for which the insured has no significant UK non-tax reason for entering, or
a contract of reinsurance, where the original insured has no significant UK non-tax reason for entering into the original insurance contract.
183.New subsection (8) defines UK non-tax reason for the purposes of subsection (7).
Chapter 8 -The CFC charge gateway: solo consolidation
184.Chapter 8 contains the rules that identify the profits which are within the scope of the CFC charge for a CFC that is the subject of a solo consolidation waiver. Solo consolidation is an arrangement whereby the FSA allows a regulated financial company to treat an unregulated subsidiary for regulatory purposes as if it were a division of the regulated company. A company that wishes to solo consolidate must apply to the FSA for a waiver.
185.New section 371HA(1) outlines the basic rule for identifying the profits that fall within Chapter 8 and that are included in the CFC charge gateway. The profits are any amounts in the CFC’s assumed total profits (as defined by section 371SB(9)) which are not also included in the “CFC’s relevant profits amount”. The effect of the rule is to bring into charge amounts that are included in the CFC’s assumed total profits, but are not included in its relevant profits amount.
186.New section 371HA(2) defines the CFC’s relevant profits amount by reference to section 18A(6) of CTA 2009. In doing so it deems the CFC to be a permanent establishment of the UK resident company mentioned in section 371CG(2)(b) or the UK resident bank mentioned in section 371CG(3) and deems the CFC’s accounting period to be a relevant accounting period for that UK resident company or bank.
Chapter 9 - Exemptions for profits from qualifying loan relationships
187.New section 371IA(1) introduces Chapter 9 which provides the rules for full and 75 per cent exemption of certain intra-group non-trading finance profits that would otherwise pass through the CFC charge gateway because they fall within Chapter 5. Chapter 9 applies only to profits that arise from qualifying loan relationships as defined at new section 371IG. The business premises condition at section 371DG must also be met.
188.A chargeable company must make a claim to an Officer of HM Revenue and Customs under new section 371IA(2) in order for Chapter 9 to apply. The effect of the claim, by new subsection (3), is that for the chargeable company only, non-trading finance profits pass through the CFC charge gateway only to the extent that they are not exempt under Chapter 9. Where a claim is made, the rules in Chapter 9 apply to all of the non-trading finance profits arising from qualifying loan relationships of the CFC for the accounting period by virtue of section 371CB(8). New section 371IA(9) excludes from Chapter 9, in the same way as they are excluded from Chapter 5, any non-trading finance profits where they:
arise from the investment of funds held by the CFC for trading purposes;
arise from the investment of funds held by the CFC for the purposes of a property business;
fall within Chapter 8 (solo consolidation); and
arise from a relevant finance lease.
189.The finance company full and 75 per cent exemptions are given by way of an adjustment that is made to a CFC’s chargeable profits and creditable tax for an accounting period at step 2 of section 371BB(1).
190.New subsection (5) provides that profits are exempted firstly by applying either the qualifying resources rule or the 75 per cent exemption rule at new sections 371IB and 371ID respectively and then by applying the matched interest rule at new section 371IE, if relevant.
191.New subsection (10) explains that a loan relationship for Chapter 9 purposes is limited to a loan relationship that is a money debt arising from a transaction for the lending of money as defined at section 302(1) of CTA 2009. It will not include any other arrangement treated as a loan relationship such that the associated credits and debits would otherwise fall to be dealt with under Part 5 of CTA of 2009.
192.New section 371IB sets out the rules to be applied to establish the extent to which profits from a qualifying loan relationship will be exempt where it is funded out of qualifying resources. The section will apply in respect of a loan relationship only if the company’s Chapter 9 claim states that it is to apply. It is not possible to make a claim under this section for full exemption in respect of part of a qualifying loan relationship and a claim under new section 371ID for 75 per cent exemption in respect of the remainder.
193.New section 371IB(2) provides that X per cent of the profits of a qualifying loan relationship are exempt if the chargeable company (C) is able to demonstrate that at least X per cent of the qualifying loan relationship was funded out of qualifying resources and that the ultimate debtor was resident in the same territory at all times during the relevant period. It is possible that the amount so funded may vary throughout that period.
194.For example, a £100m loan is funded at the beginning of an accounting period entirely out of qualifying resources and this loan is increased to £200m half way through the year with the balance of the loan being funded out of non qualifying resources. Throughout the relevant accounting period the percentage of the loan funded from qualifying resources is 100 per cent for the first 6 months and 50 per cent for the second 6 months so that over the year the percentage of profits that are exempt should be 75 per cent (assuming the loan is equally profitable at all times). C’s claim should therefore specify X to be 75 per cent. In the second accounting period if the loan remains at £200m throughout the accounting period C’s claim should specify X to be 50 per cent.
195.A relevant period is defined by new subsection (4) as the accounting period, or if a loan is only outstanding for part of that accounting period that shorter period.
196.Qualifying resources are a source of funds that place no demands on group resources outside the ultimate debtor’s territory of residence (the ‘relevant territory’). They are defined at new subsections (6) and (7) as:
profits earned by the CFC from lending to connected companies within the relevant territory that are used for the purposes of the business being carried on in that territory;
profits that have been earned in the relevant territory by members of the CFC group;
the qualifying value of relevant pre-acquisition sums or other assets (as defined in new section 371IC); or
funds that arise from ordinary non-redeemable shares issued by the parent company in the group to persons who are not members of the CFC group. The parent company must be a company that is not a 75 per cent subsidiary of another company.
197.Funds in all but the first of the above four categories may be derived directly or indirectly from the sources listed above, but must be received by the CFC in relation to shares it holds in, or shares it has issued to other group companies.
198.New subsections (8) and (9) limit sums that will be qualifying resources for Chapter 9 purposes where the associated qualifying loan relationship has been put in place as part of an arrangement under which a member of the CFC group takes on debt in the UK. These subsections are targeted at circumstances where the arrangement results in an increase in net debt or net interest expense in the UK group.
199.New subsection (10) gives definitions for the purposes of the section and new section 371IC. Subsection (10)(c) states that the relevant territory is the territory where the ultimate debtor (of the qualifying loan relationship) is resident. This means that to the extent they are qualifying resources by virtue of subsection (6)(a) or subsections (6)(b) and (7)(a) together, those qualifying resources have to be derived from the same territory in which the borrower (in respect of the qualifying loan relationship) is resident. Subsection (10)(d) and (e) provide further limitations to qualifying resources in those cases, so that:
loans made to persons outside the relevant territory are not treated as being for the purpose of the business carried on in that relevant territory; and
profits earned outside of the relevant territory that are distributed to or arise to a company resident in the relevant territory are not treated as earned in the relevant territory.
200.New subsections (10)(a), (11) and (12) define “the CFC group”. This consists of the CFC together with companies that it is connected with from time to time. It also includes companies that existed before the CFC existed (or before it was part of the group), provided that they were at that time connected with all UK resident companies that now control the CFC.
201.The qualifying value of relevant pre-acquisition funds (if there are any) is determined by new section 371IC. This is the value of funds or other assets represented by the consideration given for shares in a company (referred to as the “target company”) acquired by a CFC from persons who are not members of the group. The acquisition must take place by way of shares issued in exchange to those persons who are not members of the group by the parent company in the group. Qualifying resources will include the distribution of pre-acquisition profits to the CFC or the repayment of share capital by the target company.
202.New section 371IC(4) provides that where the issue of shares by the parent company represents only part of the consideration given for the acquisition or the parent company pays a special dividend (or otherwise makes an extraordinary distribution) to the parent company’s shareholders as part of the arrangements then only that part of the value in the company acquired represented by the issue of shares will be qualifying value. New subsection (5) provides the formula that determines the amount of qualifying value where other such consideration has been given.
203.Where new debt is taken on in the UK as part of the arrangement that creates the qualifying resources then section 371IB(8) and (9) provide that the qualifying loan relationship will be treated as derived from non-qualifying resources in at least the amount of the new debt.
204.New section 371ID applies to a qualifying loan relationship where a claim has not been made under section 371IB that full exemption should apply to the profits from all or part of that qualifying loan relationship. It provides that 75 per cent of the profits of the qualifying loan relationship shall be exempt.
205.The matched interest rule in new section 371IE applies when:
there remain profits (called “the leftover profits”) that are not exempt after the application of sections 371IB or ID; and
(apart from the application of this section) profits under Chapters 5, 6 or 9 have been apportioned to a UK group company resulting in that company having a finance income amount (section 314A); and
the UK members of the group have in aggregate a surplus of net finance income over net finance expenses.
The matched interest rule use terms from the worldwide debt cap rules in Part 7.
206.New section 371IE(2) provides that all of the leftover profits will be exempt if the tested income amount (TIA) exceeds the tested expense amount (TEA).
207.New subsection (3) provides that a percentage of the leftover profits will become exempt if the CFC charge causes the TIA to exceed the TEA. The excess is referred to in new subsection (4) as “E”.
208.The TIA may be increased by a CFC charge (“I”) or the TEA may be reduced by a CFC charge (“R”). The calculation to determine the exempt percentage is set out in new subsection (4) by reference to the amounts E, I and R.
209.New subsections (9) to (14) provide modifications to the worldwide debt cap rules in Part 7 for the purposes of applying this section. It requires that a calculation of TIA and TEA be made for a UK group, if one has not already been made. This includes banking and insurance groups and groups that are not large groups. Subsection (9) provides a limitation that excludes debits, credits and other amounts that arise from banking or insurance business in determining what the finance income amount would be for any company and what the TIA and TEA would be.
210.New section 371IF sets out the steps for calculating the CFC’s “qualifying loan relationship profits”. The section operates by applying the following steps to each qualifying loan relationship:
Step 1 is to determine the credits from the qualifying loan relationship (which is defined at new section 371IG) that are brought into account for the purposes of determining the CFC’s non-trading finance profits for the accounting period. The amount determined is “the Step 1 credits”;
Step 2 is to add to or subtract from the Step 1 credits such debits or credits as arise from derivative contracts or other arrangements that are a hedge of interest rate or FOREX risk relating to the qualifying loan relationship. The amount determined is “the Step 2 credits”;
Steps 3 to 5 are further steps for bringing into account debits and credits (so far as not reflected in the Step 2 credits) for the purposes of determining the CFC’s non-trading finance profits for the accounting period. This is done by subtraction from or addition to the Step 2 credits of a just and reasonable proportion of debits or credits to give the CFC’s qualifying loan relationship profits for the qualifying loan relationship in question.
211.New section 371IG(1) sets out the conditions for a loan relationship of a CFC to be treated as a qualifying loan relationship. These are where in relation to the qualifying loan relationship:
the CFC is the creditor;
“the ultimate debtor” is a “qualifying company” (which is defined in new section 371IG(8); and
new section 371IH does not apply to treat the loan as non-qualifying.
212.New section 371IG(2) provides that the ultimate debtor is the immediate debtor in relation to a qualifying loan relationship unless new subsection (3) applies.
213.New subsections (3) to (6) establish who the ultimate debtor is where a loan is used (directly or indirectly) to fund another loan. They provide that the ultimate debtor will be a person (“P”) if:
the loan to the debtor of the CFC is made for the purposes of funding a loan to P;
the loan to P is not used for the purposes of funding a loan to any other person; and
the loan to P gives rise to a loan relationship in relation to which P is the debtor.
214.For the purposes of the ultimate debtor rule a part of a loan is treated as a separate loan. This means that where a loan from a CFC to A is used partly for the purposes of A’s trade and partly to fund a loan to B then there will be 2 loans with 2 ultimate debtors, A and B.
215.New subsection (7) disapplies subsections (4) and (5) in respect of a loan to a CFC whose main business is banking or insurance, the loan is used in the ordinary course of that business and P is not a UK resident qualifying company. In that case the CFC is treated as the ultimate debtor.
216.New subsection (8) defines a qualifying company as a company which is connected with the CFC and is controlled by the UK resident person(s) who control the CFC.
217.New section 371IH(1) sets out the circumstances under which a loan cannot be a qualifying loan relationship where the ultimate debtor is a non-UK resident company. These are where some or all of the ultimate debtor’s debits are:
being brought into account for the purposes of determining the profits attributable to a UK PE of the debtor under Part 2 of CTA 2009; or
being brought into account for the purposes of determining the profits attributable to a UK property business of the CFC under Part 3 of the Income Tax (Trading and Other Income) Act 2005.
218.New section 371IH(2) provides that a loan cannot be a qualifying loan relationship where the ultimate debtor is a UK resident company unless all the company’s debits are taken into account for the purposes of determining the profits attributable to a PE of the ultimate debtor and an election is made under section 18A of CTA 2009 in relation to the ultimate debtor.
219.New subsection (3) provides that a loan relationship cannot be a qualifying loan relationship where:
the ultimate debtor is itself a CFC to which Chapters 3 to 8 or Chapter 12 apply in an accounting period and some or all of the debits of the CFC are being brought into account for the purposes of those chapters; and
as a result there is no CFC charge for the accounting period, or the charge is otherwise reduced.
220.New subsection (4) provides that the references to debits in subsections (1) to (3) are to the debits from the loan to the ultimate debtor, and where loan A is used wholly or partly to fund loan B (as provided for by section 371IG (4) and (5)) the debits are those of loan B.
221.New subsection (5) provides that a loan relationship cannot be a qualifying loan relationship where it is an arrangement, or connected to an arrangement, the main purpose or one of the main purposes of which is to provide, directly or indirectly, funding for a loan relationship or a quasi loan relationship to a person from the ultimate debtor. A quasi loan relationship is an arrangement intended to produce for any person a return by reference to the time value of money. For example, consider a case where a loan is made by the CFC to another non-UK resident company and that company, by an arrangement that is not limited by other parts of this section, arranges for a loan to be made (using the funds from the first loan) by another person to a UK resident company connected with the CFC. The main purpose of the arrangement is for the CFC to make a loan to the UK resident connected company. The loan by the CFC is not a qualifying loan relationship.
222.By virtue of new subsection (6), subsection (5) does not apply where the main business of the ultimate debtor is banking or insurance business and the funding for the loan or arrangement would be provided in the ordinary course of that business.
223.New subsection (7) provide that a creditor relationship of a CFC cannot be a qualifying loan relationship if:
the main business of the ultimate debtor is banking or insurance business; and
the creditor relationship is, or is connected to, an arrangement the main purpose, or one of the main purposes, of which is for the ultimate debtor to provide funding for a loan or arrangement in order to obtain a tax advantage for themselves.
224.New subsections (8) and (9) provide that a creditor relationship of a CFC cannot be a qualifying loan relationship where it is made to any extent (other than a negligible one):
from UK funds (other than a loan) received directly or indirectly from a UK resident company which has a main business of banking or insurance as its trade; or
where the loan relationship was created as part of an arrangement which created new debt in the UK for a UK-resident company (apart from the ultimate debtor) which has a main business of banking or insurance as its trade for the purposes of Part 3 of CTA 2009.
225.New subsections (10) and (11) provide that a loan cannot be a qualifying loan relationship where third party debt of a non-UK group company is repaid (in whole or in part), and effectively replaced with new UK debt as part of an arrangement the main purpose or one of the main purposes of which is to obtain a tax advantage for any person. The section only applies where the relevant UK funds or other assets are funded by a loan made to a UK connected company by a UK resident person not connected with the UK company or by a non UK resident person. Consider for example a case where a UK group company A borrows £100m, which in turn is used to buy shares issued by a connected CFC B, which in turn makes a loan of £100m to an overseas group company C, which in turn repays existing external debt of £100m. The arrangement has created two loans where before there was only one, with the interest on one of the loans being sheltered by B. The arrangement has a main purpose of obtaining a tax advantage for UK company A and so the loan to company C is not a qualifying loan relationship.
226.New section 371II confers on HMRC Commissioners the power to make regulations to amend the definitions of qualifying loan relationship, ultimate debtor and qualifying resources.
227.New section 371IJ provides that a Chapter 9 claim must be made in the chargeable company’s tax return for the period and sets out the time limits for the claim and for varying or withdrawing that claim. A later claim may be made, varied or withdrawn if allowed by an Officer of HM Revenue and Customs. A claim may also be varied or withdrawn outside of the usual time limits where there are changes to the TIA and TEA, provided that claim is made within 12 months of such a change and the claim is made to take account of that change (and not for another purpose).
Chapter 10- The exempt period exemption
228.New section 371JA introduces Chapter 10 which provides for a temporary period of exemption for foreign subsidiaries which come under UK control.
229.New section 371JB(1) provides that the exemption applies for an accounting period if:
the CFC’s accounting period ends during an exempt period (as defined by new sections 371JC and 371JD);
the subsequent period condition is met; and
the chargeable company condition is met.
230.New subsection (2) sets out the subsequent period condition. This requires the CFC to continue as a CFC for at least one accounting period which begins after the exempt period and that there is no CFC charge in relation to the CFC’s first accounting period to begin after the end of the exempt period.
231.New subsection (3) provides that the chargeable company condition is met if the charging condition in new section 371JC is met and throughout the “relevant period” either a company which has a relevant interest in the CFC at the beginning of the exempt period, or another connected company, is a chargeable company. The effect of this is that the availability of the exempt period is not affected by a transfer of ownership of a CFC within a group if there is at least one connected UK company which would be subject to a CFC charge in respect of the CFC.
232.New subsection (4) provides the following definitions:
An “original chargeable company” is a company which would be a chargeable company at the start of the exempt period for the purposes of the charging condition set out in new section 371JC;
The “relevant period” is the period from immediately after the beginning of the exempt period until the end of the subsequent period (the first accounting period beginning after the end of the exempt period).
233.New subsection (5) provides that the exemption is subject to an anti-avoidance rule which is detailed at new section 371JF.
234.New section 371JC determines when an exempt period begins.
235.New subsection (1) provides that an exempt period begins at “the relevant time”, during an accounting period if:
the “initial condition” is met (see subsection (2));
the charging condition is met at the relevant time; and
the charging condition is not met at any point during the “relevant preceding period” so long as there is such a period (see new subsection (5)). If the company comes into existence at the relevant time, this condition does not apply.
236.New subsection (2) provides that the “initial condition” is met if:
immediately before the relevant time the CFC is a company carrying on a business, or
a company is formed or incorporated at the relevant time, it is formed or incorporated for the purpose of controlling a company or companies that will qualify for the exemption.
237.New subsections (3) and (4) together set out the circumstances in which the “charging condition” is met. Broadly this is where a CFC has chargeable profits for an accounting period and there is at least one chargeable company in respect of those profits.
238.New subsection (5) defines the “relevant preceding period” as the 12 months immediately prior to the relevant time, but disregarding any part of that period before the company came into existence.
239.New section 371JD determines the length of the exempt period.
240.New subsection (1) sets out the basic rule that the exempt period will last for 12 months.
241.New subsections (2) to (5) introduce the ability for chargeable companies to apply for an extension to the 12 month exempt period. A notice must be given to an Officer of HM Revenue and Customs before the end of the exempt period. An Officer of HM Revenue and Customs can however extend the exempt period or, if necessary, further extend an extended exempt period. Notices under this section can only be given by companies which would be chargeable companies at that time.
242.New section 371JE deals with cases where a CFC’s accounting period includes part of an exempt period, but where the accounting period does not end during an exempt period. In these circumstances, the CFC rules will apply to the CFC’s accounting period, but any chargeable profits which arise will need to be adjusted on a just and reasonable basis to take account of profits which arise during the exempt period. The section is subject to the anti-avoidance rule in new section 371JF.
243.New section 371JF provides an anti-avoidance condition in relation to the exempt period exemption.
244.New subsection (1) determines that the exemption will not apply if either of two conditions, A or B, is met.
245.New subsection (2) sets out Condition A, which is that an arrangement:
is entered into which has a main purpose of securing a tax advantage for any person;
is linked to the potential application of the exempt period exemption for one or more accounting periods of the CFC; and
involves the CFC either holding assets which give rise to finance profits, or holding IP which gives rise to income of the CFC.
This condition for example targets arrangements where groups seek to take advantage of the exempt period exemption by placing mobile, income generating assets within a CFC.
246.New subsection (3) sets out Condition B, which is that an arrangement:
is entered into at any time which reduces the length of any accounting period to less than 12 months; and
has a main purpose of ensuring that the exempt period exemption applies to one or more accounting periods of the CFC.
This condition for example targets arrangements whereby the subsequent accounting period is shortened to ensure that the subsequent period condition is met.
247.New section 371JG deals with the amendment of company tax returns in relation to the exempt period exemption. This section extends the amendment time limit of any corporate tax return period in which falls, wholly or partly, a CFC’s exempt period. This is necessary because whether any chargeable profits arise to that CFC for that period can only be ascertained once the CFC’s position for the subsequent period is established. The effect of the section is to extend the amendment date for any chargeable company’s accounting period which includes any part of the exempt period to match the corporation tax return amendment date for the accounting period in which the CFC’s subsequent period ends.
Chapter 11 - The excluded territories exemption
248.Chapter 11, introduced by new section 371KA provides for the “excluded territories exemption” (ETE). If a company is resident and carries on business in one of the countries on the list made under the regulation-making power conferred by Chapter 11, and meets the other conditions of the ETE, then the CFC is excluded from the CFC charge.
249.New section 371KB(1) sets out the four conditions that need to be met for the ETE to apply for a CFC’s accounting period. These are that:
the CFC is resident in one of the excluded territories specified in regulations for the accounting period;
the total of amounts (if any) of the CFC’s income which falls within Categories A, B, C and D (as set out in new sections 371KE-371KI) is not more than the “threshold” amount for the accounting period (as described in new section 371KD);
the IP condition (provided by new section 371KJ) is met; and
the CFC is not involved in an arrangement, the main purpose or one of the main purposes of which is to obtain a tax advantage for any person at any time during the accounting period.
250.The categories A to D of income are explained in detail below. In essence there is a limitation on the amount of certain classes of income which the CFC can accrue if it is to qualify for the ETE. This threshold is set by virtue of new section 371KD at 10 per cent of the CFC’s accounting profits excluding transfer pricing adjustments for the accounting period in question, or £50,000 if greater. If income falls into more than one category then it is counted only once for the purposes of the test.
251.New subsection (3) confers a power on HM Revenue and Customs Commissioners to make regulations in connection with requirements of the ETE. The income category and IP conditions may for example be switched off or modified in respect of certain territories in the regulations. Further requirements may also be specified as having to be met for the ETE to apply.
252.To be exempt under the ETE a CFC must have a territory of residence. New section 371KC explains that the rules in Chapter 20 dealing with residency more generally should apply with one exception. This is where it has not been possible to establish a territory of residence under the general rules in Chapter 20 and instead the CFC is treated as resident either in the country in which it is incorporated or, if the CFC is UK incorporated but treated as not resident in the UK under double taxation arrangements, it is treated as resident in the territory of the other party to the relevant arrangements. In these circumstances the CFC will only be eligible for exemption under the ETE if, at all times during the accounting period, the CFC or persons with interests in the CFC are liable to tax under the law of the territory in question on the CFC’s income.
253.New section 371KE provides the basic rules covering Category A income. This category is concerned with income which is either exempt from tax in the territory or subject to a reduced tax rate in specified circumstances which include a tax holiday or other investment incentive and tax repayment schemes.
254.New section 371KF applies where a CFC has a permanent establishment in an excluded territory. The effect is to apply the same Category A income conditions to the income from the permanent establishment as apply to the income from the CFC’s territory
255.New section 371KG covers the basic rule for Category B income. This category is concerned with a CFC’s non-trading income which benefits from a notional deduction for interest expense in the CFC’s territory so that the income is effectively subject to a reduced tax rate, and where that deduction would not be available for such amounts under the corporation tax assumptions in Chapter 19 which apply Part 5 of CTA 2009.
256.New section 371KH sets out the scope of Category C income. This category includes income from a settlement in relation to which the CFC is a settlor or beneficiary and the CFC’s share of any partnership income where the CFC is a partner.
257.New section 371KI provides for Category D income. This category applies in circumstances in which a CFC has related party transactions which result, following the application of transfer pricing rules, in its income being reduced in the CFC’s territory and where there is no corresponding increase in any other territory so that the income is effectively subject to a reduced tax rate. This category also includes income which is taxed at a reduced rate by virtue of any ruling, other decision or arrangement by the territory’s governmental authorities.
258.New section 371KJ sets out the IP condition.
259.New section 371KJ(2)(a) to (d) provide that the IP condition is met unless:
the CFC’s assumed total profits for the accounting period include amounts arising from IP (the “exploited IP”);
all or parts of the exploited IP were transferred to the CFC by a UK related person at any time during the “relevant period” (defined in new subsection (5) as 6 years before the accounting period) as the accounting period in question and the preceding six accounting periods), or it was otherwise derived, directly or indirectly, out of or from IP held by a UK related person at any time during that period;
as a result of the transfer there has been a significant reduction in the value of the IP held by the UK related person; and
if only parts of the exploited IP were transferred or derived, the “significance condition” is met.
260.New subsection (3) provides that the significance condition is met if IP which has been transferred or otherwise derived from the UK forms a significant part of the CFC’s total exploited IP, or if the transfer or other derivations of IP from the UK produces CFC profits which are significantly higher than they otherwise would have been.
261.New subsection (4) limits the meaning of references to the transfer or holding of IP by a person related to the CFC where that person is non-UK resident. In such a case the transfer or holding must be of IP which was previously held by that person wholly or partly for the purposes of a UK permanent establishment.
Chapter 12 - The low profits exemption
262.New section 371LA introduces Chapter 12, which contains the low profits exemption. This chapter exempts a company with low profits from a CFC charge, subject to certain conditions. The exemption applies by reference to either the CFC’s accounting profit or its assumed taxable total profits.
263.New section 371LB(1) sets out the basis for applying the low profits exemption for an accounting period of the CFC.
264.New subsections (2) and (3) provide for the exemption to apply if the CFC’s accounting profits or assumed taxable total profits respectively for the accounting period are not more than £50,000. The meaning of accounting profits is given by new sections 371VC and 371VD, and of assumed taxable total profits by new section 371SB(1) to (6).
265.New subsection (4) provides for the exemption to apply if the CFC’s accounting profits are not more than £500,000 for the accounting period and the amount of those profits that represent non-trading income does not exceed £50,000.
266.New subsection (5) makes equivalent provision in terms of the CFC’s assumed taxable total profits.
267.New subsection (6) provides for the specified amounts to be proportionately reduced for an accounting period of less than 12 months.
268.New section 371LC provides anti-avoidance rules for the low profit exemption.
269.New section 371LC(1) provides that the exemption does not apply if either of two conditions, A or B, is met.
270.New subsection (2) sets out condition A, which applies where an arrangement entered into at any time has as its main purpose or one of its main purposes to secure the low profit exemption for either the relevant accounting period or one or more accounting periods of the CFC, where had it not been for these arrangements, no exemption would have been due.
271.New subsections (3) and (4) set condition B. Condition B applies if at any time during the accounting period, a CFC’s business is, wholly or mainly, the provision of “UK intermediary services”. A CFC provides UK intermediary services if it enters into a contract with a UK resident person (“the client”) to provide the services of a UK resident individual (the “service provider”), which the service provider personally performs, or is under an obligation personally to perform for the client.
272.New subsections (5) and (6) provide that no exemption by reference to accounting profits is available if a third condition, condition C, is met. Condition C applies where in determining the CFC’s assumed taxable total profits, Part 21B of CTA 2010 (group mismatch schemes) has effect so as to exclude an amount from being brought into account as a debit or credit for the purposes of Part 5 of CTA 2009 (loan relationships) or Part 7 of that Act (derivative contracts).
Chapter 13- The low profit margin exemption
273.New section 371MA introduces Chapter 13 which sets out the low profit margin exemption.
274.New section 371MB(1) provides that the exemption applies for a CFC’s accounting period if the accounting profits are no more than 10 per cent of the CFC’s “relevant operating expenditure”.
275.New subsection (2) provides for the accounting profit for the purpose of the exemption to be the profit before any deduction for interest.
276.New subsection (3) defines relevant operating expenditure. This expenditure is the operating expenditure brought into account in determining its accounting profits. The cost of goods purchased is excluded unless they are actually used in the CFC’s territory of residence. The cost of any expenditure which gives rise directly or indirectly to income of a related person is also excluded.
277.New section 371MC provides an anti-avoidance rule to prevent the exemption from applying where an arrangement is entered into which has a main purpose of securing that the exemption applies for one or more accounting periods of the CFC.
Chapter 14 - The tax exemption
278.Chapter 14, introduced by new section 371NA, provides “the tax exemption”, an exemption which applies to the CFC as a whole. This exemption applies to a CFC that pays an amount of local tax on its chargeable profits of at least 75 per cent of the corresponding UK tax, provided certain conditions are met.
279.New section 371NB(1) sets out the three steps required to determine if the tax exemption applies for a CFC’s accounting period.
Step 1 requires the CFC’s territory of residence for the accounting period to be determined in accordance with the rules at new section 371TB. If the CFC has no territory of residence under these rules, the tax exemption cannot apply.
Step 2 requires a calculation of the tax paid (the “local tax amount”) by the CFC for the accounting period in its territory of residence as established in Step 1. The local tax amount is the tax paid in the CFC’s territory for that accounting period in respect of the CFC’s local chargeable profits, subject to any necessary reduction determined in accordance with new section 371NC. If however the local tax amount is calculated under designer rate tax provisions defined in new section 371ND then the tax exemption cannot apply.
Step 3 requires the calculation of the amount of corresponding UK tax for the accounting period based on the provisions contained in new section 371NE. The tax exemption applies if the local tax amount is at least 75 per cent of the amount of the corresponding UK tax.
280.New subsections (2) and (3) provide that where an amount of tax is paid which includes amounts other than the local tax amount, for example where a group of companies pays its tax and files accounts on a consolidated group basis, then an amount is allocated to the local chargeable profits in question on a just and reasonable basis.
281.New subsection (4) defines a CFC’s local chargeable profits as the profits calculated on the basis of the tax law of the CFC’s territory of residence ignoring any capital gains or losses.
282.New section 371NC(1) provides for reductions in computing the local tax amount for step 2 in section 371NB.
283.New subsections (2) to (4) provide for the local tax amount to be reduced in two circumstances.
The first is where the CFC has net income that is taken into account when determining the CFC’s local chargeable profits, but that would not be taken into account in determining the assumed taxable total profits (essentially under UK tax rules) for the same accounting period.
The second circumstance is where the CFC has net expenditure which is not brought into account in determining the CFC’s local chargeable profits, but would be brought into account in determining the assumed taxable total profits.
284.In these circumstances, the local tax amount is reduced by the amount referable either to the additional net income or the reduced expenditure. The effect is to put the local and UK measures of tax on a more comparable basis for the purposes of Step 3.
285.New subsection (5) sets out three conditions, all of which must be met if the local tax amount is to be reduced by virtue of new subsection (6). The conditions are that:
the CFC has paid local tax on its local chargeable profits for the accounting period;
a repayment of tax, or a payment in respect of a credit for tax, is made to a person other than the CFC under the law of the CFC’s territory; and
the repayment or payment is directly or indirectly in respect of the whole or part of that local tax.
286.If subsection (6) applies, then the local tax amount is reduced (or further reduced after any reduction under subsection (2)) by the amount of the repayment or payment referred to in subsection (5).
287.New section 371ND covers the “designer rate tax provisions”.
288.New section 371ND(1) applies for the purposes of step 2 in section 371NB(1). It defines “designer rate tax provisions” as provisions which appear to be designed to enable companies to exercise significant control over the amount of tax which they pay and which are specified as such in Regulations made by the HMRC Commissioners.
289.New subsection (2) explains that the Regulations may make different provision for different cases or with respect to different territories.
290.New section 371NE(1) provides how to determine “the corresponding UK tax” for the purposes of step 3 of section 371NB(1).
291.New subsection (1) defines “the corresponding UK tax” as the amount of corporation tax which would be charged in respect of the CFC’s assumed taxable total profits for the accounting period. The CFC’s assumed taxable total profits are calculated in accordance with new section 371SB taking into account the corporation tax assumptions provided for by new sections 371SD to 371SR.
292.New subsection (2) explains that for the purposes of calculating the amount of corporation tax referred to in the previous sub-section:
any double taxation relief in respect of the local tax paid by the CFC in its territory of residence is to be ignored; and
there must be deducted from what would otherwise be the amount of corporation tax:
any amount which, after applying the corporation tax assumptions, would be set off by virtue of section 967 of CTA 2010 (cases in which a company receives a payment bearing income tax); and
any amount of income tax or corporation tax actually charged in respect of any income included in the CFC’s assumed taxable total profits.
293.New subsection (3) provides that in the section (2)(b) the references to an amount set off or actually charged do not include any such amount (or so much of any such amount) as has been or will be repaid to the CFC.
Chapter 15 – Relevant Interests in a CFC
294.New section 371OA introduces Chapter 15 which applies for the purposes of determining the persons who have “a relevant interest” in a CFC at step 1 in subsection 371BC(1). The purpose of the “relevant interest” rules is to work out which UK persons have an interest in a CFC and how much that interest is. The chargeable profits of a CFC are apportioned between the relevant interest holders provided they are UK resident companies and hold a certain proportion of the total interest in that CFC. Not all persons with an interest in a CFC have a relevant interest. For example, if two UK companies have an interest in a controlled foreign company because one holds the shares directly and the other holds the shares in that UK company only the first UK company will hold the relevant interest.
295.New section 371OB contains provisions for the purposes of interpreting the Chapter.
296.New subsection (2) defines the term “indirect” and “direct” for the purposes of determining interests in a company. An indirect interest in a company exists where a person has an interest by virtue of having an interest in another company. It follows that a person who has an interest in the first company other than through another company has a direct interest in that first company.
297.New subsections (3) and (4) cover situations where an interest in the CFC is held by an Authorised Investment Fund (“AIF”). This is covered under two separate subsections because an AIF may take the form of a company or a trust. Both subsections have the effect of ensuring that for the purposes of determining the relevant interests the persons with an interest in the CFC are the share or unit holders in the AIF. The effect is to look through the AIF so that the AIF itself cannot be regarded as holding a relevant interest while ensuring that the underlying investors will.
298.New subsection (5) applies in a similar manner to the rules on AIFs so that where a bare trustee or nominee holds an interest for a person or persons, that person or persons (rather than the trustee or nominee) are treated as holding the interest.
299.New subsection (6) defines the term “bare trustee”.
300.New subsections (7) and (8) apply in a case not covered by subsection (5) where an interest is held in a fiduciary or representative capacity and there are one or more identifiable beneficiaries. In these circumstances the interest is treated as held by that beneficiary or, if there is more than one beneficiary, the interest is apportioned between them on a just and reasonable basis.
301.New section 371OC determines when a UK company’s interest will not be taken to be a relevant interest in a CFC. This will be where the UK company’s interest is an indirect interest in the CFC which it holds by virtue of holding an interest in another UK resident company.
302.New section 371OD prevents an certain interest held by a person that is not a UK resident company (the ‘related person’) from being a relevant interest. It applies where there is a UK resident company (‘UKRC’) that also holds an interest in the CFC and:
the related person holds its interest by virtue of its interest in UKRC (subsection (3)); or
UKRC holds its interest by virtue of an interest in the related person (subsection (4)).
In either of these cases, the related person’s interest is not a relevant interest. The effect of this is that UKRC’s interest takes priority over the related person’s interest in these circumstances.
303.An example of how the rule at subsection (4) will operate is that if company A, an overseas company, holds a 100 per cent direct (or indirect) interest in a company B, a UK resident company, and in turn B has a 100 per cent interest in company C, a CFC, then both A and B will have an interest that would without this subsection be a relevant interest. However, subsection (4) operates to prevent A’s interest being treated as a relevant interest because it is held only by virtue of B’s interest, which is the relevant interest.
304.The operation of the rule at subsection (5) can be illustrated by considering a reversal of the scenario described above. So in this instance B (the UK resident company) holds an interest in A (the overseas company) who has an interest in C (the CFC), with all interests being 100 per cent. In this scenario subsection (5) will operate to ensure that the interest of A is not a relevant interest and the interest of B will be the only relevant interest in the chain.
305.New section 371OE addresses interests held by any person other than a UK resident company. This is set out within new subsection (1) which states that the section only applies in a case where a person (“P”) has a direct interest in a CFC which is not a relevant interest by virtue of sections 371OC or 371OD.
306.New subsection (2) provides that P’s direct interest is a relevant interest for the purposes of this section unless new subsection (3) applies to it. That subsection applies to P’s direct interest so far as it is the same as another person’s relevant interest in the CFC which they have indirectly because they have an interest in P.
307.New subsection (4) defines the reference in subsection (3) to “another person’s relevant interest” as being a person’s relevant interest by virtue of sections 371OC or 371OD. This has the effect that P’s interest under this section will only be a relevant interest if it is a direct interest in the CFC that is not otherwise a relevant interest of a person related to a UK resident company or UK resident company by virtue of their own indirect interest.
Chapter 16 - Creditable tax of a CFC
308.New section 371PA defines “creditable tax” for the purposes of step 2 in section 371BC(1). The amount of creditable tax calculated under this section is then apportioned among the relevant persons (in accordance with Chapter 17) for the purposes of step 3 of section 371BC(1).
309.New section 371PA(1) provides that the amount of a CFC’s creditable tax for an accounting period is the total of amounts defined in new subsection (1)(a) to (d). This is the total of the following amounts:
the amount of any relief from corporation tax attributable to any foreign tax which, applying the corporation tax assumptions (in accordance with Chapter 19), would be given to the CFC by virtue of the double taxation provisions at Part 2 of TIOPA 2010 in respect of any income included or represented in the CFC’s chargeable profits for the accounting period;
any amount of relevant income tax which, applying the corporation tax assumptions, would be set off against corporation tax on the CFC’s chargeable profits for the accounting period by virtue of section 967 of CTA 2010 (cases in which a company receives a payment bearing income tax);
any amount of income tax or corporation tax actually charged in respect of any income included or represented in the CFC’s chargeable profits for the accounting period; and
any amount of a foreign CFC charge paid in respect of any income included or represented in the CFC’s chargeable profits for the accounting period.
310.New subsection (2) defines “foreign tax” as the local tax amount (which is determined by Chapter 14 – the tax exemption – at step 2), and any tax under the law of a relevant foreign territory. “Relevant foreign territory” is defined at new subsection (6) as a territory outside the United Kingdom other than the territory in which the CFC is resident for the accounting period. The local tax amount is broadly the amount of tax paid under the law of the territory in which the CFC is resident in the accounting period.
311.New subsection (3) defines “relevant income tax” as income tax which the CFC bears by deduction on a payment to the extent that the payment is included or represented in the CFC’s chargeable profits.
312.New subsection (4) defines “foreign CFC charge” as a charge under the law of a relevant foreign territory (whatever name it is known by) that is similar to the CFC charge.
313.New subsection (5) restricts amounts added to the total amount of creditable tax by subsections (1)(b) to (d) by saying that these amounts should not include so much of any such amount that has been or falls to be repaid to the CFC or any other person whether on the making of a claim or otherwise.
Chapter 17- Apportionment of a CFC’s chargeable profits and creditable tax
314.New section 371QA introduces Chapter 17, which contains the rules for apportioning the CFC’s chargeable profits and creditable tax, for an accounting period, among the relevant persons for the purposes of step 3 in section 371BC(1).
315.New section 371QB contains provision about interpretation for the purposes of Chapter 17.
316.New subsection (2) applies the interpretation provisions contained in section 371OB to Chapter 17 in the same way as they apply to Chapter 15. These provisions largely deal with the meaning of direct and indirect interests in a company. They specify by whom an interest is treated as held when it is held in a trust.
317.New subsections (3) and (4) define “ordinary shares”. This is required for applying the first of the two basic apportionment rules in new section 371QC. It means, for any company, shares of a single class (however described) which is the only class of share issued by the company. The term “share” can also refer to a fraction of a share. Shares issued by a company belong to different classes if they are paid up to different amounts.
318.New subsection (5) describes when a person ‘indirectly’ holds ordinary shares in a CFC. This occurs when the person directly holds shares in a company “share-linked” to the CFC. The expression “share-linked” is defined in new subsection (6); it essentially means the holding of ordinary shares in the CFC via a chain of companies. The companies in the chain are the “intermediate interest” holders, defined in new section 371QC(6).
319.New section 371QC gives the two basic rules for how an apportionment of chargeable profits should be calculated. New section 371QD provides how an apportionment is to be made under the first basic rule and sections 371 QE and 371QF elaborate upon that rule. Section 371QD, which applies if certain conditions are met, involves a formulaic approach that requires the multiplying together of indirect interests in the CFC through the chain of companies to arrive at the apportionment percentage. If there is more than one chain leading to the same CFC then the relevant interests through each chain are aggregated. If the conditions for the formulaic approach are not met then, under the second basic rule, a just and reasonable approach is to be applied.
320.There are 3 conditions set out in new sections 371QC(3) to (5) that must be met for the formulaic approach in new section 371QD to apply:
Condition X is satisfied if the relevant persons have relevant interests in the CFC only by direct or indirect holding of ordinary shares in that CFC;
Condition Y is satisfied if each of the relevant persons has been either only UK resident, or only non-UK resident, throughout the accounting period; and
Condition Z is satisfied provided that any company with an intermediate interest in the CFC only has that interest from holding, directly or indirectly, ordinary shares in the CFC.
321.Where the conditions are met section 371QD applies to apportion chargeable profits and creditable tax to the relevant persons in proportion to their ordinary shareholdings in the CFC.
322.New section 371QD(4) provides that new section 371QE “Indirect shareholdings” and new section 371QF “Variable shareholdings” supplement the application of section 371QD.
323.New section 371QE explains how to calculate the percentage of a CFC’s issued shares that a relevant interest holding’s indirect interest represents. The calculation is illustrated in the following examples, in which the terms ‘P’ and ‘S’ take the meanings given in new section 371QE(2).
Example 1 – indirect shareholdings single chain
Relevant person A owns 80 per cent of the shares in overseas company B, which in turn holds 90 per cent of the shares in overseas company C, which in turn holds 90 per cent of the issued ordinary shares in the CFC.
The fractional interest A has in B is 0.80 and the fractional interest B has in C is 0.90. As C directly holds shares in the CFC its fractional interest is not counted. P is the product of the two fractions: 0.80 x 0.90 = 0.72.
S is 90 per cent, which is the percentage of the issued ordinary shares that A holds indirectly – it is the proportion of the issued shares held by C.
A’s relevant interest therefore represents the percentage of the CFC’s issued share capital given by multiplying P and S. Hence the percentage is 0.72 x 90%, which is 64.8 per cent.
324.New section 371QE(4) provides the process for determining the relevant interest where the relevant person holds more than one indirect holding of ordinary shares in the CFC. In that case the formula ‘P x S’ in new subsection (2) is applied to each holding and then the results of each calculation are aggregated.
Example 2 – indirect shareholdings multiple chains
Relevant person A has a relevant interest of 64.8 per cent through one indirect holding in the CFC. A also owns 75 per cent of the shares in overseas company D, which in turn holds the remaining 10 per cent of the issued ordinary shares in the CFC.
The fractional interest A has in D is 0.75 and D holds 10 per cent of the shares in the CFC. As D directly holds shares in the CFC its fractional interest is not counted. P is therefore 0.75 and S is 10 per cent. The formula ‘P x S’ in subsection (2) gives the percentage 0.75 x 10% = 7.5%.
A’s relevant interest therefore represents the percentage of the CFC’s issued share capital give by the sum of the two percentages 64.8 per cent and 7.5 per cent, which is 72.3 per cent.
325.New section 371QF applies to determine the percentage of issued ordinary shares that the relevant person’s relevant interest represents, where that percentage holding varies during the accounting period. The relevant interest is to be the sum of the relevant percentages for each holding period. So if during the accounting period the amount of a relevant person’s relevant interest changes three times, then the overall relevant interest for the accounting period is found by adding together the relevant percentage calculated for each of the three periods.
326.The relevant percentage for a holding period is given by multiplying the percentage holding in that period by the length of the holding period and dividing by the length of the accounting period.
Example 3 – variable shareholdings
Company A holds 60 per cent of the CFC’s issued ordinary shares as a relevant interest during the first 100 days of the accounting period and 80 per cent during the remaining 265 days of the accounting period.
The percentage of the CFC’s issued share capital that A’s relevant interest represents in the accounting period is the sum of the relevant percentages for the two holding periods:
Holding period 1: relevant percentage is 60% x 100/365 = 16.4%.
Holding period 2: relevant percentage is 80% x 265/365 = 58.1%.
The percentage of the CFC’s issued share capital that A’s relevant interest represents in the accounting period is 16.4 per cent plus 58.1 per cent, which is 74.5 per cent.
327.New section 371QG provides a targeted anti-avoidance rule (TAAR) for the apportionment provisions.
328.New subsection (1) applies the section in relation to a CFC’s accounting period where an arrangement is entered into at any time, the main purpose or one of the main purposes of which is to obtain for any person a tax advantage under section 1139(2)(da) of CTA 2010 for that accounting period or any other accounting period of the CFC. A tax advantage under section 1139(2)(da) of CTA 2010 is the avoidance or reduction of a charge or assessment to the CFC charge under Part 9A.
329.New subsection (2) provides that where an arrangement, as defined in subsection (1), is in existence, the CFC’s chargeable profits and creditable tax for the accounting period are to be apportioned on a just and reasonable basis rather than on the basis of the mechanical rule if that rule would otherwise apply.
330.New subsection (3) states that in applying subsection (2) (i.e. apportioning the CFC’s chargeable profits and creditable tax on a just and reasonable basis) the apportionment must counteract the effects of the arrangement so far as it is practicable to do so.
Chapter 18 – Control etc
331.Chapter 18 defines “control” for the purposes of Part 9A. A CFC is defined (in section 371AA(3)) as a non-UK resident company which is controlled by a UK resident person or persons. A company can be controlled either by reference to legal or economic control or by reference to accounting standards.
332.New section 371RA provides an overview of the Chapter by outlining the main “control” tests and the different approach that is taken depending on which control test is being considered. New section 371RB and new section 371RE determine if a company is “controlled” by another person or persons whilst new section 371RC sets out a circumstance whereby a non-UK resident company will be taken to be a CFC when it would not otherwise be the case.
333.New section 371RB outlines how to determine if a company is controlled by a person through legal and economic “control”.
334.New subsection (1) introduces the “legal” test where a person controls a company if they have the power to secure that, directly or indirectly, the affairs of the company are conducted in accordance with their wishes through the possession of shares or voting powers in a company or powers conferred through articles of association or other documents that regulate a company.
335.New subsection (2) introduces the “economic” test where a person controls a company if it is reasonable to suppose that the person would receive (whether directly or indirectly) the majority of one or more of the following:
the disposal proceeds in the event of a disposal of the whole of the company’s share capital,
the income on a distribution if the whole of the company’s income was distributed, or
the company’s assets on a winding up or other circumstances,
whether at the time of the disposal, distribution or winding up, or at any later time.
336.The term “indirectly” means that one or more UK persons can control a CFC where one or more overseas companies or entities are interposed between the CFC and those persons.
337.However for the purposes of subsection (2), new subsection (3) provides that any rights which a person has as a “relevant bank” should be ignored.
338.New subsection (4) provides that share capital held by a “relevant bank” and rights to distributions or assets on a winding up held by a “relevant bank” are not included in the whole of the company’s share capital, distributable income and assets on a winding up when determining the amount that it is reasonable to suppose a person would receive under subsection (2). So if a bank owns 2 of the 100 ordinary issued shares in a CFC, those 2 shares are ignored in testing for control under subsection (2)(a). The test of whether a person would receive a majority of the proceeds of a disposal of the whole of the shares would be by reference to 98 shares rather than 100 and so a person owning 50 shares would receive a majority of the proceeds if those 98 shares were sold.
339.New subsection (5) defines a “relevant bank” as a bank carrying on a banking business (as defined at new section 371VA) which is regulated in the CFC’s territory of residence. Subsection (5)(b) however limits the exclusion for banks to cases where the bank is lending money to the CFC in the ordinary course of its business.
340.New subsection (6) makes it clear that references to a person receiving any proceeds, amounts or assets in subsections (2) and (4) include references to the proceeds, amounts or assets being applied directly or indirectly for their benefit.
341.New subsection (7) states that if two or more persons taken together meet the conditions of the tests at subsections (1) or (2) they will be taken to control the company. Those persons do not have to be connected. So if unconnected companies A and B both own 30 per cent of the voting shares of a CFC, then, taken together, they control the CFC.
342.New section 371RC introduces an alternative legal and economic control test (“the 40 per cent test”) of whether a company is a CFC. The test applies when two persons control a company and one of them is not resident in the UK. If a UK resident person has interests, rights and powers that represent at least 40 per cent of the holdings, rights and powers that give control of a company and a non-UK resident holds at least 40 per cent but not more than 55 per cent of the holdings, rights and powers, the company will be taken to be a CFC. This test will apply mainly to joint venture companies.
343.New section 371RD attributes various rights and powers to a person in order to determine whether a person or two or more persons control a company for the purposes of legal and economic control (including the 40 per cent test).
344.New subsections (2) and (3) provide that there should be attributed to each person (“P”) all the following rights and powers to the extent that they would not otherwise be attributed to that person:
rights and powers which P is entitled to acquire at a future date or will become so entitled to acquire at a future date;
rights and powers of other persons that fall within new subsection (4);
if P is UK resident, the rights and powers of other UK residents who are connected to P; and
rights and powers within new subsection (3)(d).
345.New subsection (3)(d) covers more complex circumstances where P is a UK resident person. It includes rights and powers which would, under subsection (2), be attributed to another UK resident person (identified as “Q”) who is connected to P on the assumption that “Q” were P. This covers situations where there are three persons (for example A, B and C) and A is connected to B and B is connected to C but A and C are not connected. In these circumstances any rights and powers of A are to be attributed to C and vice versa. This then extends to circumstances where there are more than 3 persons (say A to Z) and C is connected to D, D to E and so on forming a chain of connection. In these circumstances (and as long as the persons are UK resident) any rights and powers of any one person are to be attributed to each other.
346.New subsection (4) covers rights and powers so far as they are required or may be required to be exercised on behalf of P, under P’s direction or for P’s benefit. In the case of a loan made by one person to another, these are not limited to rights and powers conferred by the terms of any security relating to the loan.
347.New subsection (5) states that in subsections (3)(b) to (d) and subsection (4) references to rights and powers include rights and powers which the person is entitled to acquire at a future date or will, at a future date, become entitled to acquire.
348.New subsection (6) disapplies section 1122(4) of CTA 2010 (which is otherwise generally applied by new section 371VF(2)(b) for the purposes of Part 9A) when determining whether one person is connected with another for the purposes of section 371RD.
349.New subsection (7) provides that for the purposes of sections 371RB, and 371RC, references to rights and powers of a person or rights and powers which a person is or will become entitled to acquire include references to rights and powers that are exercisable jointly with one or more persons.
350.New section 371RE introduces ‘the accounting test’ of control that is based on Financial Reporting Standard 2 (“FRS 2”) issued and updated by the Accounting Standards Board in the UK. Under new subsection (1), for the purposes of Part 9A a person “P” controls a company at any time if P is the company’s “parent undertaking”. FRS 2 sets out the circumstances in which a parent undertaking must prepare consolidated financial statements, including the financial results of any “subsidiary undertaking”. It does not matter if P does not or is not required to prepare consolidated financial statements under FRS2; the section applies by testing whether there would be a parent/subsidiary relationship if P were to apply FRS 2. Both “parent undertaking” and “subsidiary undertaking” take their meaning from FRS 2.
351.However new subsection (2) provides a limitation that a company will not be taken as a CFC at the time in question under the accounting test unless the “50 per cent condition” is met at that time.
352.New subsection (3) sets out assumptions that should be made when determining whether the “50 per cent condition” is met. These are:
that the company is a CFC at that time;
that that time is itself an accounting period of a CFC; and
that section 371BC applies in relation to the assumed accounting period.
Thus, for the purpose of establishing whether the 50 per cent condition is met at a single point of time, there is an assumed CFC, an assumed accounting period consisting of that point in time, and an assumption that the CFC’s chargeable profits would be apportioned for that assumed accounting period.
353.New subsection (4) states that the 50 per cent condition is met if at the time in question the percentage of the CFC’s chargeable profits (as calculated using the assumptions in subsection (3)) which would be apportioned to P taken together with its UK resident subsidiary undertakings (if it has any) would be at least 50 per cent.
354.New section 371RF(1) provides that the Treasury may by regulations amend section 371RE to take account of the following:
any modification, amendment or revision of FRS2, or
any relevant document.
355.New subsection (2) defines “relevant document” as either a document that replaces FRS2 or a document which replaces, modifies, amends or revises a document that replaces FRS2 or a document that performs the same function on the latter document.
356.New subsection (3) provides that the Treasury may also by regulations make provision that corresponds to the accounting test in section 371RE and uses any other accounting standard dealing with consolidated financial statements, and which will apply instead of section 371RE to determine if a person “controls” a company where that person prepares or is required to prepare consolidated financial statements in accordance with that standard.
357.New subsections (4) and (5) allow the Treasury to provide by regulations that, if specified conditions are met, a company will not be taken to be a CFC by virtue of section 371RE (the “accounting standards” test) or any equivalent test provided by regulations under subsection (3) of section 371RF.
Chapter 19 - Assumed taxable total profits, assumed total profits and the corporation tax assumptions
358.Chapter 19 explains the meaning of a number of terms used in Part 9A: “the corporation tax assumptions”, “assumed taxable total profits” and “assumed total profits”.
359.New section 371SB(1) defines a CFC’s “assumed taxable total profits” for an accounting period as what would be the CFC’s taxable total profits of the accounting period for corporation tax purposes applying the corporation tax assumptions.
360.New subsection (2) states that “taxable total profits” has the meaning given by section 4(2) of CTA 2010 which is that they are the profits of a company of an accounting period on which corporation tax is chargeable.
361.For this purpose new subsections (3) to (6) provide as follows for establishing taxable total profits: chargeable gains should be ignored; accrued income of a settlement (apportioned on a just and reasonable basis if there is more than one settlor or beneficiary) should be added in where the CFC is a settlor or beneficiary of the settlement; and, if the CFC has received an actual dividend or distribution from the settlement, this is excluded to prevent double counting. New subsection (8) also prevents settlement income being added in to chargeable profits of a settlor where it has already been charged on a CFC who is a beneficiary.
362.New subsection (9) defines a CFC’s “assumed total profits” for an accounting period to be its assumed taxable total profits for the period before taking step 2 in section 4(2) of CTA 2010 i.e. before deducting any reliefs against total profits.
363.New section 371SC introduces the corporation tax assumptions.
364.New section 371SD provides that for the purposes of Part 9A, the CFC is assumed to be resident in the UK from the beginning of the CFC’s first accounting period until the company ceases to be a CFC. By virtue of new subsection (6), the first accounting period of a CFC begins when the CFC becomes subject to the rules in Part 9A. The residence assumption has the effect that the CFC is, has been and will continue to be within the charge to corporation tax, and that its accounting periods are accounting periods for corporation tax purposes.
365.New subsection (2) provides that new subsection (1) does not also require it to be assumed that there is any change in the location in which the CFC carries on its activities. This means that for the UK tax computation of profits the CFC will be treated as undertaking its trading or business activities outside the UK to the extent that it does so. The subsection also requires that it be assumed that the CFC does not get the benefit of section 1279 of CTA 2009 (which provides an exemption for profits from securities free of tax to residents abroad – i.e. FOTRA securities).
366.New subsection (3) provides that where the CFC is actually UK resident immediately before the beginning of its first accounting period the assumption of UK residence does not, as a consequence, mean that there is a continuous period of UK residence running from the preceding period. This is ensured by making the additional assumption that the CFC’s UK residence from the beginning of the CFC’s first accounting period is not continuous with its (actual) UK residence before the beginning of that accounting period.
367.New subsection (4) assumes that a determination of the CFC’s assumed taxable total profits has been made for all previous accounting periods back to (and including) the CFC’s first accounting period for the purposes of Part 9A. New subsection (5) explains that the assumption in subsection (4) is made in particular for the purposes of applying any relief which is relevant to two or more accounting periods.
368.New section 371SE applies so that the CFC is assumed not to be a close company.
369.New section 371SF(1) assumes that any beneficial claims or elections have been made that would, on the assumption of UK residence, have been available in relation to any relief under the Corporation Tax Acts to the maximum amount that would be available under that provision, and to have been made within any applicable time limit.
370.New subsection (2) restricts the application of subsection (1) so that it does not cover a claim or election under section 18A of CTA 2009 (exemption for profits or losses of foreign PEs), section 1275 of CTA 2009 (relief for unremittable income), section 9A of CTA 2010 (designated currency of a UK resident investment company), or regulations made under paragraph 16 of Schedule 8 to Finance Act 2006 (election for a lease to be treated as a long funding lease). An election under section 9A of CTA 2010 is however possible provided a notice is given to an officer of Revenue and Customs to that effect and the requirements with respect to the form of notice and time limits have been complied with (new section 371SH).
371.New subsection (3) requires (by reference to new section 371SK(5)) an assumption that a rollover in respect of a reinvestment relief claim for intangible fixed assets has not been made nor will be made by the CFC.
372.New section 371SG allows a chargeable company on provision of a notice to disapply part or all of the claims and election assumptions for an accounting period.
373.New subsection (1) applies so that if a notice is given to an officer of Revenue and Customs within given time limits and in the required form it can be assumed that the CFC:
has not made for the accounting period a specified claim or election otherwise assumed automatically by the corporation tax assumptions at section 371SF(1),
has instead have made for the accounting period a specified claim or election, being different from one assumed by the corporation tax assumptions at section 371SF(1) but being one which (subject to compliance with any applicable time limit) could have been made by a company within the charge to corporation tax, or
has disclaimed or required the postponement, in whole or in part, of a specified allowance for the relevant accounting period if (subject to compliance with any applicable time limit) a company within the charge to corporation tax could have disclaimed the allowance or required such a postponement.
374.New subsections (2) and (3) require the CFC’s assumed total profits and the amounts to be relieved against those profits at step 2 in section 4(2) of CTA 2010 and creditable tax to be adjusted by applying the assumption set out in the notice, so far as relevant, and disapplying the assumption set out at section 371SF(1) to the extent necessary as a consequence.
375.New subsection (4) provides that notice under section 371SG(1)(b) can include a claim to rollover relief in respect of intangible fixed assets (see section 371SF(2)(b)) or a claim in respect of relief for unremittable income under section 1275 of CTA 2009 (see section 371SK(5)).
376.New subsections (5) to (7) provide a time limit for a notice under subsection (1) and that the notice may only be given by a company or companies that either alone or together would have more than 50 per cent of the chargeable profits of the CFC apportioned to them were the CFC charge to be applied.
377.New section 371SH sets out the assumptions that are treated as being made where a notice is given requesting that the CFC is assumed to have made an election under section 9A CTA2010 (designated currency of a UK resident investment company).
378.New subsection (3) ensures that when applying the corporation tax assumptions in Chapter 19 in relation to a designated currency election under section 9A CTA 2010, any revocation of such an election is taken into account provided that the revocation is made within the prescribed time limits.
379.New section 371SI applies if, in accordance with section 371SH, a CFC is assumed to have made an election under section 9A of CTA 2010, but section 6 or 7 of CTA 2010 cannot apply because the CFC does not prepare its accounts in accordance with GAAP. The effect is to apply sections 6 and 7 to the CFC such that it is required to calculate its profits or losses in accordance with GAAP.
380.New section 371SJ assumes that a long funding lease election has been made (or withdrawn) by the CFC where a notice is given to an officer of Revenue and Customs in the correct form, within the required time limits and by the company or companies eligible to deliver such a notice as above. Where such a notice is made the assumed taxable total profits of the CFC are calculated taking into account regulation 2(5) of the Long Funding Lease (Elections) Regulations 2007 (S.I. 2007/304). New section 371SJ(8) reserves a Treasury power to amend this section in order to take account of any regulations made under paragraph 16 of Schedule 8 to FA 2006 (election for leases to be treated as long funding leases).
381.New section 371SK requires an assumption that any intangible fixed asset created or acquired by the CFC before the first accounting period in which it becomes subject to Part 9A should be brought into account in the CFC’s first accounting period at its value as recognised for accounting purposes at that time. For these purposes there is a requirement to assume that rollover relief has not been claimed nor will be claimed by the CFC in respect of the identified intangible fixed asset.
382.New section 371SL(1) assumes that the CFC is neither a member of a group of companies nor a member of a consortium for the purposes of any provision of the Tax Acts. The main effect of the assumption is to prevent the group loss relief provisions from applying.
383.New subsections (2) and (3) provide that any relief potentially deductible is to be ignored in determining the CFC’s assumed taxable total profits for the relevant accounting period where under Part 5 of CTA 2010 (group relief) the CFC actually surrenders losses to another UK company by way of group relief (for example from the CFC’s loss-making UK permanent establishment), but in applying the corporation tax assumptions the losses would reduce the CFC’s assumed taxable total profits for the relevant accounting period. These sections have the effect of restricting relief for losses in the CFC’s taxable total profits computation where they have arisen to a UK permanent establishment of the CFC and have been actually group relieved in the UK thereby preventing the losses from being effectively relieved twice.
384.New section 371SM(1) applies if the CFC incurred any capital expenditure on the provision of plant or machinery for the purposes of its trade before the first accounting period in which it becomes subject to Part 9A.
385.New subsection (2) assumes that for the purposes of Part 2 of CAA 2001 (plant and machinery allowances) the plant or machinery was provided for purposes wholly other than those of the trade, and was not brought into use for the purposes of the trade until the beginning of the CFC’s first accounting period, and that section 13 of CAA 2001 (use for qualifying activity of plant or machinery provided for other purposes) applies accordingly. This has the effect of bringing in a value equal to the market value of the plant and machinery employed in the trade at the beginning of the CFC’s first accounting period.
386.New section 371SN prevents overseas income from being excluded from the assumed taxable total profits of a CFC on the basis that it is unremittable unless it is not possible to remit it either to the UK or to any of the territories overseas in which the CFC is resident. It follows that income arising in a territory of residence of the CFC can never be excluded from the taxable profits calculation even if it is not possible to remit it to the UK.
387.New section 371SO(1) ensures that where the application of the Corporation Tax Acts is dependent upon a purpose test which considers whether a purpose of an arrangement or other conduct is to obtain a tax advantage within the meaning given to it at section 1139(2)(a) to (d) of CTA 2010, the provisions also apply where the arrangement or other conduct has as one of its main purposes the avoidance or reduction of a CFC charge (section 1139(da) of CTA 2010).
388.New subsection (2) states that so far as they would not otherwise do so the Corporation Tax Acts are assumed to apply to the arrangement or other conduct in the same way as they would if the purpose of obtaining the tax advantage under section 1139(2)(da) were the same as obtaining an advantage within the meaning of an actual tax advantage under section 1139(2)(a) to (d). This links the reduction or prevention of a CFC charge to the definition of “tax advantage” arising to a UK company for the purposes of computing the CFC’s assumed taxable total profits.
389.New section 371SP ensures that references to a tax advantage at section 1139(2)(da) include any tax advantage arising under section 486D(4) of CTA 2009 as a consequence of the CFC being party to an arrangement that falls within the disguised interest rules in Chapter 2A of Part 6 of CTA 2009.
390.New section 371SQ ensures that references to a tax advantage at section 1139(2)(da) include any tax advantage arising under section 521E(4) of CTA 2009 as a consequence of the CFC being party to an arrangement that falls within the rules for shares accounted for as liabilities at section 521C of CTA 2009.
391.New section 371SR ensures that the double tax relief anti avoidance provisions within section 82 of TIOPA apply in computing the creditable tax of a CFC. These rules ordinarily require a notice to be issued by an officer of Revenue and Customs and so the rule applies by assuming in effect that such a notice has been issued.
Chapter 20 - Residence of CFCs
392.New section 371TA sets out the rules for determining the tax residence of a CFC. The rules retain substantially the same effect as the repealed sections 749 and 749A of the ICTA. The rules apply for the purposes of Part 9A but make reference to additional rules relating to residence for the excluded territories exemption (ETE) and the tax exemption (TE).
393.New subsection (1) provides the basic rule for determining the territory of tax residence of a CFC. The first step is to apply the general residence rules at new section 371TB. These are explained below. If it is not possible to determine a territory of residence under the general rules then new subsection (1)(b) applies, which is in two parts. Under new subsection(1)(b)(i), if a CFC is UK incorporated but under section 18 CTA 2009 it is treated as resident in another territory in accordance with the UK’s tax treaty with that territory, then it is treated as resident in that other territory. Otherwise it is treated as resident in the territory in which it is incorporated or formed.
394.New subsection (3) provides that the section is subject to two rules elsewhere in Part 9A where the residence rule is adapted. The first is an additional rule for the ETE set out in section 371KC which requires the CFC, or persons with an interest in the CFC, to be liable to tax in the CFC’s territory of residence in order for the rule in subsection (1)(b) to apply. A company is regarded as liable to tax in a particular territory if it is within the charge to tax there even though it may pay no tax because of, for example losses or double tax relief.
395.The second is an additional rule for the tax exemption set out in step 1 of section 371NB(1), which provides that a CFC cannot benefit from the tax exemption unless a territory of residence can be determined under the general rule in new section 371TB.
396.New section 371TB provides the general rules to determine the territory in which a CFC is resident. The legislation refers to “territory” throughout rather than “country” so that it covers jurisdictions such as the Channel Islands and the Isle of Man which do not have full independent status. However, in its application to federal states such as the U.S.A. and Switzerland, “territory” signifies the country and not an individual state.
397.New subsection (1) states that the CFC is taken to be resident in the territory under the law of which it is liable to tax by reasons of its domicile, residence or place of management at all times during the accounting period.
398.This rule may result in a company being regarded as resident in more than one territory and so new subsection (2) states that where there could be two or more eligible territories of residence, the CFC can only be resident in one of those territories.
399.New subsection (3) provides that in determining which of the eligible territories should be the territory of residence the rules in new subsections (4) to (9) should be applied. Where more than one of those subsections may apply to determine the residence of the CFC, the earliest subsection takes precedence.
400.New subsection (4) provides that where an election or designation of residence has been made for an earlier accounting period in respect of one of the eligible territories, that is the territory of residence.
401.New subsection (5) requires that where the CFC’s place of effective management is carried on in one (and only one) of the eligible territories then that territory is the territory of residence.
402.New subsection (6) deals with the case where the CFC’s place of effective management is carried on in two or more of the eligible territories. If this is the case, an eligible territory in which more than 50 per cent of the CFC’s assets are held (priced at their market value immediately before the end of the CFC’s accounting period) is the territory of residence.
403.If a company is resident in more than one territory but the rule in subsection (6) doesn’t apply because none of the eligible territories in which effective management is undertaken hold a majority of the CFC’s assets, new subsection (7) provides that any other eligible territory in which more than 50 per cent of the CFC’s assets are held (priced at their market value immediately before the end of the CFC’s accounting period) is the territory of residence.
404.New subsection (8) provides that, if an election specifying an eligible territory is made by certain chargeable companies in accordance with new section 371TC(1) then that territory is the territory of residence.
405.New subsection (9) provides that if an officer of Revenue and Customs designates a territory on a just and reasonable basis (see new section 371TC(5) to (7)) then that territory is the territory of residence.
406.Because earlier subsections take priority over later ones, an election or designation is likely to be made in circumstances where both effective management and all of the CFC’s assets are located outside of the territories in which the CFC is liable to tax under the main rule at subsection (1).
407.New section 371TC provides for elections and designations about residence with new subsection (1)(a) to (f) setting out the form in which an election is to be made.
408.New subsections (2) and (3) explain which companies may make an election. These are the companies in the group, individually or in combination, to which more than half of the CFC’s chargeable profits would be likely to be apportioned if the company or companies were to be subject to the CFC charge.
409.New subsection (6) states that a designation of an eligible territory made by an officer of Revenue and Customs is irrevocable. Under new subsection (7), the officer making the designation must give notice of the designation to each of the companies which would be likely to be a chargeable company, were the CFC charge to be charged in relation to the accounting period.
410.New subsection (8) specifies what information the notice must contain.
411.New subsection (9) sets out that the election or designation of residence will apply to the CFC’s accounting period and each successive accounting period (even if the interest-holders in the CFC or the extent of their interest change) until such time as new subsection (10) is applicable to an accounting period.
412.New subsection (10) has the effect that the election or designation will not continue to be valid for an accounting period if one or more territories which were eligible territories in the accounting period covered by the original election or designation no longer fall within section 371TB(1), or some other territory also falls within section 371TB(1) in the later period.
Chapter 21 – Management
413.New section 371UA introduces Chapter 21. It includes the framework provisions for collection and management matters relevant to the CFC rules. It provides that the HMRC Commissioners are responsible for the management of the CFC charge, including the collection of sums charged. It also defines, for the purposes of Chapter 21 the terms “closure notice”, “discovery assessment” and “the Taxes Acts”.
414.New section 371UB sets out how the Taxes Acts are to be applied to the CFC charge.
415.New subsections (1) and (2) provide that the CFC charge is to be treated as though it were an amount of corporation tax (as set out in step 5 section 371BC(1)), all enactments which apply generally to corporation tax also apply. This rule is subject to any provisions of the Taxes Act and any necessary modifications.
416.New subsection (3) provides an inclusive list of the enactments that are within subsection (1). They are the enactments relating to:
returns, accounts statements and reports,
assessment, collection and receipt of corporation tax,
rights of appeal, and
administration, penalties, interest on unpaid tax and priority of tax in insolvency cases.
417.New subsection (4) specifies two particular respects in which new subsection (1) applies. They are that TMA 1970 is to have effect as if any references to ‘corporation tax’ and the ‘profits of a company’ in that Act include:
for references to corporation tax - the sum charged at step 5 in section 371BC(1) (the main CFC charging provision), and
for references to ‘profits of a company’ - the percentage of the CFC’s chargeable profits charged at step 5 in section 371BC(1).
418.New subsection (5) ensures that the statutory provisions on claims and elections required to be made in a company’s tax return (Paragraph 10 of Schedule 18 to FA 1998) and those that can be made outside a return (Schedule 1A, of the TMA 1970) shall not apply to an election under section 371TB(8) (election to determine the territory in which the CFC is resident).
419.New section 371UC provides for the determination of a different basis of apportionment of a CFC’s chargeable profits and creditable tax from that adopted by a company in its return or an amendment to its return.
420.New subsection (1) provides for the section to apply if two conditions are met. First, a CFC’s chargeable profits and creditable tax must be subject to apportionment in accordance with section 371QC(2), that is, they must be apportioned on a just and reasonable basis); secondly, a company tax return must be made or amended adopting a particular basis of apportionment.
421.New subsections (2) and (3) give an officer of Revenue and Customs the power to determine a basis for apportionment other than that used by the company. They also set out the grounds on which that determination can be questioned by appeal.
422.New subsection (4) makes clear that the only permissible grounds for questioning the officer’s determination is that the basis of apportionment is not just and reasonable.
423.New section 371UD deals with reliefs that may be given against a CFC charge.
424.New subsection (1) provides for the new section to apply if in relation to a CFC’s accounting period a chargeable company is entitled, or on the making of a claim would be entitled (apart from the power provided by subsection (2)), to a deduction in respect of a relevant allowance for the relevant corporation tax accounting period.
425.New subsection (2) provides that the company may make a claim under the subsection in respect of the relevant allowance.
426.New subsections (3) and (4) provide that the relief is to be given by setting off the “relevant sum” against the sum charged to the company under the main CFC charging provision (step 5 in section 371BC(1)). The “relevant sum” is defined as being the amount equal to the corporation tax at the appropriate rate on the amount of the relevant allowance specified in the claim.
427.New subsections (5) and (6) provide that the “relevant allowance” specified in the claim is to be taken for the purposes of the Tax Acts as having been allowed as a deduction. It is also made clear that no other relief is available against the sum charged on a company at step 5 in section 371BC(1).
428.New subsection (7) provides definitions for the terms used within the section. Those defined are “the appropriate rate”, “the relevant corporation tax accounting period” and “relevant allowance”. The definition of “relevant allowance” provides an exhaustive list of the amounts which shall fall within it.
429.New section 371UE is applied by new subsection (1) where a “relevant appeal” involves any question about the application of Part 9A to a particular person and the resolution of that question is likely to affect the Part 9A liability of any other person in relation to the CFC concerned.
430.New subsection (2) defines “relevant appeal” to include only an appeal made under either paragraph 34(3) (amendment of a company tax return) or paragraph 48 (discovery assessment) of Schedule 18 to FA 1998.
431.New subsections (3) to (6) set out how that relevant appeal is to be conducted. They make clear that any party whose liability is likely to be affected under Party 9A is entitled to be part to the proceedings. It is also provided that the tribunal must determine the Part 9A question separately from any other questions within the proceedings. In addition, the tribunal’s determination on the Part 9A question shall have effect as if it had been made in an appeal to which each of the persons affected was a party.
432.New section 371UF(1) introduces the rules for the recovery of the CFC charge (step 5 in section 371BC(1)) on a company (“the defaulting company”) where the amount is not fully paid by the date it is due and payable.
433.New subsection (2) provides that in relation to the amounts remaining due and payable, an officer of Revenue and Customs is permitted to give notice of liability to another UK resident company. The officer may give a notice of liability to that other UK resident company when it holds or has held (directly or indirectly) the whole or any part of the same interest in the CFC concerned as is or was held by the defaulting company.
434.New subsection (3) sets out the amounts for which the company receiving the subsection (2) notice (“the responsible company”) is liable. The amounts include:
the whole, or corresponding part, of the sum charged that is unpaid when the notice is given,
the whole, or corresponding part, of any unpaid interest on the sum at the time the notice is given, and
any interest accruing on the sum after the notice is given if it is referable to the sum payable by the responsible company under paragraph (a) above.
435.New subsection (4) provides that new subsection (5) will apply if amounts payable by the responsible company under subsection (3) remain unpaid after 3 months of the notice being given. Subsection (5) permits amounts not paid at this point to be recoverable from the defaulting company, without affecting the right of recovery from the responsible company.
Chapter 22 – Supplementary Provision
436.New section 371VA provides definitions for the purposes of Part 9A.
437.New section 371VB provides the rules for identifying the commencement and cessation of an accounting period of a CFC.
438.New subsections (2) and (3) provide the basic rules. There are two circumstances resulting in the commencement of an accounting period. An accounting period will commence either when a CFC first becomes a CFC, or, if it is already a CFC and continues to be a CFC, immediately after the end of the previous accounting period. There are four circumstances which terminate an accounting period. An accounting period will come to an end if:
the CFC ceases to be a CFC;
the CFC becomes or ceases to become liable to tax in a territory due to a change in its domicile, residence or place of management;
the CFC ceases to have any source of income; or
a company with a relevant interest (as defined in Chapter 15) no longer has that interest or ceases to be within the charge to corporation tax.
439.Without affecting subsections (2) and (3), new subsection (4) applies certain sections of Chapter 2 of CTA 2009 which provide further rules on accounting periods.
440.New subsections (5) and (6) provide rules that allow an officer of Revenue and Customs to specify an accounting period by issuing a notice. If it appears to an officer of Revenue and Customs that there is uncertainty as to when an accounting period either commences or ceases then they may issue a notice to the CFC specifying the accounting period which they consider appropriate, which must not exceed 12 months.
441.New subsections (7) to (9) provide for a circumstance where, after the issue of a notice under subsection (6), further facts come to the knowledge of an officer of Revenue and Customs and it appears to an officer of Revenue and Customs that the accounting period specified in the notice is not the correct accounting period. An officer of Revenue and Customs must issue another notice amending the earlier notice to specify the correct accounting period. This requires the officer of Revenue and Customs to amend the notice where it appears that the notice is incorrect. A notice or amended notice must be given to each company which the officer of Revenue and Customs considers likely to be liable to a CFC charge in the CFC’s accounting period in question.
442.New section 371VC sets out what is meant by “accounting profits”. It explains that the CFC’s accounting profits for an accounting period are its pre-tax profits for the period. Where the accounting profits are disclosed in financial statements prepared for the accounting period in accordance with an acceptable accounting practice then the CFC’s pre-tax profits are to be determined based on the amounts disclosed in those financial statements, unless new subsections (4) and (5) apply.
443.New subsection (4) gives effect to new subsection (5) if the CFC’s financial statements for the accounting period are not prepared in accordance with an acceptable accounting practice or the CFC’s financial statements are not prepared within 12 months after the end of the CFC’s accounting period.
444.If subsection (5) applies to a CFC that normally prepares financial statements according to acceptable accounting practice, its accounting profits must be based on amounts that would have been disclosed in financial statements if its usual practice had been adopted. In any other case the CFC’s profits are to be based on international accounting standards.
445.New subsection (6) defines what is meant by “acceptable accounting practice” for section 371VC. It is any of the following:
international accounting standards,
UK generally accepted accounting practice, or
an accounting practice which is generally accepted in the CFC’s territory of residence for the accounting period.
446.New subsection (7) explains that references in section 371VC to amounts disclosed in financial statements include amounts comprised in amounts so disclosed. This covers a situation where an amount is disclosed in the financial statements of a CFC as part of a cumulative total or larger balance.
447.New subsection (8) explains the method for converting the CFC’s accounting profit (or amounts included in them) into sterling where they are stated in another currency. They should be translated to sterling using the average rate of exchange for the accounting period calculated on daily spot rates.
448.New section 371VD explains the further adjustments required to determine a CFC’s accounting profits identified in section 371VC. The computation can be summarised as follows.
449.In the computation above:
where there is more than one settlor or beneficiary of the settlement, the income accruing to the trustees is apportioned between the CFC and the other settlors and beneficiary on a just and reasonable basis,
partnership for these purposes includes any entity established in a territory outside of the UK that has characteristics of a partnership and partner is to be read accordingly, and
the pre-tax profits arsing under section 371VC should be adjusted to take account of the transfer pricing rules in Part 4 of TIOPA, unless after making the adjustment, the difference in the profits (which are referred to in the legislation as the assumed total profits) is greater than £50,000.
450.New section 371VE covers cell companies. New subsection (1) explains that Part 9A can apply to both unincorporated and incorporated cells as if they were non-UK resident companies.
451.New subsections (2) and (3) define “unincorporated cell” as an identifiable part of a relevant company (by whatever name known) that meets the conditions in subsection (3). The conditions may be met by reference to the law under which the relevant company is incorporated or formed, the articles of association or other document regulating the relevant company, or the terms of any arrangement entered into by or in relation to the relevant company. The conditions are that assets and liabilities of the relevant company may be wholly or mainly allocated to the unincorporated cell, such that the cell’s liabilities are met wholly or mainly out of its assets and there are members of the company whose rights are wholly or mainly limited to the cell’s assets.
452.New subsection (4) provides that subsection (1) does not affect the status of the non-UK resident company, which is treated as having an unincorporated cell under subsection (2), as a company for the purposes of Part 9A, but it requires the assets and liabilities of the company to be apportioned between it and all the unincorporated cells which are part of the company on a just and reasonable basis.
453.New subsection (5) defines an “incorporated cell”. It is an entity which would not (apart from this section) be a company, is established either under the articles of association or other document regulating a non-resident company, and which has a legal personality distinct from that of the non-UK resident company under the law under which the company is incorporated or formed. This definition applies irrespective of the name given to the incorporated cell.
454.New subsection (6) confirms that treatment as an incorporated cell under subsection (5) does not affect the status of the non-UK resident company as a company for the purposes of Part 9A.
455.New subsections (7) and (8) provide the power for the Treasury to make regulations which provide for Part 9A to apply to parts of companies falling within specific descriptions or to other non-corporate entities, as if they were non-UK resident companies.
456.New section 371VF sets out the rules for identifying connected persons for the purposes of Part 9A. This includes persons who are “associated” or “connected” to the CFC as those terms are defined in section 882(2) to (7) and 1122 of CTA 2010 respectively.
457.New section 371VF(3) provides that a person is related to a CFC if any of the three following circumstances exists.
the person is connected or associated with the CFC (as defined above),
if there were to be a CFC charge, at least 25 per cent of the CFC’s chargeable profits would be apportioned to the person, or
if the CFC is a CFC by virtue of section 371RC, the person is connected or associated with either or both of the controllers.
458.New section 371VG(1) defines non-trading finance profits for the purposes of Part 9A. It includes:
any amounts included in the CFC’s assumed total profits on the basis that they would be chargeable to tax under section 299 of CTA 2009 (charge to tax on non-trading profits from loan relationships);
any amounts chargeable to tax under Part 9A of CTA 2009 (company distributions);
amounts arising on relevant finance leases (as defined in section 371VA) which are not trading profits.
459.New subsection (2) provides that the amounts of non-trading finance profits determined under subsection (1) must take account of:
the treatment of credits and debits relating to a CFC’s property business provided by new subsection (3),
the exclusion of profits to which Chapter 8 (solo consolidation) applies,
the exclusion of the CFC’s qualifying loan relationships if section 371CB(8) applies, and
that non-trading finance profits should include the trading and non-trading finance profits of a treasury company that has issued a notice to that effect to Revenue and Customs under section 371CE(2)(b).
460.New subsection (3) provides that non trading finance profits should exclude any credits or debits included in determining the CFC’s property business profits as defined at new section 371VI(2). These are profits of the CFC arising from debtor relationships that have been entered into for the purposes of the exempt property business rather than for the purposes of on-lending to any other person.
461.New subsections (4) and (5) define trading finance profits as any amounts which are trading profits by virtue of section 297, 573 or 931W of CTA 2009 and any trading profits arising on relevant finance leases, but that in the case of a group treasury company, this is subject to the treatment of trade profits as non-trading finance profits if a notice under section 371CE(2) is issued.
462.New sections 371VH(1) to (2) provide the basic rules for identifying persons who have an “interest” in a company for Part 9A. New subsection (2) gives four circumstances that will mean a person has an “interest” in a company. In addition to persons having rights obtained by the holding of shares, these include any person who it is reasonable to suppose would receive or participate in distributions of the company, or would be able to secure that income or assets of the company would be applied for the person’s benefit. It also includes a person who can control the company, either alone or with other persons.
463.New subsections (3) to (8) expand and provide meanings for some of the terms used in subsection (2).
464.New subsection (4) covers circumstances where a person’s entitlement to secure that the income or assets of a company in subsection (2)(c) is contingent (under an any form of agreement) on a default by either the company or any other person. The person will not be treated as having an interest unless the default has already occurred.
465.New subsections (5) and (6) exclude rights that a person has as a loan creditor, which are not “interests” for these purposes. The meaning of loan creditor for these purposes is that given in section 453 of CTA 2010, except that the exclusion in subsection 453(4) of CTA 2010 for loans made in the ordinary course of a banking business is set aside. References to a person being entitled to do anything cover a present entitlement to do that thing at a future date and a future entitlement to do it.
466.New subsections (7) and (8) exclude from subsection (5) any rights arising from a loan relationship with an embedded derivative. An embedded derivative takes the meaning given to it at section 415(1)(b) of CTA 2009. Section 415 of CTA 2009 operates by reference to GAAP, so where the loan creditor does not prepare accounts under GAAP it is assumed to have done so for the purposes of determining whether a right from an embedded derivative exists.
467.New subsections (9) and (10) cover a situation where a CFC is a CFC because it falls within the control anti avoidance rule in section 371RG. In such circumstances, the rule in section 371RG(3) will determine the persons who have “interests” in the CFC and the nature of those interests.
468.New subsections (11) to (13) cover a circumstance where a person (or two or more persons together) have an interest in a company and that company has an interest in a second company. Each of those persons has an interest in the second company equivalent to a proportion of the first company’s interest, determined by reference to the extent of that person’s interest in the first company. For example, where person A has a 50 per cent interest in company 1 which has an 80 per cent interest in company 2, these provisions treat person A as having an interest equal to 50 per cent of company 2’s interest. Hence A has a 40 per cent interest in company 2.
469.New subsection (14) covers a situation where two or more persons jointly have an interest in a company other than in a fiduciary or representative capacity. It treats them as having the interest in equal shares.
470.New section 371VI covers the meaning of “property business profits”. By new subsection (1) these are the profits of a CFC for the accounting period in question that are included in its assumed total profits on the basis that they would be chargeable profits under Part 4 of CTA 2009 (property income).
471.New subsections (2) to (5) provide for further adjustments to be made to the amount of property business profits to take account of credits and debits brought in under Part 5 of CTA 2009 as a consequence of the CFC being in a debtor relationship, where the loan is the subject to the debtor relationship or because the credits and debits relate to a derivative contract or other hedging arrangement entered into by the CFC as a hedge of risk in connection with the relevant property business and are attributable to hedging of risk.
472.New subsection (6) provides a definition of “relevant property business.
473.New section 371VJ provides a power for regulations made under Part 9A to contain incidental, supplemental, consequential and transitional provision and savings.
Part 2.Foreign Permanent Establishments
474.Statutory references in the explanatory note for Part 2 of the Schedule are to CTA 2009 unless otherwise stated.
475.Part 2 of the Schedule makes amendments to Chapter 3A which (if a company so elects) excludes profits or losses arising in PEs from the charge to corporation tax, subject to certain conditions including an anti-diversion rule.
476.Part 2 repeals the existing anti-diversion rule and replaces it with one that adapts the main CFC provisions in Part 1 of this Schedule so that they can be applied to PEs in respect of which an election for exemption from corporation tax has been made. Some other changes are also made to Chapter 3A.
477.Two separate approaches are taken in order to apply the main CFC rules to PEs.
478.With regard to the CFC charge gateway rules in Chapters 3 to 9 of Part 9A of TIOPA, the relevant conditions are adjusted so that the rules are applied to any UK resident company which has a PE, and then, if any CFC chargeable profits arise, they determine whether any of those profits have arisen in the PE(s) (see paragraphs xxx to yyy below).
479.The eentity level CFC exemptions in new Chapters 11 to 14 of Part 9A of TIOPA are applied however to the PEs as if each PE were a CFC, resident in the territory of the PE (see paragraphs xxx to yyy below).
480.Paragraph 3 removes the reference to “UK resident” from section 18A of Chapter 3A. This, together with the amendment in paragraph 5 below, allows a company which is at the time non-UK resident to make an election under that section in relation to a future accounting period when it will be UK resident.
481.Paragraph 4 inserts new sections 18CA and 18CB into Chapter 3A.
482.New section 18CA specifies that income from immovable property used for the business of the PE (having regard to the extent of that use) can be included in profits attributable to PEs for the purposes of section 18A. The section also provides that references to losses in section 18A(7) are to be construed accordingly.
483.New section 18CB excludes any profits or losses from any part of the company’s business that consists of the making of investments from the computation of exempt amounts, unless the profits or losses are generated by assets which are “effectively connected” with a part of the PE that carries out a trade or overseas property business. “Effectively connected” takes the same meaning that it has in the OECD Model Tax Convention on Income and on Capital. This means that if a PE carries on only investment business, its profits or losses will not be exempt from corporation tax.
484.Paragraph 5 amends the term “relevant day” in section 18F, which refers to the day at which an election for section 18A takes effect. For a non-UK resident company, the relevant day is the day it becomes UK resident. For a UK resident company it is the date at which the next accounting period is expected to begin, or if the election is made before the company’s first accounting period it is the date the first period begins. Sub-paragraph (5) further amends section 18F with the effect that an election made by a UK company is revoked if the UK company ceases to be UK resident and an election made by a non-UK company is revoked if, having become UK-resident, it ceases to be UK resident.
485.Paragraph 6 replaces the current anti-diversion rules in sections 18G to 18I with new sections 18G to 18HE. These new sections apply the new CFC rules in Part 9A of TIOPA to PEs. There is no modification of the Chapter 8 (Solo Consolidation) rules as these rules do not apply to PEs.
486.New section 18G determines how the main CFC gateway rules are to be applied to PEs. The effect of this section is to identify for each PE of a UK resident company whether the profits which would otherwise be exempt under the PE rules (‘the relevant profits amount’) include any “diverted profits”.
487.New section 18G(1) provides that the anti-diversion rule will apply if a company has a PE in a territory outside the UK, the profits of the PE include any “diverted profits”, and none of the CFC entity level exemptions apply. The company with the PE is referred to as “company X” and the accounting period of that company as “period X”. The PE territory is referred to as “territory X”.
488.New section 18G(2) requires that in such circumstances, the “diverted profits” are to be left out of the “adjusted relevant profits amount” for that PE. Such amounts would therefore not be exempt under Chapter 3A.
489.New section 18G(3) defines “adjusted relevant profits” as the relevant profits amount (the amount which would be subject to exemption under Chapter 3A) as adjusted for any chargeable gains or allowable losses. This brings the PE profits or losses into line with the general approach to CFC profits, which exclude gains or losses.
490.New section 18H defines “diverted profits” for the purposes of the anti-diversion rule in section 18G.
491.New section 18H(1) and (2) provides that “diverted profits” are the amount of company X’s total profits that pass through the “diverted profits gateway”, determined by reference to the CFC charge gateway set out in section 371BB of TIOPA, but disregarding Chapter 8 of Part 9A of TIOPA (Solo Consolidation). In applying Part 9A TIOPA, references to the CFC charge gateway are to be read as references to the diverted profits gateway.
492.New section 18H(3) applies the CFC charge gateway rules for the purposes of the diverted profits gateway as they would apply if company X was a CFC resident in territory X with period X as its accounting period and whose assumed total profits equal the total profits of company X.
493.New section 18H(5) provides that the application of section 371BB of TIOPA is subject to the adjustments in new sections 18HA to 18HE, which amend the application of particular CFC rules.
494.New section 18H(6) provides that in applying section 371BB of TIOPA to PEs, subsection (2)(b) is to be omitted. Subsection (2)(b) refers to adjustments to profits in relation to the exempt period exemption in new Chapter 10, which does not apply to PEs.
495.New section 18HA modifies the application of Chapter 3 of TIOPA (which determines whether new Chapters 4 to 8 of that Act apply) in respect of PEs. It does this by omitting various references within the Chapter, so that they are not applied to PEs.
496.New section 18HA(a) removes references to the UK activities of the CFC or any UK PE of the CFC for the purposes of Chapter 4.
497.New section 18HA(b) and (f) remove references to Chapter 8 of Part 9A of TIOPA as that chapter does not apply to PEs.
498.New section 18HA(c) and (d) remove references to the incidental finance income rules for holding companies.
499.New section 18HA(e) removes references to the group treasury finance income rules.
500.New section 18HB prescribes modification of the UK activities rules (Chapter 4 of Part 9A of TIOPA) as follows.
501.New section 18HB(2) removes a reference to UK SPFs carried on by the CFC other than through a PE in section 371DA of TIOPA and inserts a reference to banking activity regulated in the UK in section 371DH of TIOPA.
502.New subsection (3) amends the definition of “related person” in section 371VF of TIOPA by limiting it to persons connected or associated with the CFC.
503.New section 18HC modifies the non-trading finance profit rules (Chapter 5 of Part 9A of TIOPA). The effect of this amendment is that, for PE purposes, all non-trade finance profits of a PE fall within Chapter 5 unless they are excluded by sections 371CB to 371CD of TIOPA, which exclude certain non-trading finance profits that are incidental to a trade or overseas property business of the PE.
504.New section 18HD modifies the captive insurance rules (Chapter 7 of Part 9A of TIOPA). The captive insurance provisions apply, but the references in section 371GA(6)(b) of TIOPA to amounts arising from the activities of a PE in a non EEA state are disregarded.
505.New section 18HE prescribes modifications to the exemption rules for profits from qualifying loan relationships (Chapter 9 of Part 9A of TIOPA) as follows:
The exemptions for qualifying loan relationships are amended so that references to chargeable companies and company C claims are read as references to company X;
Sections 371IB and 371IC of TIOPA, which deal with loans from qualifying resources, are to be disregarded for the purposes of PEs;
Section 371D of TIOPA, which provides for 75 per cent of the profits of a qualifying loan relationship to be exempted if section 371IB of that Act does not apply to it, is to be disregarded (but see the explanation of new section 18HE(3));
Section 371IE of TIOPA, which deals with matched interest, is also to be disregarded; and
In section 371IJ of TIOPA, which deals with claims within new Chapter 9 of Part 9A of that Act, references to a chargeable company and the relevant corporation tax period are to be read as references to company X and period X accordingly.
506.New section 18HE(3) applies Chapter 9 of Part 9A of TIOPA to PEs by exempting 75per cent of the profits of a qualifying loan relationship. As noted above, the qualifying resources and matched interest rules in Chapter 9 do not apply to PEs.
507.New section 18I prescribes modifications to the exemptions from the CFC charge for the purposes of defining exemptions from the PE anti-diversion rule for the purposes of section 18G(1)(c). The exempt period exemption in Chapter 10 of Part 9A of TIOPA does not apply to PEs, so that Chapter does not need to be modified but modifications are made that apply for the other exemptions in Chapters 11 to 14 of Part 9A of TIOPA.
508.New section 18I(2)(a) requires references in those Chapters to the application of the exemptions within section 371BA of TIOPA are to be read as references to their application for the purposes of section 18G(1)(c).
509.New subsection (2)(c) restricts the definition of related person in section 371VF(3) of TIOPA by limiting it to persons connected or associated with the CFC.
510.New subsection (3) applies a number of assumptions which are required in order to apply Chapters 11 to 14 of Part 9A of TIOPA to PEs. The overall effect of these assumptions is to deem that the PE under consideration is a CFC resident in the same territory, and whose accounting periods match those of the UK resident company of which it is a PE. The connected or associated persons of, and the persons with an interest in, the UK resident company are deemed to have the same connections with and interests in the deemed CFC. The assumed total profits of this deemed CFC are taken to be the adjusted relevant profits of the PE. These assumptions enable the PE to be considered as if it was a CFC and for the entity level exemptions in Chapters 11 to 14 of Part 9A of TIOPA to be applied accordingly.
511.New subsection (4) further modifies the application of Chapters 11 to 14 of Part 9A of TIOPA by reference to new sections 18IA to 18ID, which make modifications for specific chapters.
512.New section 18IA prescribes modifications to Chapter 11 of Part 9A of TIOPA (the excluded territories exemption).
513.New section 18IA(2) disregards the category C income condition within Chapter 11 of Part 9A of TIOPA.
514.New subsection (3) disregards section 371KC of Part 9A of TIOPA and applies in its place the residence assumption that the separate company is a CFC resident in territory X.
515.New subsection (4) omits section 371KD(3) and references to accounting profits are to be read as references to the adjusted relevant profits amount.
516.New subsection (6) removes references to category A income of a PE.
517.New subsection (7) requires, in relation to Category B income, that references to the CFC are to be read as references to company X for equity and debt purposes.
518.New subsection (8) provides that section 371KI(2) and (3) of Part 9A of TIOPA which deal with a reduction of income arising from a transfer pricing adjustment are not to apply.
519.New subsection (9) requires references to the CFC to be read as references to company X in applying the IP condition in section 371KJ.
520.New section 18IB prescribes modifications to Chapter 12 of Part 9A of TIOPA (the low profits exemption). Chapter 12 is amended for PE purposes by omitting references to accounting profits in section 371LB and references to group mismatch rules in section 371LC.
521.New section 18IC prescribes modifications to Chapter 13 of Part 9A of TIOPA (the low profit margin exemption). Chapter 13 is amended for PE purposes by omitting section 371MB(2), which refers to accounting profits, and by requiring that references to accounting profits are read as references to the adjusted relevant profits amount before interest deductions.
522.New section 18ID prescribes modifications to Chapter 14 of Part 9A of TIOPA (the tax exemption). Chapter 14 is amended for PE purposes by deeming that the residence assumption in section 18I(3)(b) applies for the purposes of Step 1 of section 371NB(1) of TIOPA.
523.New section 18ID(3) requires references to local chargeable profits to be read as references to the adjusted relevant profits amount, so that sections 371NB(4) and 371NC(2) to (4) of TIOPA are disregarded.
524.New subsection (4) provides for the omission of section 371NE OF TIOPA and for the amount of corresponding UK tax to be determined in accordance with new subsection (5) for the purposes of step 3 in section 371NB(1) of that Act.
525.Paragraph 7 inserts new section 18P(3) which provides that section 18P(2) does not apply in the case of chargeable gains in relation to the disposal of assets used only for the purposes of a trade carried on by a PE, and chargeable gains in relation to currency or debt where it is, or represents, money in use for a trade carried on by a PE. Section 18P(3) in effect provides some relaxation of the anti-avoidance rule in section 18P(2) where a trade is carried on through a PE.
526.Paragraph 8 inserts new section 227C into FA 1994 (Lloyd’s Underwriters) to deal specifically with PEs of corporate members of Lloyds syndicates.
527.New section 227C modifies the application of Chapter 3A in the case of a Lloyd’s underwriter.
528.New section 227C(2) requires foreign tax credit regulations made under section 229(1)(d) to be disregarded.
529.New subsection (3) concerns profits or losses of any relevant accounting period which arise to corporate members of syndicates which are profits of a previous underwriting year which began before the relevant day (the date on which a PE election takes effect under section 18F). It provides that those profits or losses are then disregarded for the purposes of Chapter 3A.
530.New subsection (4) concerns profits or losses arising to corporate members from premium trust funds which are allocated under Lloyd’s rules or practice to a previous underwriting year which began before the relevant day. It provides that such profits and losses are also disregarded for the purposes of Chapter 3A.
531.Paragraph 9 inserts new subsection (2B) into section 15 of CAA 2001.
532.New section 15(2B) disapplies section 15(2A) in respect of a plant or machinery lease under which the company is a lessor if profits or losses arising from the lease are left out of account by virtue of section 18C(3).
533.Section 15(2A) provides that where a company carries on a business though a PE and an election is made under section 18A CTA 2009, the business carried on in the PE is to be treated as a separate activity from the beginning of the first accounting period after the election is made. Section 18C(3) provides that profits or losses arising from plant or machinery leases are left out of account for the purpose of calculating any relevant profits amount or relevant losses amount under section 18A, if any capital allowance has been made to the company or a connected company in respect of expenditure on the provision of any plant or machinery subject to the lease.
534.This amendment ensures that where profits or losses are left out of account in accordance with section 18C(3) the relevant plant and machinery is not also subject to the separate activity treatment in section 15(2A) of CAA 2001.
Part 3.Other Amendments
535.Paragraphs 10 to 13 update the statutory references in TMA 1970 to reflect the statutory references in the new CFC rules for the CFC charge.
536.Paragraph 14 repeals Chapter 4 of Part 17 ICTA (i.e. the current CFC rules).
537.Paragraphs 15 to 17 amend FA 1998. The amendments provide for two changes. The first change amends section 32 so that unrelieved surplus advance corporation tax can be set against the CFC charge under its new statutory reference as if it were an amount of corporation tax for the accounting period. The second change amends Schedule 18 (which deals with company tax returns) to reflect the new statutory reference for the CFC charge.
538.Paragraphs 18 to 20 amend paragraphs 54 and 57 of Schedule 22 to FA 2000 (tonnage tax) to ensure that they continue to apply to a CFC which is a member of a tonnage tax group and is a tonnage tax company by virtue of the group’s tonnage tax election in the same way as under the current CFC rules.
539.Paragraph 21 repeals section 90 of FA 2002 as a consequence of the repeal of section 747(1B) of ICTA. The latter section disregarded the treaty (i.e. double taxation arrangements) non-resident provisions in relation to the CFC rules and treated a treaty non-resident company as a UK resident company in certain circumstances.
540.Paragraph 22 amends section 725 of ITA 2007 (transfer of assets abroad: reduction in amount charged where controlled foreign company involved) to ensure that they continue to reduce any charge on an individual under section 721 in respect of income which would be, or would include, a sum charged under the new CFC rules.
541.Paragraph 23 amends paragraph 3 of Schedule 11 to FA 2007 (technical provision made by insurers) to reflect new statutory references to a CFC and ensure they are covered by the paragraph.
542.Paragraphs 24 to 31 make various amendments to CTA 2009 as follows.
543.Paragraph 25 amends the overview section in CTA 2009 to update the relevant statutory reference so as to reflect the replacement of the current CFC rules by the new CFC rules.
544.Paragraph 26 amends the disguised interest rules at section 486D by omitting the specific references to CFCs in that section. This is because any arrangement to which the “disguised interest” rules will apply in the new CFC rules in computing a CFC’s assumed taxable total profits will fall within section 371SP if there is an arrangement, the purpose, or one of the main purposes, of which is to obtain a tax advantage for any person under section 1139(2)(da) of CTA 2010.
545.Paragraph 27 amends section 486E to ensure that the disguised interest rules continue to be disapplied in relation to CFCs that are held in certain circumstances under a UK holding company.
546.Paragraph 28 amends section 521E (relating to shares accounted for as liabilities) by omitting specific references to CFCs at subsections (5) and (6) of section 521E. This is because any arrangement to which the rules for “shares accounted for as liabilities” will apply in the new CFC rules in computing a CFC’s assumed taxable total profits will fall within section 371SQ if there is an arrangement, the purpose, or one of the main purposes, of which is to obtain a tax advantage for any person under section 1139(2)(da) of CTA 2010.
547.Paragraph 29 omits section 870 which adjusts the intangible fixed assets provisions in relation to assumptions that should be made when applying these provisions in computing a CFC’s chargeable profits. This is because the same assumptions are now contained in section 371SK and apply when computing a CFC’s assumed taxable total profits for the purposes of the new CFC rules.
548.Paragraph 30 inserts new section 931CA into Chapter 2 of Part 9A CTA 2009 (exemption of distributions received by small companies).
549.New section 931CA provides that where a CFC charge is charged in relation to a CFC’s accounting period and a dividend or other distribution of the CFC is received in an accounting period of a recipient in which the recipient is a small company, the whole or part of the distribution will be treated as exempt as long as certain conditions are met. These conditions are that:
the whole or part of the distribution is paid in respect of the chargeable profits of the CFC (defined as the chargeable profits that are apportioned to chargeable companies at step 3 in section 371BC(1) of TIOPA);
the distribution is not of a kind mentioned in paragraph E or F in section 1000(1) of CTA 2010 (certain non-dividend distributions);
no deduction is allowed to a resident of any territory outside the United Kingdom in respect of the distribution; and
the distribution is not made as part of a tax advantage scheme.
550.Paragraph 31 updates Condition B in section 931E.The condition is applicable in determining whether a distribution falls into an exempt class for the purpose of Part 9A of CTA 2009. The amendments outlined in the paragraph mean that the statutory definition of “control” in the new CFC rules in the case where control is established by reference to the legal and economic control exercised by a UK resident (with at least 40 per cent of holdings, rights or powers) and a non-UK resident (with at 40 per cent but no more than 55 per cent of holdings, rights or powers) will apply to the same extent that it did in the current CFC rules.
551.Paragraphs 32 to 36 make amendments to Part 2 of Schedule 16 to FA 2009. The amendments extend the exempt activities test exemption in the current rules for qualifying holding companies for an accounting period that begins on or after 1 July 2009 but before 1 January 2013. Paragraph 54 applies these changes with effect from 30 June 2012 which means there is now no requirement to split an accounting period of a qualifying holding company where the accounting period straddles 1 July 2012.
552.Paragraphs 37 to 39 make various amendments to CTA 2010 as follows.
553.Paragraph 38 amends section 398D. This section restricts the use of losses against profits arising from leasing plant and machinery in certain defined circumstances and extends the restriction to setting losses against apportioned profits of a CFC that relate to the same activity. The amendments ensure that the same restriction of loss relief against apportioned chargeable profits of a CFC continues in the new CFC rules.
554.Paragraph 39 amends section 938M of CTA 2010 (group mismatch schemes: controlled foreign companies) to reflect the new statutory references in Part 9A and to ensure that the provision continues to apply in the same way as it did previously.
555.Paragraph 40 amends the definition of tax advantage at section 1139 to include at section 1139(2)(da) the avoidance or reduction of a CFC charge under Part 9A of TIOPA.
556.Paragraphs 41 to 45 amend TIOPA as follows.
557.Paragraph 42 amends section 179. That section applies the “compensating adjustment” rules at sections 174 to 178 where the transfer pricing rule at section 147 requires a CFC’s profits or losses to be calculated as if the arm’s length provision had been made or imposed instead of the actual provision. Where the CFC is the “advantaged person” (i.e. the person whose UK tax has been reduced or whose tax loss has been increased by the actual provision), the “disadvantaged person” can make a claim for a “compensating adjustment” as long as certain conditions in section 179 are met.
558.Paragraph 42(2) substitutes a new subsection (1). This provides that subsection (2) applies if:
the actual provision is provision made or imposed in relation to a CFC,
for the purposes of determining the CFC’s assumed taxable total profits for an accounting period, the transfer pricing rules will apply to that provision,
in relation to the accounting period, sums are charged on chargeable companies at step 5 in section 371BC(1), and
in consequence of the application of the transfer pricing rules, the total of those sums is more than it would otherwise be.
559.Section 179(2) is amended by the substitution of “CFC” for “controlled foreign company”.
560.In section 179(3)(a), “chargeable companies on which a sum is charged” is substituted for “companies mentioned in subsection (1)(c)” and in subsection (3)(b), “the CFC charge” is substituted for “tax chargeable under section 747(4) of ICTA”.
561.Subsection (4) is replaced by new subsections (4) and (5). New subsection (4) defines terms used in section 179 by reference to Part 9A and new subsection (5) states that in determining whether sums are charged on chargeable companies for the purposes of step 5 in section 371BC(1), including whether the application of the transfer pricing rules results in those sums being more that they would otherwise be, any claims under Chapter 9 of Part 9A for the accounting period are disregarded.
562.Paragraph 43 introduces new section 298A which allows HMRC Commissioners to make regulations to reduce a CFC charge that is a financing income amount to the same extent as the corporation tax charge is reduced for other financing income amounts. In this way the regulations will eliminate a double charge while retaining the restrictive effect of the debt cap on interest deductions. The regulations may also make consequential changes to both the debt cap and the CFC regime, as appropriate.
563.Paragraph 44 amends section 314 of TIOPA by including amounts arising from the application of section 314A as finance income amounts.
564.Paragraph 45 inserts new section 314A which provides that, to the extent that credits would have been included in financing income amounts by virtue of section 314, they will be taken to be included as finance income amounts by virtue of section 314A if certain conditions are met. The conditions are as follows:
a sum is charged on a company at step 5 in section 371BC(1) of Part 9A of TIOPA,
the CFC’s relevant corporation tax accounting period (as defined in section 371BC(3)) is a relevant accounting period of the company in relation to a period of account of the worldwide group,
the CFC’s accounting period in relation to which the sum is charged ends in the period of account of the worldwide group, and
the CFC’s chargeable profits include amounts (“the relevant finance profits”) which fall only within Chapter 5 or 6 of Part 9A or which are qualifying loan relationship profits within the meaning of Chapter 9 of Part 9A.
565.New section 314A(2) and (3) provide that the percentage of the chargeable profits of the CFC that relate to “the relevant finance profits” is to be taken as a financing income amount of the company for the period of account of the worldwide group.
566.New subsection (4) provides that the reference to “the relevant finance profits” which fall within Chapter 5 or 6 of Part 9A is limited to the following qualifying amounts:
trading loan relationships as defined by section 297 CTA 2009, or
non-trading loan relationships as defined by section 299 CTA 2009.
Profits from derivative contracts that are brought into account under Part 5 of CTA 2009 by section 574 of that Act and profits that fall within subsection 314(3) of TIOPA are specifically excluded from being finance income profits under this subsection.
567.Paragraphs 46 to 48 substitute “CFC” for “controlled foreign company” in regulations 8A and 8B of the Insurance Companies (Reserve) (Tax) Regulations 1996 (S.I. 1996/2991).
Part 4.Commencement Provision
568.Part 4 contains the commencement provisions relating to CFCs and PEs.
569.Paragraphs 49 and 50 provide the main commencement rules for CFCs.
570.Paragraph 49(1) provides for the CFC charge to be charged in relation to accounting periods of CFCs beginning on or after 1 January 2013 and paragraph 49(2) provides that the first accounting period of a company which is a CFC at the beginning of 1 January 2013 begins at that time.
571.Sub-paragraph (3) provides that the application of sub-paragraph (2) is subject to paragraph 50.
572.Paragraph 50(1) provides for the CFC rules under Chapter 4 of Part 17 ICTA (i.e. the current CFC rules) to continue to apply to accounting periods of CFCs beginning before 1 January 2013.
573.Sub-paragraphs (3) and (4) are applied by sub-paragraph (2) to a company that has an accounting period within the current CFC rules beginning before 1 January 2013 but ending on or after that date. Such a company will not fall within the new CFC rules in Part 9A of TIOPA until its accounting period ends. If the company is a CFC immediately after the end of this accounting period, its first accounting period under the new CFC rules will begin when that period ends. These sub-paragraphs however do not apply to a company which is a life assurance subsidiary at the end of 31 December 2012.
574.Sub-paragraph (5) applies sub-paragraph (6) to a company that is a life assurance subsidiary at the end of 31 December 2012 and, apart from sub-paragraph (6), would have an accounting period within the current CFC rules beginning before 1 January 2013 but ending on or after that date.
575.Sub-paragraph (6) ends the life assurance subsidiary’s accounting period mentioned above on 31 December 2012 and the first accounting period under the new CFC rules begins on 1 January 2013 if the subsidiary is a CFC on that date.
576.Sub-paragraph (7) defines a “life assurance subsidiary” as a company in which a life assurance company has a relevant interest as determined in accordance with Chapter 15 of Part 9A of TIOPA.
577.Sub-paragraph (8) defines a “life assurance company” as a company carrying on life assurance business within the meaning of Part 2 of FA 2012.
578.Sub-paragraph (9) provides that the amendments specified there (being the majority of the consequential amendments made in Part 3 to other parts of the Taxes Acts) should be ignored as appropriate in applying the commencement provisions under paragraph 49. This broadly means that the amendments made under Part 3 will not take effect until an accounting period under Part 9A of TIOPA (i.e. under the new CFC rules) begins.
579.Paragraph 51 disapplies the amendment made by paragraph 27(3) of Part 3 (disguised interest: excluded shares) for relevant periods beginning before 1 January 2013 and the current CFC rules will continue to have effect for this period.
580.Paragraph 52 states that the amendment made by paragraph 30 of Part 3 (exemption of distributions received by small companies) will not apply to dividends or distributions received before 1 January 2013.
581.Paragraph 53 provides that the amendment made by paragraph 31 of Part 3 will not apply to dividends or distributions received before 1 January 2013 and that the current CFC rules will continue to have effect.
582.Paragraph 54 treats paragraphs 33 to 36 as having come into force on 30 June 2012.
583.Paragraph 55(1) provides that the amendments made in paragraphs 3, 5 and 9 of Part 2 to the PE provisions at Chapter 3A of Part 2 of CTA 2009 come into force on 1 January 2013 but that the amendment made by paragraph 5(3) has no effect in relation to elections made before this date.
584.Paragraph 55(2) provides that amendments to Chapter 3A of Part 2 of CTA 2009 made by paragraphs 4 and 6 to 8 of Part 2 will have effect for relevant accounting periods beginning on or after 1 January 2013.
Part 5.Transitional Provision
585.Paragraph 56 applies to the first accounting period of a CFC as determined in accordance with paragraph 49(2) or 50(4) of the commencement provisions i.e. an accounting period of a CFC either beginning on 1 January 2013 or a CFC’s first accounting period beginning after that date. It links references to a CFC’s first accounting period in section 371SD(6) (UK residence), section 371SK(3) (intangible fixed assets) and section 371SM(3) (capital allowances)_ to the above periods by stating that a CFC should be assumed to have become a CFC at the time stipulated by either paragraph 49(2) or 50(4).
586.Paragraph 57 refers to elections under section 9A of CTA 2010, i.e. designated currency elections made under the corporation tax assumptions in Chapter 19. The paragraph ensures that any such election that has been made at a time before the commencement of the new CFC rules and that is still valid on the commencement of a CFC’s first accounting period can be assumed to continue to be effective under Part 9A.
587.Paragraph 58 applies to CFCs which are subject to the temporary period of exemption contained in Part 3A of Schedule 25 of ICTA (i.e. the current CFC rules), where that period continues after the end of the last accounting period for which the current CFC rules apply. This transitional provision ensures that the exempt period under the current CFC rules ends at the same time as it would have under those rules.
588.Paragraph 58(1) sets out the basic requirements for the transitional provision to apply, which are that:
an exempt period under the current CFC rules began before 1 January 2013;
the exempt period does not end before the end of the last accounting period under the current CFC rules; and
the new CFC rules apply to the company at the start of the first accounting period under Part 9A of TIOPA (i.e. the new CFC rules).
589.Sub-paragraph (2) determines that the remainder of the exempt period is treated as an exempt period under Chapter 10 of the new CFC rules (the exempt period exemption).
590.Sub-paragraph (3) provides for the remainder of the exempt period to be determined in accordance with the current CFC rules as set out in paragraph 15F of Schedule 25 to ICTA. For this purpose, the current CFC rules are assumed to continue to apply, and the new CFC rules at section 371JD regarding the length of the exempt period are disregarded.
591.Sub-paragraph (4) adapts the application of section 371JB so that an accounting period is exempt if it ends during an exempt period. The other conditions in section 371JB are omitted for the purposes of this transitional provision.
592.Sub-paragraph (5) adapts the application of section 371JE, so that if an exempt period comes to an end during an accounting period, any profits that arise during that exempt period can be exempted from charge under the new CFC rules. The other conditions of section 371JE are omitted for the purposes of this transitional provision.
593.Sub-paragraph (6) in effect disapplies the anti-avoidance provisions at section 371JF for the purposes of this transitional exemption. The anti-avoidance rules in Part 3A of Schedule 25 to ICTA will continue to apply for the purposes of this transitional provision.
594.Paragraph 59 provides that the CFC (Designer Rate Tax Provisions) Regulations 2000 (S.I. 2000/3158) will continue to have effect under the new CFC rules and that the power of the HMRC Commissioners to make regulations under section 371ND includes the power to revoke or amend these Regulations for the purposes of that section.
Background Note
595.This measure provides for a new CFC regime to be introduced in Finance Bill 2012 and supports the Government’s objective to deliver a more competitive corporate tax system. The policy objectives of the new CFC regime are to:
introduce a modernised CFC regime that better reflects the way that businesses operate in a global economy whilst maintaining adequate protection of the UK tax base;
exempt profits where there is no artificial diversion of UK profits; and
exempt profits arising from genuine economic activities undertaken overseas.
596.The Government announced this measure at the Budget in June 2010 and outlined the policy proposals on 29 November 2010 as part of the Corporate Tax Reform document.
597.Detailed proposals for this measure were published for consultation in Controlled Foreign Companies (CFC) reform in June 2011. On 6 December 2011 the Government published Controlled Foreign Companies (CFC) reform: response to consultation which provides an update on the developments on the reform of Controlled Foreign Companies rules following consultation and includes a summary of the responses received and a technical note which gives an overview of the legislation. Further updates were published on 31 January 2012 and 29 February 2012. All documents are available on the HM Treasury website.
598.The measure also amends the exemption for profits arising in foreign permanent establishments, so that the anti-diversion rule is brought into line with the CFC regime.
