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BEPS Action 4 Diary Archive

BEPS Action 4 Diary Archive

On this page you can find past BEPS Action 4 insights, updates and opinions.


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UK Interest deductibility regime: draft legislation published - 9 December 2016

On Monday 5 December, the Government published draft legislation for the proposed new interest deductibility regime.

This is broadly in line with the proposals set out during the consultation held earlier this year, and the draft legislation sets out the detail for the key principles of the new regime (such as the Fixed Rate Ratio). It also has extensive detail on the administration of the new rules for corporates. There are however a number of outstanding areas, most notably, definitions relating to the Group Ratio Rule and the revised “Public Benefit Infrastructure Exemption” (PBIE). The Government intends to publish the remaining clauses by the end of January 2017.

Our commentary on the draft legislation is now available on our website, here.

Alongside this, a response to the consultation was also published, which set out a summary of the responses received from stakeholders during the Summer 2016 consultation, and the Government’s response. In the absence of complete draft legislation, this document does also provide some helpful indicators as to what we should expect in relation to the remaining clauses – for example, in relation to the PBIE. The consultation response document suggests that the PBIE will be broader in scope than previously proposed, both in terms of the sectors and activities it should cover and in the types of interest (there is expected to be some changes to the definition of related party interest).

A more detailed note on the implications for investment into the Infrastructure Sector can be found here.

Finally, a reminder that we will be holding a webinar on Tuesday 13 December to run through the draft legislation in more detail – please click here to register.

385 Regulations: new rules in relation to the US tax treatment of certain related party debt - 15 November 2016

With everyone talking about the US Presidential election this week, we thought we’d keep this post topical with a brief note about last month’s release of finalised regulations by the US Treasury Department that impact the treatment of certain related party debt (the “385 Regulations”). Both the journey to this point and the 385 Regulations themselves are far from straight-forward, and so we will not attempt to provide a detailed examination of the scope and implications; instead we will focus on the headline points and let you know where you can find out more information.

The Headlines

The 385 Regulations were released on 13 October 2016, with a published date of 21 October 2016 (the published date is important for determining the effective date of the related-party debt recast rules).
The 385 Regulations set out certain documentation requirements that must be satisfied in order for certain related party debt to continue to be treated as debt for US tax purposes (the “Documentation Rule”).
The 385 Regulations also set out other circumstances in which certain related party debt may be treated as equity for US tax purposes, including in the context of debt issued as part of a M&A transaction (the “Recast Rule”).


Proposed Regulations were originally issued in April 2016. In the six months between proposal and finalisation, the Proposed Regulations were subject to widespread criticism by business and tax professionals. The US Treasury and the IRS have responded by making significant changes to the Proposed Regulations that significantly reduced the impact of the new rules on US parented multinational groups, such as excluding foreign company issued debt from the scope of the 385 Regulations. Nonetheless, the final 385 Regulations introduce new compliance burdens and potential changes in the treatment of certain related party debt that will largely apply to non-US parented multinational groups.


The 385 Regulations generally apply to certain related party debt due from domestic (i.e. US) corporations and certain partnerships, unless both borrower and lender are within the same US consolidated tax group. In general only debt between a borrow and lender within the same “expanded group” (in which there is a common parent with direct or indirect ownership of 80% of the vote or value of each) is subject to the 385 Regulations.

Documentation requirements

Subject to certain exceptions, the Documentation Rule imposes contemporaneous documentation requirements on certain related party loans, including written documentation of four indebtedness factors. Failure to meet such documentation requirements will generally result in the reclassification of the debt as equity for US tax purposes. The Documentation Rule applies only to debt issued on or after 01 January 2018.

The definition of “contemporaneous” has been relaxed in the final 385 Regulations as compared to the Proposed Regulations, but still imposes a significant administrative burden on borrowers. Concerns have also been raised in respect of certain types of related party funding, for example, the impact on cash pooling and revolving credit arrangements.

Recast Rule

The Recast Rule features two basic operating regimes that reclassify certain US company issued debt to members of the same expanded group as equity – the “General Recast Rule” and the “Funding Rule”.

The “General Recast Rule” targets three basic types of “suspect transactions” – (1) dividends of self-created instruments of indebtedness, (2) purchase of expanded group member stock in exchange for debt of the purchaser, and (3) debt instruments issued as “boot” in an inter-expanded group reorganisation. Subject to certain exceptions, debt to which the 385 Regulations apply will be recharacterized as stock for US tax purposes if issued in one of these suspect transactions.

The “Funding Rule” generally applies to recharacterize debt as equity when the debt is issued in exchange for property (e.g. cash) and the issuer engages in certain identified transactions (“funded transactions”) within a 72-month time-frame (36 months before until 36 months after the date of the funded transaction), unless certain exceptions apply. “Funded transactions could include transactions such as dividend distributions or the purchase of expanded group member stock.

In general, the Recast Rule only applies to debt issued on or after 04 April 2016.

The impact for M&A transactions

While the introduction of new and expanded exceptions have limited the scope of the final 385 Regulations as compared to the earlier Proposed Regulations, the US tax consequences of the final 385 Regulations remain substantial for non-US parented multinational groups. In particular, the introduction of the Funding Rule will be especially relevant for related party debt-funded US sub-group companies engaging in M&A transactions, and close monitoring of the ongoing activities of the US company’s activities will be required to avoid unintended recharacterization of certain debt as equity.

What to do now

If you consider that these new 385 Regulations could apply to your US sub-group, we recommend that you take action now to identify the (potential) impact of the Documentation and Recast Rules, including compiling and maintaining a complete inventory of outstanding intragroup loans between US and non-US expanded group members. Consultation with your tax adviser before engaging in transactions involving related party debt-funded US sub-group companies is also recommended to help understand the recharacterization risk.

KPMG Global Webcast

If you would like to hear more about the Regulations, KPMG Global will be holding a webcast on 30 November 2016 – please click here to register.

For further information and assistance

If you would like further, more detailed information on the 385 Regulations, please visit our KPMG US website here. If you would like to discuss the new 385 Regulations in more detail, our colleagues on our US Tax Desk would be happy to assist – please contact Fred Gander (, 020 7311 2046) or your usual KPMG contact.

The new regime: what to look out for in the coming weeks – 05 October 2016

With summer over and an Autumn Statement date announced, we thought now would be a good time for a brief update on what to look out for in the coming weeks in relation to the UK’s new interest deductibility regime.

Whilst there had been speculation by some that the Brexit vote may have forced a delay to the commencement date of the regime, it is our understanding that this will not be the case.

So, with 1 April 2017 still very much the target, here is a summary of our understanding key dates ahead:

  • Now: We understand that HMRC received a large number of responses to their May 2016 consultation, and they are currently busy working through these. As indicated at the time of the consultation, they have been particularly interested in understanding the practical implications of the proposals on business. We predict that if there are any changes to the outline regime, they will be to address these unforeseen practical difficulties in applying the new rules. For example, one of the points that we raised in our KPMG representation was the issues caused by the use of different definitions of EBITDA for the fixed ratio rule vs the group ratio rule, and it will be interesting to see if this is something that is addressed in the draft legislation. 
  • 23 November, Autumn Statement: Expect to see draft legislation on or shortly after the Autumn Statement date (and no later than 5 December 2016, when draft
    legislation for Finance Bill 2017 more generally will be published)
  • Early 2017: We anticipate that the Government will hold a further consultation period on the draft legislation. Any key dates for comments should be highlighted at the time of the publication of the draft clauses.
  • 1 April 2017: Commencement date for the new regime

A few additional points to note in relation to the new regime:

  • It remains the case that the specific issues for the banking and insurance industry are being considered separately, but the timetable runs in parallel.
  • We understand that work on the definitions for the Public Benefit Project Exclusion continues;
  • Finally, the new regime will not signal the end for Advance Thin Cap Agreements (ATCAs) – as previously commented, the arm’s length test will still apply to debt and there will therefore still be an opportunity to agree an ATCA with HMRC in the appropriate circumstances.

The best of the rest – further answers to questions asked during our BEPS Action 4 webinar (part 2) – 10 August 2016

Q4: If a Group applies the GRR, how is the resultant interest deduction allocated between UK group companies? Is there flexibility?

A4: There is flexibility on where the interest deductions can be allocated. However, the interest deductions can only be allocated to a company up to its net tax-interest expense. As per the previous question, other legislation regarding interest limitation will also need to be considered.

Q5: Is it expected that a taxpayer could carry forward excess capacity that arises prior to 1 April 2017 for three years? Or will this apply only to capacity arising from implementation of the new rules?

A5: The carry forward of excess capacity will only apply to capacity arising from 1 April 2017 and the commencement of the new rules.

Q6: Where a company has interest expense restricted under the modified debt cap rule, will there be provision to carry forward the unused interest expense, similar to a restriction under the FRR or GRR?

A6: Yes, the mechanics of the modified debt cap rule will be fully incorporated with the main rules, so an amount of restricted interest would be available to be carried forward and used in a further period where there is sufficient interest capacity.

Q7: What, if any, interest restrictions do we need to apply to overseas businesses? Is this dependent on the introduction of OECD rules for individual countries?

A7: The interest deductions that can be taken in other countries will be dependent on the specific rules in that country. The UK is expected to be one of the first countries to implement new rules arising from the recommendations of Action 4 and so it is likely that interest deductions in other countries will not be subject to new legislation at the same time as the UK.

Q8: Which groups is the Public Benefit Project Exclusion (‘PBPE’) expected to apply to?

A8: The PBPE is expected to apply to groups that provide public benefit services where there is no risk of BEPS. Groups electing to use the PBPE must identify eligible projects, the tax-interest expense and tax EBITDA of which would then be excluded from the interest restriction calculation.

The definition of an eligible project is fairly restrictive:

• The project is to provide public benefit services i.e. services which it is government policy to provide for the benefit of the public.

• A public body contractually obliges the operator to provide the services (directly or under licence).

• The project involves the provision, or upgrade, maintenance and operation of infrastructure on a long term basis (at least 10 years), or on a short term basis that the operator/ public body expects to continue indefinitely.

• All project revenues are subject to UK tax.

• At least 80% of the gross revenue of the project is expected to arise from the provision of public benefit services.

Q9: Is the PBPE optional?

A9: Yes, the PBPE is optional and a group must elect to apply it.

The best of the rest – further answers to questions asked during our BEPS Action 4 webinar (part 1) – 4 August 2016

Q1: How do the proposed rules interact with other interest limitation rules e.g. anti-hybrid, transfer pricing?

A1: Under the Fixed Ratio Rule (‘FRR’) and Group Ratio Rule (‘GRR’), tax-interest will be limited to a percentage of tax-EBITDA. The amounts that are included within tax-interest are those that are taxable/ deductible after the application of other interest limitation rules including transfer pricing, unallowable purpose, anti-hybrid, group mismatch and distribution rules.

Q2: Do we have to worry about past interest deductions or just consider amounts post the proposed date?

A2: Under the current proposal, the new rules will be introduced on 1 April 2017 and will apply to all amounts of interest and other financing costs that arise after this date e.g. the rules will apply on the basis that groups prepare accounts for two notional periods of account, one ending 31 March 2017, the second starting on 1 April 2017. There are no current plans to retrospectively apply these rules to periods pre 1 April 2017.

However, a key concern is regarding the treatment of late paid interest which carries forward in to the new regime. The current proposal is that ‘late interest’ paid on or after 1 April will fall within the scope of the interest restriction rules.

Q3: Under FRR what happens if a company has made nil profit? No interest deduction allowed until revenues are generated?

A3: As set out in the response to Question 1, these new proposed rules will apply after the application of other interest limitation rules and therefore, for a loss making/ nil revenue entity, the arm’s length test may already act to restrict the deduction of interest for that entity before the application of the new rules is considered.

However, if, under the existing interest limitation rules, a potential deduction may be taken for tax-expense, then as the proposed rules will apply on a UK group by group basis rather than a company by company basis, groups can choose how to allocate any interest restriction between the individual companies. Again this allocation is subject to certain limitations.

Please note that all groups are entitled to deduct up to £2 million of net tax-interest expense per year (provided it can be supported as arm’s length) and this overrides the modified debt cap rule.

Consider the position if there is a loss making entity within a positive EBITDA Group. The Group has analysed the other interest limitation rules to determine net tax-interest expense for the Group, and under the FRR and GRR has determined the quantum of this net tax-interest amount that the UK Group can deduct (taking into consideration the £2 million de minimis). This amount can then be allocated between the UK Group entities, however the arm’s length test etc must again be considered in allocating this to the loss making entity.

Now consider loss making entities in a negative EBITDA Group. As before, the Group has analysed the other interest limitation rules to determine net tax-interest expense for the Group. Under the FRR no deduction will be allowed, however under the GRR, the interest deduction will be restricted to the net qualifying interest expense of the Group (i.e. the actual third party interest expense of the Group) subject to consideration of the £2 million de minimis. Again, the arm’s length test must be considered in allocating this interest deduction to loss making entities within the Group.

The consultation document has raised that in certain circumstances, a reduced EBITDA (as a result of loss makers in the group), or the restriction of net qualifying interest expense (for a negative EBITDA group) may result in interest capacity that can sometimes be excessive compared to UK activity. As such, there may be additional rules put in place to cap the level of deductible interest over and above the restrictions set out above, but these are currently under discussion.

Specific definitions for the application of BEPS Action 4 – questions from our recent BEPS Action 4 webinar – 27 July 2016

During our recent webinar on 6 July regarding the UK’s proposed introduction of a new interest deductibility regime, a number of questions were raised regarding the definitions of key terms that will be used in the calculation of deductible interest.

We consider that the responses may be of use to a wider audience and so have set these questions out below with our answers.

Q1: What is the definition of the UK Group e.g. does it also include non-UK incorporated but UK tax resident entities?

A1: The proposed definition of the UK Group includes all companies in the group that are within the charge to UK corporation tax, so this includes all UK tax resident entities regardless of their place of incorporation.

Q2: What is the definition of Group EBITDA e.g. would exceptionals be included?

A2: For the purposes of calculating Group EBITDA for the Group Ratio Rule (‘GRR’), the method set out in the consultation document is to add back the “Total Group Interest” and group depreciation and amortisation to a group’s PBT.

This means that there is no add back for non-recurring expense items, and therefore, under the proposed rules, exceptionals would appear to be included in Group EBITDA. This is an area we will seek clarity on through the consultation process, although we expect that this will not be amended as the carry forward rules are designed to accommodate for fluctuations in EBITDA.

Q3: When calculating tax EBITDA for the UK Group, can you include interest income which is being taxed through the CFC finance company regime?

A3: No. HMRC and HMT have put forward the position that as the CFC rules are, in effect, anti-avoidance rules, they are not strictly part of the UK corporation tax charge. Therefore, under the proposals, will not be included in tax EBITDA (please see section 8.58 of the consultation document).

Q4: Do the Fixed Ratio Rule (‘FRR’) and GRR use net or gross interest expense?

A4: The rules apply to ‘net’ tax interest expense i.e. the financing expense amount less the financing income amount.

Tax interest is defined by reference to tax concepts and will apply to interest on all forms of debt, payments economically equivalent to interest, and expenses incurred in connection with the raising of finance. Please note that ‘Tax interest’ is not the same as the P&L interest as the amounts within tax interest are those that are taxable or deductible after the application of existing UK rules, e.g. the current arm’s length test, unallowable purpose rules etc.

Q5: What is ‘unused interest capacity’?

A5: Unused interest capacity is the ‘spare capacity’ of the UK Group and references where a UK group’s interest capacity under the Action 4 tests e.g. 30% of tax EBITDA, is greater than its actual net tax-interest.

This is calculated by subtracting the net tax-interest from the interest limit and the spare capacity can be carried forward for up to three years.

For example, a UK Group has EBITDA of £100, and, under the arm’s length test and FRR, is able to deduct net tax interest of £30. However, the UK Group only has net tax interest of £20. Under the proposed carry forward rules, the UK Group can carry £10 of spare capacity forward three years.

In the next year, the UK Group has EBITDA of £80, and, under the arm’s length test and FRR, is able to deduct net tax interest of £24, however the net tax interest is now £30. Under the proposed rules the Group can use £6 of the carried forward spare capacity to deduct the full £30 in the second year and carry forward £4 of spare capacity.

Q6: Is the deductibility of interest limited to the higher or lower of the amount allowed under the GRR and the modified debt cap rule?

A6: The deductibility of interest is limited to the lower of the amount allowed under the GRR and the modified debt cap rule. However please note that the FRR will apply, unless the Group applies to use the GRR.

Insights from our recent BEPS Action 4 webinar – 18 July 2016

On 6 July, we hosted a webinar to take you through the UK’s proposed introduction of a new interest deductibility regime (in response to the OECD’s BEPS Action 4 recommendations). For those of you who were unable to attend, or who would like to revisit the materials, we attach the slides and a recording here.

We also conducted a brief poll of participants to the webinar, and we thought that you may be interested to read about the results. When asked about how well informed they felt about UK’s proposed implementation of Action 4, the vast majority of respondents (96.5% of 116 votes) had some level of understanding of the proposals, which reflects the high profile of this particular proposed change to the UK tax regime.  Indeed, almost a quarter of respondents considered themselves to be well informed which suggests that there are a number of organisations who are already anticipating that the proposals will have a significant impact on their business.

This is mirrored by the responses to the second polling question which asked attendees what they think the most important aspect of proposals will be for their business. Again, almost a quarter of respondents (of 95 votes) considered that the UK proposals could result in a restriction on interest deductibility for their organisation which could have a material impact. For a further 50% of respondents, it will be important to understand how the group ratio rule and carry forward provisions will apply and whether they may help to manage the impact.

As we discussed during the webinar, the new regime is a significant change to the UK’s current (and largely familiar) approach to interest deductibility. As demonstrated by just these two polling questions, business already anticipates that it will have an impact. If you have not already done so, we encourage you to consider the impact on your business, and where appropriate, please do consider responding to the UK Government’s consultation document with some concrete examples. We would of course be happy to have a conversation with you to help explore the potential impact on your business and financing arrangements

Public Benefit Infrastructure: A Case Study – 6 June 2016

In our previous post, we considered some of the issues affecting the infrastructure sector, using a PPP waste project company as an illustrative example:

  • The company is a consortium company, owned 50%:50% by two shareholders (so neither shareholder consolidates the project).  It adopts intangible asset accounting treatment (ie it has no financial asset on its balance sheet).  Assume for simplicity that it has accounting EBITDA of £10m and this is equal to its tax EBITDA.
  • The company has £10m of interest expense (split evenly between bank loan and shareholder debt).
  • The company derives only 60% of its income from the local authority, and the rest from private third party sources.
  • Under the fixed ratio rule (30%), the company may only treat £3m of its interest as tax-deductible (with the excess being carried forward to future periods where there might be capacity)The Public Benefit Exemption does not apply (as non-public revenues exceed 20%).
  • Under the de minimis rule, the first £2m of interest can be treated as deductible, but the fixed ratio rule already provides a deductible amount in excess of the de minimis amount.
  • Under the group ratio rule, the company has £5m of external interest.  If the company elects to apply the group ratio rule, it would be able to treat that amount as deductible, over-riding the £3m deduction given by the fixed ratio rule.  But the £5m of interest payable on loans from shareholders would still be treated as non-deductible, and it may not be possible to carry forward the excess, depending on the final rules.  (If the company had been consolidated into the accounts of a larger group, then the deductible amount could have been a higher or lower percentage, depending on the group’s level of gearing.) 

In summary, a PPP waste project may not be able to treat its interest payable on shareholder loans as deductible.  Depending on the final rules for carry forward, there could be a permanent loss of relief.

PPP and infrastructure companies in other sectors who adopt fixed asset accounting treatment or intangible asset treatment may find themselves in the same situation.

PPP waste sector companies, and other PPP companies who adopt capital tax treatment, may also be hit by the new rules restricting the set-off of tax losses: from 1st April 2017, it will only be possible to use brought forward tax losses to cover 50% of a company’s taxable profits.  Some PPP companies expecting that they would pay no tax in the first 10 (or more) years of operations may now need to re-model their tax cash flows.

The combination of the new BEPS Action 4 rules and the loss set-off restriction could lead to a significant acceleration of taxable profits for PPP waste companies and others with a similar fact pattern.

The Government are welcoming comments on their proposals, and are particularly interested in examples of how the proposals may apply in practice.  If you consider that your business may be impacted in a disproportionate or potentially unintended way, we recommend that you consider making a representation.

Leasing issues in the UK BEPS action 4 interest consultation – 12 July 2016

The May 2016 Treasury/HMRC consultation on corporate interest rehearses some of the particular issues faced by UK companies which are lessors and/or lessees (see particularly sections 9.21-9.27 of the document).

Pessimists might predict trouble ahead as we can see several separate developments all affecting leasing and requiring sensible dovetailing-together:

  1. The UK’s BEPS 4 initiative as described in the above Con Doc, coming in from 1 April 2017;
  2. The new IFRS 16 leasing standard, coming in from 1 January 2019 (or earlier if adopted earlier);
  3. The HMRC plans to change UK leasing taxation in response to 2 (as yet not unveiled); and
  4. The wider Office of Tax Simplification review of capital allowances.

The OECD BEPS 4 position on leases is that the finance element of a finance lease rental is to be treated as interest, but that operating lease rentals are not so treated. The logic behind this is that most companies’ accounts will show the finance return or cost implicit in a finance lease rental as the amount going through their profit and loss account. For an operating lease this has not to date been the case (although the UK has since 2006 had a way of creating a proxy for it, on a straightline basis, for long funding operating lease rentals).

Going forward under new IFRS 16 the lessee under most of what are now operating leases will need to reflect a financial liability and to show a finance charge. However, operating lessors will not change their accounting treatment, thus there will not be a symmetry between the lessor and lessee’s accounting.

The UK consultation says that tax-interest will include the financing costs implicit in the payments under certain leases. New IFRS 16 will have the effect that operating lessees will account for such a financing cost implicit in their rentals. However for the time being UK tax law will continue to be driven not by new IFRS 16 but by the existing GAAP (UK GAAP or IFRS) as provided by section 53 Finance Act 2011. Thus operating lease rentals will continue to be deemed not to include any implicit finance cost.Now we have a finished standard in new IFRS 16, HMRC have been cogitating how to make perhaps more organic changes to UK tax law as it applies to leased assets. We expect to see the fruits of that cogitation in a further consultation document very soon. Logically this should lead to the repeal of s53 FA 2011 and its replacement – by what, we are not sure.   However, it seems reasonable to assume that what is shown as a finance return/cost in a company’s accounts will be treated as tax-interest.

For a company or group – say an airline - which has leased assets under operating leases from third parties, the impact of new IFRS 16 (absent s53 FA 2011) would be that tax-EBITDA and group-EBITDA would each be increased by the amount of tax-interest which will now be implicit in the rentals. It will also be increased by the “capital” element of rentals which will no longer be charged to profit and loss account. Where asset life is relatively long it would appear (depending on interest rates) that the increased EBITDA may not suffice to cover the additional tax-interest costs. Unless the group ratio rule is followed there may therefore be a restriction in tax deductions available.

Contact – Michael Everett

BEPS Action 4, the EU’s ATAD and Brexit – 5 July 2016

No tax commentary would now be complete without a mention of the recent EU Referendum result, and so in this article we briefly turn our attention to the possible effects of the Brexit on the UK’s implementation of Action 4.

On the 20 June 2016, political agreement was reached on the EU’s Anti-Tax Avoidance Directive (ATAD), which included proposals in relation to the implementation of Action 4. The final proposals are now broadly consistent with the OECD’s recommendations in this area, and we attach a summary table to provide a useful comparison of the OECD recommendations, the EU proposals, and (to the extent known) the UK proposals. 

Member States are expected to align their domestic legislation on interest deductibility with the EU’s proposals. In terms of timing of implementation, the ATAD allows Member States which have existing national rules which are equally effective to the interest limitation rules to continue to apply those rules up to 1 January 2024.

However, as we now know, three days after the agreement on the ATAP the UK voted to leave the European Union. There are of course many questions of the impact of Brexit on UK tax policy. We consider that the implementation of Action 4 is a prime example of how, in actual fact, Brexit will have negligible effect. The UK has been an enthusiastic, early adopter of the OECD’s BEPS proposals and as can be seen from the comparison table, the UK’s proposed new regime is consistent with the ATAD proposals – and in fact arguably goes “further” as currently it seems unlikely that the UK will introduce grandfathering provisions and there is a clear intention to implement the new regime from 1 April 2017.

So – at least in the area of interest deductibility - anyone hoping that the result of the EU referendum would result in more relaxed corporate tax legislation in the UK is likely to be disappointed.

This view is supported by the immediate comments we have had from HMRC and HMT, who have stated that they continue to remain fully committed to the OECD BEPS process. We therefore encourage all interested parties to engage fully in the consultation process, and KPMG is happy to assist clients with this.  

An update on the key details – 17 June 2016

Since the release of the consultation document last month it has become clear that the proposals are detailed and complex.  To help you navigate the proposals, we have prepared a summary document that covers the following:

  • An overview of the key points of the proposals along with details on the Modified Debt Cap Rule which will replace Worldwide Debt Cap. It also details other considerations such as the provisions to carry forward excess interest capacity in future periods, the application of the Public Benefit Project Exemption and next steps.
  • A practical flowchart that will help you assess whether you may fall within the new rules and what the potential impact may be. The key point to note on this is that HMT have confirmed that the arm’s length test (that is already in place) will continue to apply first and only where the arm’s length amount of net interest expense is greater than £2 million would the new rules need to be considered.

We are continuing to draft our responses to the consultation which is open until 4 August 2016. If you would like to form part of our response on the consultation (on an anonymised basis), please contact your usual client service team or one of the contacts detailed below.

BEPS Action 4: Public Benefit Infrastructure - 2 June 2016

The Government’s proposals for the new interest deductibility regime are now being considered by the various industry sectors.  Here we consider the potential implications for the infrastructure sector, with a specific focus on Public-Private Partnerships (PPP).

Whilst the proposals include a specific provision to ease the impact on public benefit infrastructure, the terms of this are fairly narrowly defined, and so are unlikely to apply as widely as hoped.  In particular we consider that PPP will need to take particular care if:

  • They are consolidated into a wider accounting group;
  • They adopt fixed asset accounting treatment or intangible asset treatment; or
  • They have a large net amount of interest payable, above the de minimis.

It is also worth noting the following points, particular to the sector:

  • The Group Ratio Rule (GRR) may provide a more beneficial result for a highly geared group.  However, interest payable on subordinated debt (shareholder loans) is likely to be treated as connected party interest for this purpose, and not “external”, meaning that interest on shareholder debt may be non-deductible.
  • Carry forward relief: The Government is consulting on the rules for carrying forward excess (non-deductible) interest.  It is likely that if a company applies the Fixed Ratio Rule, then any interest above the 30% ratio would be carried forward indefinitely to periods where there is capacity.  But if a group opts to apply the Group Ratio Rule, then there may be restrictions on the ability to carry forward excess interest.  This means that there may be reasons not to opt for the Group Ratio Rule, even if it delivers a greater interest deduction in the short term.
  • Public benefit exemption: A company’s interest payable on its external debt (including bond or bank interest but generally not loans from shareholders) will be outside the new rules if the debt was used to fund public infrastructure.  This would be expected to encompass most PFI and similar assets, but the full definitions have not yet been published.  For example, it is not known whether PPP housing projects would be within this exemption.  One proposed rule is that the exemption would only apply where “At least 80% of gross revenue generated from the project assets over the lifetime of the project is expected to arise from the provision of public benefit services”.  This exemption will help many PPP companies, but some will fall outside it.  For example, in the PPP waste sector, many companies derive more than 20% of their revenues from non-public sources – from the treatment of third party waste, and the sale of electricity and other by-products to non-public bodies.

The Government are welcoming comments on their proposals, and are particularly interested in examples of how the proposals may apply in practice.  If you consider that your business may be impacted in a disproportionate or potentially unintended way, we recommend that you consider making a representation.  

In our next post, we will consider the implications of the BEPS Action 4 proposal on a PPP case study.

The UK consultation document - 31 May 2016

This week we consider three specific points from the latest UK consultation document on interest deductibility.

1. Modified debt cap definition

The consultation document contains a significant amount of detail and at times there appears to be inconsistencies in the terminology used when defining specific terms. One such area that has been highlighted is in relation to the application of the modified debt cap rule. Specifically, paragraphs 5.55 to 5.58 of the consultation set out that the modified debt cap is intended to prevent a group’s net UK deductions exceeding the net total group-interest expense (unless they fall below the de minimis threshold), whilst paragraph 3.8 makes reference to the global net third party interest expense of the group.

We have now had an opportunity to discuss this with HMRC and they have acknowledged the inconsistency and confirmed that para 5.57 contains the correct interpretation. On this basis related party debt (shareholder debt) would not be excluded when establishing the Group net interest expense for the purposes of the modified debt cap.

2. Convertible loan notes and the GRR

As you may have picked up from your reading of the consultation document, it is proposed that the finance charge from convertible loan notes is excluded from interest when calculating the Group Ratio Rule (GRR) percentage.   We consider that this may adversely impact certain groups and have spoken to HMRC to discuss whether this is an intended impact.

By way of background, HMRC explained that it is important to bear in mind that the GRR is a relaxation of the Fixed Ratio Rule (FRR), with the calculation of the GRR percentage reflecting this (e.g. interest on profit participating loans are excluded). The finance charge on convertibles is therefore excluded for this same reason. Whilst we agree that this may be appropriate for circumstances where the finance charge would not normally be deductible if incurred by a UK company, we are concerned about the impact for those groups with otherwise deductible finance charge amounts (e.g. convertible loan notes issued to third parties). For example, we consider that this proposal could adversely affect a wholly UK group which would not expect to be the intention of the BEPS recommendations.  

If clients consider that this analysis may be in point for their fact pattern, we would certainly be interested in hearing from you.

3. What makes a good representation?

Whilst not a “technical point” in the same way as those above, we thought it would be helpful to relay the messages we have picked up from our discussions with HMRC and HMT in relation to the type of consultation responses that they find to be most ‘useful’ and more likely to gain the attention of the working group.

HMRC and HMT have been consistent in requesting “real” examples of how the proposed legislation may apply – and in particular if stakeholders consider that the rules are not working appropriately or as intended.  It is our understanding that specific consideration is given to examples provided directly by business, but there is also an appreciation that in some instances confidentiality may prohibit this.  If this is the case, stakeholders should either liaise with their CRM (if feasible) or alternatively make a representation through an advisor or industry body.  KPMG is always happy to work with clients in these circumstances to include anonymised examples in our response to consultations.

Further consultation on corporate interest deductibility: What’s new? – 19 May 2016

Last week saw the publication of the Government’s second consultation on corporate interest deductibility. At 92 pages in length, it is certainly comprehensive and there is much to digest before the consultation closes on 4 August 2016.

Those who hoped that the recommendations of the BEPS project would simplify the rules in relation to tax deductibility of interest will be disappointed. The detailed proposals of the consultation document suggest that the new rules will actually be more complex even than suggested during the first consultation – and furthermore, will apply after the application of the existing UK tax rules in this area which will further complicate matters.

We have already had details of the overall framework for the new regime provided to us in the 2016 Budget. This consultation document sheds light on some more of the proposed detail of the new regime:  

  • Various new definitions and new terms are introduced, both within the document (e.g. “tax-interest”, “tax-EBITDA” and “group”), and at Appendix E to the consultation (“interest capacity”, “interest limit”, “interest restriction” and “restricted interest” and numerous other key terms);
  • The definition of group will be the (IFRS) accounting concept.  Exchange gains and losses on loan principal amounts will be excluded from the calculation of tax-interest, but exchange gains and losses arising on the retranslation of interest will be included.  Impairment losses arising on loan relationships and finance lease receivables will be included in tax-interest.  
  • The de minimis group threshold remains at £2m net UK interest expense per annum, but  the allowance will be available to all groups to remove a “cliff edge” effect (i.e. including those with net UK interest expense in excess of £2m);
  • The worldwide debt cap regime will be replaced by a modified debt cap rule;
  • The Public Benefit Project Exemption (“PBPE”) has been scoped out in more detail.  It is proposed that groups would elect for eligible projects to be excluded from the rules, with eligibility defined as being the delivery of services which provide a benefit to the public under government policy.  The project must be delivered as a result of a contractual obligation with a public body, must be a long term project (i.e. greater than ten years duration), and must generate at least 80% of its gross revenue from the provision of the public benefit services;
  • The consultation considers the interaction of the proposed new regime both with other tax rules and reliefs (e.g. the patent box, R&D tax relief and expenditure credits, the CFC regime), and with sector specific considerations (e.g. the financial services sector, oil and gas sector, securitisation companies, authorised investment funds, investment trust companies, collective investment vehicles and the real estate sector).

For more commentary on these points and the consultation document more generally, you may be interested in our article in this week’s Tax Journal (20 May 2016 edition).

Action 4: Details of consultations released last week – 16 May 2016

On 12 May, HM Treasury announced their follow up consultation on the proposed new interest deductibility regime.  The document can be found here, and our initial thoughts are set out in the attached article. We will provide further commentary on the detailed proposals over the next couple of weeks.

Earlier in the week, the OECD announced the dates for two upcoming discussion documents on Action 4:  the first relating to the design and operation of the Group Ratio Rule (to be published 22 June 2016), and the second considering approaches to BEPS involving interest in the banking and insurance sectors (to be published 6 July 2016).

KPMG will be providing comments in respect of each of these consultations and it will be interesting to see how the Group Ratio Rule document aligns with the detailed proposals put forward in the HMT consultation document.

Action 4 and the Financial Services sector – 5 May 2016

Banks and insurers have been closely following the ongoing discussions in respect of the UK’s proposed new interest deductibility regime.  Here we provide an update of our understanding of the proposals and some of the themes emerging.

The general expectation is that the impact of the new fixed ratio rule on banks and insurers should be limited. This is based on a working assumption that the majority of banking and insurance UK groups will be net interest recipients, therefore effectively taking them outside of this regime. This will not however consistently be the case, for example some investment banking groups may have net interest expense.  

It is not yet clear whether specific rules targeting banks and insurers will be introduced.  It is reassuring to note that, so far, noises from HMRC and HMT have been positive in recognising the role of regulation in restricting BEPS activity involving interest.

It is important to recognise that groups operating within the financial services sector typically have a number of inherent complexities. Whilst the role of regulation is acknowledged, non-regulated entities within these sectors may face greater scrutiny. If there is considered to be sufficient risk of BEPS activity, it has been suggested that it may be appropriate for the fixed rate ratio rule to apply separately to the regulated and non-regulated parts of a business.  This of course would likely lead to unusual results for groups, depending on their mix of operations, and would also have knock-on effects on the application of the group ratio rule.

Also important to banks and insurers will be the application of the new regime to branches, which are perhaps more commonly used in these sectors than by other corporates. 

Some different options are likely to be set out in the HMRC consultation document to be released shortly.  The OECD is also running a parallel consultation over the summer and the OECD may make different recommendations. Further clarity is therefore not likely until the Autumn, giving firms little time to adapt prior to the commencement date.  HMRC and HMT have commented that they have received very good engagement from banks and insurers but would value continued input following the release of the consultation document. We would therefore urge all stakeholders to continue to contribute to the discussions and upcoming consultations.  

We finish with a wider point relating to the Action 4 recommendations:  the banking sector will no doubt feel a commercial impact of the new regime, as corporates seek to refinance and restructure debt facilities in the wake of the new regime.  So even if the direct impact on the sector is limited, there will be a very clear secondary impact as a result of the proposals.

An update on the intended application of the Group Ratio Rule – 13 April 2016

The UK Budget announcements on 16 March set out at a high level the proposed changes to the UK’s regime for the deductibility of corporate interest expense.  The level of detail in this original announcement was limited and we expect further consultation and discussion to take place over the next few months. 

However, we have already had some discussions with HM Treasury (HMT) and HMRC in relation to specific queries that have been raised based on the original announcement. In particular we have received clarification this week of how the Group Ratio Rule (GRR) is intended to operate. Specifically they have confirmed the following:

‘It is envisaged that the Group Ratio itself is calculated by reference to the net third party interest expense of the consolidated group.  This would be divided by an accounting measure of EBITDA for the group to give the ratio.  Once the ratio has been calculated it would apply to calculate the cap of the net UK interest deduction for the group, regardless of whom that interest is payable to.  This would operate in a similar way to the FRR, it is just that it is using the group ratio rather than 30%.

Interest payments from one UK group member to another would be expected to net off and have no impact on the net interest deduction of the group for UK tax purposes.  This is similar to the current approach taken by the WWDC rules’.

This confirms that whilst the GRR is calculated with reference to the Group’s ‘external’ net interest expense only, it can then be applied to cap the UK ‘net’ interest deduction (whether internal or external interest). Previously it was unclear if this would be the case or it would only apply to ‘external’ net UK interest expense. This demonstrates the level of fluidity in relation to the rules and we expect many more changes along the road to implementation. 

Timeline to implementation – 28 April 2016

We now have some further clarity on the timetable for implementation of the proposed new regime for the deductibility of corporate interest expense.

This document provides a useful summary of the indicative dates on the road ahead leading up to implementation on 1 April 2017.

All the key details, On A Page – 6 April 2016

Following the Budget announcement in relation to the adoption of new rules to cover the deductibility of interest for corporation tax purposes (in response to BEPS Action 4), we have seen a huge amount of activity and received a number of queries regarding how the new rules will apply.  This is clearly a significant change for UK businesses and to help you navigate the proposals, we have prepared an overview containing:

  • An “On A Page” summary with the background to why the rules are changing, what has been announced, and what happens next;
  • A basic flowchart that will help you to identify (at a very high level) if the new rules will apply and the impact they may have.  (However, please note that the flow chart is based on the headline announcements only – and as much of the detail and specific definitions are still to be confirmed, it should only be used to give an indicative assessment of the impact the new rules may have.)

The key point to note on this is that HMT have confirmed that the arm’s length test (that is already in place) will continue to apply first and only where the arm’s length amount of net interest expense is greater than £2 million would the new rules need to be considered.

Action 4 in the 2016 Budget – 17 March 2016

As widely predicted, the Chancellor’s announcement in relation to the tax deductibility of corporate interest expense confirmed that, as of 1 April 2017, we will see the most significant change to tax legislation in this area in recent times. 

The announcement provides further evidence of the Government’s commitment to ‘leading the way’ in the adoption of the OECD best practice recommendations under BEPS Action 4, despite the significant concerns raised by UK business during the initial consultation period. 

The headline elements of the new rules will be as follows:

  • A Fixed Ratio Rule limiting corporation tax deductions for net interest expense to 30% of a group’s UK earnings before interest, tax, depreciation and amortisation (EBITDA);
  • A Group Ratio Rule based on the net interest to EBITDA ratio for the worldwide group as recommended in the OECD report;
  • A de minimis group threshold of £2 million net of UK interest expense (this is expected to remove 95% of UK groups from the new rules); and
  • The inclusion of rules to ensure that the restriction does not impede the provision of private finance for certain public infrastructure in the UK where there are no material risks of BEPS, and also to address volatility in earnings and interest. 

The expectation is that this will raise in excess of £900 million per annum for the Exchequer from 2017-18 which demonstrates the significant impact of the new rules.

Clearly the devil will be in the detail and a further period of formal consultation is due to commence by May at the latest. However, what is clear is that there is still a significant amount of uncertainty in relation to how the new rules will apply to existing financial arrangements and the potential for any grandfathering provisions. We will monitor developments in this area closely and contribute to future consultations to ensure this point is considered in drafting the legislation. 

HMRC have also indicated they will continue to work with the OECD to develop specific rules for the banking and insurance sectors.

One further impact of the announcement is that HMRC have accepted there will no longer be a need for separate worldwide debt cap legislation and they are committed to repealing this much maligned section of the current legislation. Let’s hope that the lessons learnt from the ‘troubled’ development of these rules are applied to ensure the new interest deduction rules are fit for purpose.

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