INTM432114 - Schedule 28AA: how it works

Exemptions: dormant companies

Background

CA85/S249AA relieves a dormant company of the requirement to obtain an audit. A company is dormant for a period in which it has no significant accounting transaction that needs to be entered in its accounting records. Moreover, a dormant company is generally not required to make a tax return.

The Exemption

The application of transfer pricing rules to a dormant company might result in the company losing its dormant status. For example, where a dormant company has lent money to another company in the same group, or holds intangible property used by a connected business, transfer pricing rules would generally require the dormant company to receive or impute income, for tax purposes.

However, from 1 April 2004 companies that were dormant, either for the whole of an accounting period that ends on 31 March 2004 OR for the 3 months ending on 31 March 2004, will be exempt from the transfer pricing requirements of ICTA88/SCH28AA/PARA1(2) offor as long as they continue being dormant. This exemption is set out in ICTA88/SCH28AA/PARA5A, introduced by the Finance Bill 2004,

A dormant company will lose this exemption if at any time after 1 April 2004 it ceases to be dormant. If it becomes active after 1 April 2004 and goes back to being dormant again, the exemption is not available.

Other parties to a transaction

Transfer pricing rules will still apply to the other party involved in a dormant company’s transaction (unless the other party is also an exempt dormant company).

However, if a connected business has lent money interest free to a dormant company, transfer pricing rules will not generally require the lender to impute an interest receipt. This is because before making a transfer pricing adjustment there would be a prior question to consider – would or could the dormant company have incurred the debt on an arm’s length basis?

As a dormant company has no actual income, the loan would generally not have been made at arm’s length and there is no need for the lender to impute an interest receipt.

Dormant companies and compensating adjustments

As far as dormant companies are concerned, paragraph 5A only disapplies the action of ICTA88/SCH28AA/PARA1(2), which is the requirement to increase its chargeable profits to the arms length standard. However, in the unlikely event that a connected party involved in a transaction with a dormant company had to make a transfer pricing adjustment in respect of that transaction, then the dormant company could only make a corresponding adjustment if it was “…within the charge to Corporation tax in respect of profits arising from the relevant activities.” (ICTA88/SCH28AA/PARA6(1)(b)). In practice, business activity that would bring the company within the charge to Corporation tax can be expected to give rise to recordable transactions and end the company’s dormant status, at least temporarily. So, it is not envisaged that dormant companies will be able to claim a compensating adjustment while remaining continuously dormant and exempt from transfer pricing requirements.