CTM15515 - Distributions: general: securities within ICTA88/S209 (2)(e)
ICTA88/S209 (2)(e) applies to interest or other distributions in respect of the following types of security.
1. ICTA88/S209 (2)(e)(i)
Bonus securities within ICTA88/S209 (2)(c), excluding:
- securities issued before 6 April 1965 in respect of shares,
- securities issued before 6 April 1972 in respect of securities.
If there is a rights issue of securities, and at the same time a bonus issue is involved, you should treat a proportion of the interest etc as a distribution within ICTA88/S209 (2)(e)(i). The balance may be a distribution within another part of ICTA88/S209 (2)(e).
2. ICTA88/S209 (2)(e)(ii)
Securities which are:
- convertible directly or indirectly into shares in the company,
- issued after 5 April 1972 and carry any right to receive shares in or securities of the company.
This excludes quoted securities and securities issued on terms reasonably comparable with those of quoted securities. You should take a broad view on whether the terms of issue are reasonably comparable with the terms of issue of quoted securities - see CTM15500.
3. ICTA88/S209 (2)(e)(iii)
Securities under which the consideration the company gives for the use of the principal secured is dependent in any way on the company's results - see CTM15520.
This is aimed at securities that allow the subscriber to participate in the company's profits. This legislation ensures that the company does not get a deduction for interest in computing CT profits if the interest is in fact a distribution of profits. It will apply even if the consideration in a particular accounting period does not exceed a commercial rate.
In some cases you may think ICTA88/S209 (2)(e)(iii) should apply, but the issuing company may argue the securities are not part of an attempt to allow the subscriber a share of the issuing company's profits. In cases of doubt or difficulty you should make a referral to CTIAA (Technical).
Some alternative finance arrangements involve profit sharing agreements. If the alternative finance arrangement meets the conditions of FA05/S49 (see CFM6054) the provisions of ICTA88/S209 (2)(e)(iii) will not apply and, accordingly, the profit share return paid by the company will not constitute a distribution.
4. ICTA88/S209 (2)(e)(iv) and (v)
Section 209 (2)(e)(iv) and (v) were replaced by ICTA88/S209 (2)(da) in FA95 in general for interest or other distributions paid on or after 29 November 1994. For details of the new rules and when they apply see CTM15510.
See INTM153120 for guidance on how the treatment of interest on securities within ICTA88/S209 (2)(e)(iv) and (v) could be affected by the terms of the relevant double taxation agreement.
This section includes as distributions interest paid by a bank (or by a concern authorised by the Bank of England to accept deposits under the 1987 Banking Act) to non-resident affiliated companies, as defined above. Some double taxation treaties specifically override this provision. Where there is no such treaty, or a treaty does not override ICTA88/S209 (2)(e)(iv), by concession, in certain circumstances, ESCC18 applies and this interest does not need to be treated as a distribution.
Although ESCC18 refers to securities issued by a UK resident company, it should in practice be taken to apply to non-resident companies as well. In addition, although the text of the concession refers only to ICTA88/S209 (2)(e)(iv), it can be accepted as applying also to interest paid by banks that is treated as a distribution under ICTA88/S209 (2)(e)(v).
Any difficulties should be referred to CTIAA (Technical).
The modifications in FA95 to ICTA88/S209 supersede ESCC18, which is therefore redundant for payments to which the new rules apply. In general, this will be for payments made on or after 29 November 1994, but see CTM15510 for details of when and to what the new rules apply.
5. ICTA88/S209 (2)(e)(vi)
Securities which are ‘connected’ with shares in the company.
Broadly speaking, this is concerned with securities that are linked with shares so that it is necessary or advantageous for a person not to transfer the securities without the shares connected with them.
6. ICTA88/S209 (2)(e)(vii)
Equity notes issued by a company and held by another company that is associated with the issuing company or is a funded company.
Equity notes are loan instruments designed to take advantage of a difference between their treatment in the UK and that in other countries, notably the USA. Such notes would normally have been treated as debt instruments, and payments made in respect of them as interest. But the notes incorporate features usually associated with equity investment. For example, no provision is made for repayment of the loan. In the other country the notes would be recognised as equity instruments. As a result, in the hands of the note holder the interest or distribution was often not taxed because it was not paid out of profits of the payer, or, if taxed, credit was allowed for underlying UK tax paid.
There is no territorial limitation of ICTA88/S209 (2)(e)(vii). Consequently, it is not overridden by provisions in UK double taxation agreements and therefore applies where the holding company is non-resident. ICTA88/S212 (1)(b) now reflects ICTA88/S209 (2)(e)(vii) and so holding companies chargeable to UK CT are generally unaffected by ICTA88/S209 (2)(e)(vii).
For the purposes of ICTA88/S209 (2)(e)(vii) a security is an equity note (ICTA88/S209 (9)) if, as regards the whole or any part of the principal:
- the security's terms contain no particular date by which it is to be redeemed, or
- under the terms of the security the date or the latest date for redemption falls after the expiry of the permitted period (see below), or
- under the terms of the security redemption is to occur after the expiry of the permitted period if a particular event occurs, and the event is one which is certain or likely to occur, or
- the issuing company can secure that either:
- there is no particular date by which the security is to be redeemed,
- the date for redemption falls after the expiry of the permitted period and the permitted period is the period of 50 years beginning with the date of issue of the security.
Security as defined in ICTA88/S254 (1) applies for ICTA88/S209 (2)(e)(vii) as it does for the rest of ICTA88/S209. However, because the definition of an equity note requires the existence of a security, in normal circumstances inter-company loans or other indebtedness, bank overdrafts and bank deposits will not be within the scope of ICTA88/S209 (2)(e)(vii).
Loans that are repayable on notice by the lender (known as demand loans), whether or not evidenced by a security, are not regarded as equity note securities. This is because they contain terms capable of giving rise to a particular date (or dates) by which they are to be repaid.
The company issuing the security, (the issuer), may hold shares in, or control the company holding the security (the lender). However, this will not of itself be treated as giving the issuer a ‘power to secure’ that the security has no particular date for redemption.
For the purposes of ICTA88/S209 (2)(e)(vii) a company is associated with the issuing company (ICTA88/S209 (10)) if:
- the issuing company is a 75% subsidiary of the other company, or
- the other company is a 75% subsidiary of the issuing company, or
- both are 75% subsidiaries of a third company.
Funded company - ICTA88/S209 (11)
For the purposes of ICTA88/S209 (2)(e)(vii) a company is a funded company (ICTA88/S209 (11)) if there are arrangements involving the company being given funds (directly or indirectly) by the issuing company or by a company associated with the issuing company.
The ‘funded company’ concept was introduced to prevent parties to an equity note arrangement side-stepping the legislation by inserting an unconnected company between them. A company that incidentally holds an equity note issued by a company with which it directly or indirectly has a business relationship incidentally will not be treated for that reason alone as a ‘funded company’.
The use of the term ‘arrangements’ points to a link between the putting in funds of a borrower and the holding of an equity note. A company holds an equity note if it is the beneficial owner of the security and is not holding the equity note as a nominee.