Martin Walker gives us an overview of the new corporate tax loss relief rules and group relief.
Note to the reader: The measures examined in this article have been removed from Finance Bill 2017. We understand that the Financial Secretariat to the Treasury has notified the House of Commons that these delayed measures are intended to be reintroduced at the earliest opportunity post-election. The expectation is that if the measures are reintroduced, this would occur in a summer Finance Bill soon after the election, and the start dates of these measures are likely to remain at 1 April 2017.
Finance Bill 2017 previously included detailed legislation setting out the new rules for tax relief of carried forward losses that emerged from the consultation process that concluded in December.
The new provisions are lengthy (in excess of 100 pages) and complex. From a technical perspective, they will require detailed analysis to ensure that correct and optimal claims are made to utilise carried forward losses and they also pose practical problems, not least how to reflect the new rules in financial models.
This article focusses on one of the more complex aspects of the legislation – the provisions for claiming and surrendering carried forward losses via group and consortium relief, including a particular issue arising in the context of joint ventures.
The new legislation governing tax relief for carried forward losses is intended to take effect from 1 April 2017. Accounting periods spanning this date must be apportioned so that the old and new rules apply to the profits and losses either side of 1 April.
The basic provisions have been known for some time and are relatively simple in concept:
However, the detail of the new legislation is complex, as illustrated by the group relief rules. The ability to surrender losses between an acquisition vehicle and a target group, or vice versa, typically have an impact on the valuation of the target, therefore it is important to be able to accurately assess how the new rules will apply in various circumstances.
Detailed provisions governing group relief and consortium relief for carried forward losses are included in the new Part 5A of CTA2010.
Chapters 1 and 2 set out the basic rules for group relief for carried forward losses arising after 1 April 2017.
They also include a number of restrictions. In particular, group relief for carried forward losses is only available to the extent that the losses cannot be used by the surrendering company. Similarly, a company with carried forward losses of its own cannot make a claim for group relief for carried forward losses of another company unless it has utilised its own carried forward losses as far as possible.
The new chapter 3 introduces specific provisions in respect of both group and consortium relief for carried forward losses.
S188CB governs claims for group relief of carried forward losses where the companies are in a group or where the claimant company is owned by a consortium and the surrendering company is a member of the consortium or a member of the same group as a “link” company.
S188CC governs claims for group relief of carried forward losses from a consortium company to a consortium member, or a member of the same group as a member of a consortium (the “link” company).
For a claim to be made under either provision, the surrendering company must consent to the claim and there must be an “overlapping period” common to both the claim period and the surrender period (which will be the whole accounting period where the companies have coterminous accounting periods).
Any losses claimed are offset against the total profits of the claimant company for that period, subject to the limit on relief for losses brought forward to 50% of taxable profits (after any of the £5m deductions allowance allocated to the claimant company). These losses are offset against profits after all other forms of loss relief apart from losses carried back from a later period.
Although the provisions of s188CB and s188CC work in a similar way, and are intended as far as possible to work in the same way as group and consortium relief for current year losses, there are a number of differences within the detail. This means that care must be taken to ensure that the correct rules are applied to each claim.
One difference is that a claim under s188CC may only be made in respect of a specified accounting period of the consortium company (“the specified loss-making period”). In other words, losses of each period must be tracked. This does not apply to claims under s188CB.
Other differences can be seen by exploring each provision in more detail.
Chapter 4 limits the surrender of losses under s188CB to the lower of:
(a) The remaining carried forward losses available to surrender; and
(b) The remaining profits of the claimant company that can be sheltered by a group relief claim for carried forward losses (taking into account the limitation of relief to 50% of taxable profits and the £5m annual allowance).
The legislation includes very detailed definitions of these limits and a formulaic approach to calculating the limits. The definitions will need to be applied carefully when quantifying a claim.
Where a claim for consortium relief is made under s188CB, any claim is further limited to the ownership proportion of the claimant company’s relevant profits for the overlapping period.
The ownership proportion is the lower of the surrendering company’s percentage interest in the ordinary share capital, rights to profits, rights to assets on a winding up and voting power held in the claimant company. This proportion is measured based on the interest held by the surrendering company in the claimant company in the period of the claim/surrender, not the period when the losses first arose.
Where the claimant company under such a consortium relief claim is also the member of a group, its relevant profits in determining the amount of consortium relief for carried forward losses it can claim is reduced by the amount that it could potentially claim via group relief of current year and carried forward losses.
Chapter 5 similarly limits the surrender of losses by a consortium company to a consortium member (or member of the same group as the consortium member) to the lower of:
(a) The remaining carried forward losses available to surrender that are attributable to the specified loss-making period
(b) The remaining profits of the claimant company that can be sheltered by a group relief claim for carried forward losses (taking into account the limitation of relief to 50% of taxable profits and the £5m annual allowance); and
(c) The amount that could have been surrendered to the claimant company under the “current year” consortium relief rules for the specified loss-making period (less any surrenders already made).
Again, these limits have detailed definitions that will need to be applied carefully when quantifying a claim.
Condition (c) applies the restrictions on consortium relief claims by reference to the ownership proportion of the consortium company held by the claimant company in the specified loss-making period, i.e. the period in which the losses arose rather than in the period of the claim/surrender, in contrast to claims under s188CB.
Any claim for consortium relief by members of the same group as the link company are limited to the amount the link company could have claimed as a standalone company, assuming it had sufficient profits to claim its full entitlement.
Where the consortium company is also a member of a group, the carried forward losses that it can surrender to a consortium member are also reduced by the amount of group relief for carried forward losses that could have been claimed from it by members of that group.
The requirement that a surrendering company must offset its carried forward losses as far as possible against its own profits before it can surrender them via group/consortium relief could lead to complications in the allocation of losses to consortium members.
Suppose that in year 1 the consortium company has losses of 100 and has two consortium members, each with a 50% interest in the consortium company. Each would be entitled to claim losses of up to 50. Suppose each claims 25 and the consortium company carries forward losses of 50.
In year 2, the consortium company has profits of 20 and offsets 20 of its losses brought forward, leaving 30 available to surrender to the consortium members.
Based on the methodology set out in the draft legislation, each consortium member could theoretically claim group relief for carried forward losses in year 2 based on its maximum entitlement of 50, less losses already claimed of 25 – i.e. a claim of 25 in year 2. However, the remaining losses available to surrender are now only 30, so both companies cannot claim the full 25.
The draft legislation does not specify any basis of allocating the remaining losses to each consortium member where the consortium company itself has utilised some of its carried forward losses. In theory, each member could claim an amount of the remaining carried forward losses of the specified period up to its original entitlement to claim losses of the specified period, as reduced by any previous claims actually made by that consortium member, but it will not be possible to claim any more than the losses remaining. As the example above shows, this could leave two or more consortium members wanting to claim the same balance of carried forward losses from a consortium company.
Practically speaking, in joint venture situations the Shareholders’ Agreement should make it clear how carried forward losses of a consortium company should be shared.