The legislation is in Part 10 TIOPA 2010 here and the legislation on interest returns in Schedule 7A. Commencement and transitional provisions are in part 4 Finance (No2) Act 2017. HMRC guidance (which is good) is here.
My idiots guide can be accessed google doc
Reading through the legislation there were three things that struck me as unusual.
1. The aim of the legislation is to restrict tax deductible interest when the UK operations of a worldwide group have a higher level of gearing than the group as a whole. But in calculating disallowed "interest" capital movements on loan relationships are taken into account as well as interest payable / receivable.
2. The legislation does not include the customary ring fencing of life assurance policyholder and shareholder amounts. A group including a life insurance company will have a single calculation which would include, for instance, capital movements on a portfolio of fixed interest bonds backing a pension annuity portfolio and interest paid on shareholder financing.
3. The legislation works by calculating, on a group basis, an interest allowance which is 30% of tax EBITDA or, if an election is made, tax EBITDA multiplied by the group ratio. (The group ratio is qualifying net (worldwide) interest expense / (worldwide) Group EBITDA). For a company with BLAGAB business the tax EBITDA figure for that business is (presumably) I- E profit and not the commercial profit from the business.
All this means that the interest restriction rules would be messy for insurance companies and might give unforeseen results. Due to regulatory constraints insurance companies are rarely big interest payers and the complexity is disproportionate to the risk of tax leakage. But TIOPA 2010 section 456 provides welcome simplification. (See page 67 of HMRC guidance, CFM 95640.)
This section allows companies (all companies not just insurance companies) who account for loan relationship assets on a fair value basis (i.e. mark to market) to substitute an amortised cost basis for the purposes of the corporate interest restriction. The intention is to eliminate the year on year fluctuations in "interest" caused by fair value accounting and capital movements being brought into account for the interest restriction.
However, it would be arduous for insurance companies to recalculate amounts brought into account on an amortised cost basis. Instead the 456 election includes a clause, 456 (6), specific to insurance companies, including Friendly Societies. This provides that for insurance company assets accounted for on a fair value basis, only interest receivable is brought into the corporate interest calculation. That is all capital movements on assets are excluded. Most insurance companies have considerable policyholder investments in fixed interest bonds and the interest receivable included in the interest restriction calculation is likely to exceed any interest payable by the group in any accounting period.
Accordingly a group including an insurance company making the 456 election is unlikely to be caught by the interest restriction rules as it will always be in a net interest income position. This is a welcome relief.
A 456 election is irrevocable and must be made within 12 months of the end of the relevant accounting period.
The relevant accounting period is the later of; The first accounting period where the corporate interest restriction legislation applies; and.
The first period in which the company uses fair value accounting for loan relationships.
I tried to think of an instance where an insurance group or stand alone company would not want to make a 456 election but struggled to think of one. Even a Friendly Society with no borrowing might want to make the election just to keep interest restriction calculations simple and remove the possibility that there could be an interest restriction in a "down" year.
One possible reason for not making the election might be to obtain better relief for losses. I haven't considered the interest restriction and reactivation rules in chapter 2 of part 10 TIOPA 2010 but they are very different from the rules for trading losses and management expenses. It might be the case that in some circumstances a group would rather carry forward excess interest deductions than trading losses. (I'm not saying this is the case just floating the possibility.)
Another insurance company specific section is section 453 requiring, in certain circumstances, a group including an insurance company to be split into two groups for the purposes of the corporate interest restriction calculation.
The legislation applies where an insurance entity has a subsidiary which it holds as a portfolio investment and requires the subsidiary (and any subsidiaries of the subsidiary) to be treated as a separate group for corporate interest restriction purposes.
A portfolio investment is defined as one where
The insurance entity holds the interest as an investment, and
The insurance entity judges the value that the interest has to it wholly or mainly by reference to the market value of the investment.
I struggle to make sense of this wording. HMRC's guidance (page 319) says it is intended to catch instances where the underlying business of the subsidiary is unrelated to insurance. It's difficult to think of real world examples where this would be the case and the actual wording of the section does not require the subsidiary to be engaged in an activity unrelated to insurance. This section might be a bit of a pain for groups with insurance entities which have subsidiaries and face the possibility of HMRC suddenly deciding section 453 applies.
Usual caveats apply, this note is for me, you are welcome to read it but it's not advice.
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