INTM578080 - Thin capitalisation: debt ratios - debt repayment: Groups or companies in particular phases: start-up or organic growth

It is difficult to obtain finance for completely new business ventures. However, third-party lenders are prepared to tolerate higher than normal gearing ratios for a business that is expanding, but with some conditions:

• The borrower must be soundly financed in the first place and able to demonstrate that it can service its debts. It should have a well thought out business plan that includes reasonable and realistic projections for profits over at least the life of the loan, and the underlying assumptions of the plan should be robust. A realistic plan might well have a number of scenarios, depending on the market and economic conditions which might prevail.
• The borrower should have a clear idea of how it intends to reduce the debt over a reasonable period of time, normally bringing levels down towards those of a “steady state” business within three years or so. The reduction may either be by the repayment in instalments of some of the debt or the introduction of more equity, or a combination of both.

Given that third-party lenders are prepared to do this, HM Revenue & Customs will discuss with UK groups the way in which this principle might be reflected in a thin capitalisation agreement.