CFM7006 - Understanding foreign exchange: introduction

Overview

Companies that draw up their accounts in sterling often undertake transactions in foreign currencies. They may:

• make sales or purchases in a non-sterling currency
• borrow or lend in a foreign currency, or
• own assets, such as shares in an overseas subsidiary, which are denominated in a foreign currency.

As a result of such transactions, you will see gains or losses on foreign exchange appearing in their accounts.

In addition, you may see accounts that have been drawn up in a currency other than sterling. A company that is resident in the UK may nevertheless draw up accounts in a non-sterling currency, either for the whole of its business or for part of the business (such as an overseas branch). Alternatively, you may see foreign currency accounts submitted by a non-resident company which trades in the UK.

Sections 125 to 169 Finance Act 1993 introduced a special regime (FOREX) for taxing a company's exchange gains or relieving its losses. This applied (subject to transitional rules) from the first day of a company's first accounting period beginning or after 25 March 1995. Sections 92 to 95 FA 1993 contained rules (the 'local currency rules') for determining how a company which accounts in a non-sterling currency should get from the accounts figures to the sterling profit or loss which goes into its corporation tax self return. These local currency rules were substantially amended by Finance Act 2000 - see CFM10500+ for details.

The local currency rules at Sections 92 to 94 FA 1993 have not been repealed by Finance Act 2002 but they have been substantially amended and simplified. These changes also take effect for accounting periods beginning on or after 1 October 2002. The rules were again changed by Finance Act 2004, with effect for periods beginning on or after 1 January 2005. This was to cater for accounting changes: under International Accounting Standards (IAS 21), a company may draw up accounts in a currency that is not its local currency – see CFM7050.

Finance Act 2002 repealed Sections 125 to 169 FA 1993, which dealt with the taxation of exchange gains and losses on certain monetary assets. Instead, where a company has a loan relationship or other money debt denominated in a foreign currency, the company's profits or losses on the loan relationship or any related transaction include gains or losses that are attributable to currency fluctuation. CFM9201+ explains in more detail how this works.

The FA 1993 regime also contained detailed rules for taxing exchange gains or losses arising on currency contracts. Overall profits or losses on such contracts were dealt with partly through the foreign exchange gains and losses regime, and partly through the financial instruments rules in FA 1994. For accounting periods beginning on or after 1 October 2002, currency contracts are taxed wholly under the derivative contract regime.

Consequently there is now no longer a separate tax regime for FOREX because exchange differences are taxed as part of loan relationships and/or derivative contracts.

To help you decide whether you need to use this manual or the CT manual please go to CFM7007.