INTM509070 – Intra-group funding: avoidance and arbitrage

Loan relationships for unallowable purposes: when Para 13 will not normally apply

Para 13 Sch 9 FA 1996 will not normally apply to loan relationship debits:-

• simply because a company is able to obtain relief for the same expenditure or loss on the borrowing to which the debits relate in more than one jurisdiction. However, paragraph 13 would apply where the structure that has been adopted has one or more uncommercial features so that the loan relationship can be said to have an unallowable purpose and/or where, taking account of the overall position as regards the company or group, relief for interest and other finance costs might otherwise be available more than once in the UK in respect of the true economic costs of the borrowing;
• that relate to a borrowing from an exempt body (such as a pension fund), even if that exempt body is connected with the borrower, provided the arrangements are commercial;
• that relate to a straightforward borrowing by a UK Plc in order to fund a repurchase of its shares provided that there are no attempts to structure the arrangement in such a way as to provide a tax advantage for any other person and/or the amount borrowed – the level of gearing up – is dictated by market forces and hence is at arm’s length;
• that relate to a third party borrowing undertaken by one group member, that fulfils the commercial borrowing requirements of the group, which it on-lends interest-free (or at a rate not exceeding the costs of the third party borrowing) to other UK-resident group members. In such circumstances, paragraph 13 would not apply, provided that the group gets one and only one deduction for the costs associated with the true economic cost of the borrowing. For example, paragraph 13 will not normally apply where intra- group interest-free loans are made primarily to enable borrowings to be matched with assets within the meaning of the Exchange Gains & Losses (Alternative Method) Regulations, or FA96/S84A (for periods beginning on or after 1 October 2002); or
• where a loan relationship debit in one UK-resident group company is matched by an equal and opposite loan relationship credit, which is fully taxed, in another UK-resident group company in respect of the same loan relationship. On the other hand, paragraph 13 is potentially in point if the main or one of the main purposes of the intra-group funding was to achieve a tax advantage for the group as a whole, in that the loan relationship credit on the intra-group funding is in some way shielded from tax. An example of the loan relationship credit being shielded would be by the soaking up of otherwise stranded surplus expenses of management etc. Thin capitalisation and transfer-pricing legislation (ICTA88/S209 and ICTA88/SCH28AA) as well as the provisions of the double taxation agreements may also be applicable.