This page sets out the specific changes to the corporate interest restriction (CIR) rules published in Finance (No. 2) Bill 2016-17 for infrastructure, banking and insurance companies.
This page should be read in conjunction with the new corporate interest restriction regime setting out the key CIR rules for all businesses, and should not be read as a standalone piece.
Public benefit infrastructure exemption
The rules provide for a public benefit infrastructure exemption (PBIE) which removes interest on external debt, with limited recourse held by qualifying infrastructure companies, from the CIR regime together with possible grandfathering of related party debt in limited circumstances.
There have been a number of changes to the rules since the previous draft legislation released on 26 January 2017. These changes have slightly broadened the scope of the PBIE and removed some of the conditions that would have made it less attractive and uncertain. In particular:
New clauses have also been included setting how the rules for infrastructure companies apply in the case of a joint venture company which has a mixture of investors all of whom have lent to the company, some of whom meet the qualifying infrastructure requirements themselves and some which do not. In these instances, the clauses enable a proportionate approach to be adopted such that the joint venture company can exempt that proportion of its interest payable to the qualifying infrastructure company shareholders but not the remainder of the interest payable to the non-qualifying shareholders. Similarly only the qualifying portion of the tax-EBITDA is excluded and the remaining tax-EBITDA attributable to the non-qualifying shareholders remains available to generate capacity for the fixed ratio rule (FRR) or GRR in respect of the non-exempt interest. The explanatory notes state that the intention is that an election under these new clauses will mitigate any adverse tax consequences which would otherwise arise in a joint venture scenario.
Further, new clauses have also been added to provide for joint PBIE elections for two or more members of a worldwide group as well as in relation to interests in transparent entities that enable companies who hold significant interests in such entities carrying on qualifying infrastructure activities to take this into account for the purposes of the qualifying infrastructure asset test where certain conditions are met.
The rules provide for grandfathering of related party debt entered into on or before 12 May 2016 for qualifying infrastructure companies where at least 80% of the company’s future qualifying infrastructure receipts for a future period (being 10 years unless the loan ceases before 12 May 2026) are highly predictable by reference to qualifying public contracts.
The definition of ‘qualifying infrastructure receipts’ has been broadened to include indirect ownership of shares/loans in underlying project companies with receipts arising from qualifying infrastructure activities, which should enable holding companies in multi-tier holding structures to qualify.
In addition, the clause that required a company to be a qualifying infrastructure company from 1 April 2017, in order to qualify for grandfathering, has been removed. Instead, a new clause has been included in the transitional provisions that provides for companies with accounting periods beginning before 1 April 2018 (the ‘transitional accounting period’) to still qualify where they meet the public infrastructure asset and income tests for at least three months of that period. This change appears to have been made to allow for permissible restructuring to be undertaken during the transitional accounting period. Provided any necessary restructuring does occur such that the company becomes a qualifying company on a prospective basis, it enables that company to obtain the benefit of the exemption on the relevant proportion of its qualifying activities in the period prior to the restructuring.
However, the meaning of ‘qualifying public contract’ has been narrowed to refer to a contract that was entered into with a relevant public body or following bids made in an ‘auction’ conducted by a relevant public body. It is expected that projects such as PPPs, OFTOs (offshore transmission links) and CfDs (Contract for Differences projects in the energy sector) should meet this definition given they are publicly tendered, whereas other projects with public subsidies (such as ROCs and FiTs) may not.
It is clear from these changes that HMRC and HM Treasury have given due consideration to the points raised by the infrastructure investor community during the various consultation processes and these changes reflect many of the concepts and issues that threatened to make PBIE less attractive, uncertain or unusable. Now the PBIE is a real potential option where upfront certainty is needed and/ or to protect existing related party debt on certain types of infrastructure projects which meet the qualifying conditions. Further guidance is due shortly from HMRC on other interpretational aspects of the new rules.
Finally, from a practical perspective, a company should carefully consider whether it does indeed make either the group ratio or PBIE election under the interest restriction regime. Whilst the PBIE election may be beneficial in some circumstances, we have seen other cases where it is not. This is in part due to interactions with the loss carry-forward restrictions which apply to brought-forward losses but not to ‘reactivated’ disallowed interest. Any decision on these matters clearly has to be a bespoke process.
Specific rules have been introduced for ‘banking companies’ (defined as for the bank loss restriction and surcharge legislation). These rules effectively treat debits and credits directly arising from dealing in financial instruments to be treated as interest amounts when calculating any restriction, provided that the dealing activity forms part of the banking company’s trade.
Financial instruments include shares and other securities in addition to loan relationships and derivative contracts, and this therefore represents a significant broadening of the rules. On the assumption that the dealing activities are profitable this change should reduce the likelihood of any restriction and is therefore likely to be welcomed - particularly by those banks without any significant UK retail business and hence with greatest risk of an exposure under the original proposals.
The expectation is that, in practice, it should now be unusual for a banking group to suffer a restriction. The changes do raise the prospect that a loss on dealing activities might give rise to a restriction, although amendments to other aspects of the legislation may lessen any impact of this should it occur.
An amendment has been made to correct an anomaly in the original draft legislation as it applied to corporate members of Lloyd’s syndicates. For historic reasons, interest income arising to these companies from premium trust fund assets is taxable, but not usually under the loan relationship regime. The amendment is intended to ensure that this income is still taken into account in determining any corporate interest restriction.
A further change is intended to increase the usefulness of an election included in the previous draft of the legislation, broadly allowing the restriction to be applied as if the creditor relationships (i.e. loan assets) were accounted for on an amortised cost rather than fair value basis. The purpose of the election is to allow groups a way of removing volatility that might otherwise distort the application of the interest restriction rules, but concerns had been raised that the administrative burden associated with restating amounts on an amortised cost basis for a large portfolio meant that many insurance groups would be unable to make the election in practice. The amendment seeks to address these concerns by allowing insurers to use a simpler form of amortised cost accounting for these purposes.