INTM205040 - Controlled Foreign Companies: exemptions - Exempt Activities Test ('EAT')
Effectively managed in territory of residence
ICTA88/SCH25/PARA6(1)(b) and PARA8(1)(a) and (b)
A controlled foreign company cannot be engaged in exempt
activities unless its business affairs are effectively managed in
its territory of residence throughout the accounting period under
consideration. This wording differs from ICTA88/S749(3)(a) which
refers to the 'company’s place of effective management' (
INTM202050). Although the
considerations may be similar, the exempt activities test fixes on
the management of the business.
The requirement is expanded by the conditions in
ICTA88/SCH25/PARA8(1), (5) and (6). The legislation differentiates
between companies resident in EEA territories and those that are
not resident in EEA territories in relation to accounting periods
beginning on or after 6 December 2006 (FA07/S48/SCH15/PARA7).
Companies not resident in an EEA territory
ICTA88/SCH25/PARA8(1) provides that a controlled foreign company
[not resident in an EEA territory] is not to be regarded as
effectively managed in its territory of residence unless
i) the number of persons employed by the company in the
territory in which it is resident is adequate to deal with the
volume of the company’s business; and
ii) any services provided by the company for persons resident
outside that territory are not in fact performed in the United
Kingdom.
Employees
The requirement in (i) above will be met where the staff
employed by the company in its territory of residence are
sufficient in numbers, qualifications and experience to supervise,
control and carry out the bulk of the company’s profit-making
activities. It is not required that all the company’s
employees should be located in the territory of residence; for
example, some staff may operate a branch of the company’s
business in another territory, even though the main business is in
the territory of residence. It should be noted that directors are
office holders and will only qualify as employees if they hold a
contract of employment.
The persons who may be treated as employees for the purpose
of (i) above are
- the company’s own employees
- persons who are wholly or mainly engaged in the company’s
business and who are remunerated by a person connected with (the
definition in ICTA88/S839 applies), and resident in the same
territory as, the company, and
- in the case of a holding company only, persons engaged in the
business of the company whose remuneration is paid as described in
(b) above. Given the nature of the work required in a holding
company, such persons do not have to be wholly or mainly engaged in
the company’s business.
Staff seconded to the company by associates who are resident in
the same territory may thus in certain circumstances be regarded as
employed by the company for the purpose of
ICTA88/SCH25/PARA8(1)(a). Staff seconded from associates in another
territory or the staff of an independent agency cannot be regarded
as so employed.
A number of insurance companies have employed the staff of
insurance management agencies directly. Only where the local laws
of employment apply between the company and staff and the salaries
are met directly by the company will this arrangement be
acceptable.
Services
There are a number of modifications to the general requirement that a controlled foreign company should not perform services in the United Kingdom for persons resident outside its territory of residence if it is to be regarded as effectively managed in its territory of residence. No account is to be taken of services performed in the United Kingdom where:-
- services are provided through a United Kingdom branch or agency of the controlled foreign company so that the resulting profits or gains are within the charge to United Kingdom tax;
- services are provided on arm’s length terms through some other person (either a United Kingdom resident or a non-resident with a United Kingdom branch) whose profits from the provision of the services are within the charge to United Kingdom tax; or
- the services are no more than incidental to services provided outside the United Kingdom.
Example
A United Kingdom group is commissioned to design a major
installation for an overseas government but the formal contract is
placed with a group subsidiary resident in Bermuda. All the work
under the contract is carried out on a subcontract basis by a
company in the United Kingdom.
The services provided by the Bermudan company are clearly
within ICTA88/SCH25/PARA8(1)(b) and the company cannot be regarded
as effectively managed in Bermuda unless the services fall within
ICTA88/SCH25/PARA8(4). In this particular case:
- the services would come within ICTA88/SCH25/PARA8(4) only if the Bermudan company paid an arm’s length price for its use of United Kingdom personnel, that is, one which fairly reflected the division of effort in the performance of the contract; and
- even if the services do come within ICTA88/SCH25/PARA8(4), the company’s business affairs will only be effectively managed in Bermuda for the purposes of ICTA88/SCH25/PARA6 (1)(b) if the condition in ICTA88/SCH25/PARA8(1)(a) is also met – that is, that the number of persons employed by the company in Bermuda is adequate to deal with the volume of its business.
Companies resident in an EEA territory
For companies resident in EEA territories in relation to
accounting periods beginning on or after 6 December 2006
ICTA88/SCH25/PARA8(5) provides that PARA 6(1)(b) shall not be
regarded as fulfilled unless there are sufficient individuals
working for the company in the territory who have the competence
and authority to undertake all, or substantially all of the
company’s business.
ICTA88/SCH25/PARA8(6) provides that individuals are not to
be regarded as working for the company in any territory unless
- They are employed by the company in the territory, or
- They are otherwise directed by the company to perform duties on its behalf in the territory
