This is the twenty fourth in our series of articles looking at some of the detail of the new corporate interest restriction (CIR) rules. The CIR legislation was included in Finance (No.2) Bill 2017, published on 8 September, with the start date continuing to be 1 April 2017. Our next few articles will consider the implications of CIR for UK real estate businesses. This week we focus on the position of ‘normal’ UK resident companies investing in UK real estate and look at some of the pros and cons of applying the public infrastructure exemption (PIE). In the coming weeks, we will (i) look at special considerations for UK resident companies that qualify as real estate investment trusts, and (ii) consider the position of non-UK resident companies investing in UK real estate which are currently subject to UK income tax, but which may be brought within the scope of UK corporation tax at a future date.
Effect of the exemption applying
Where the PIE applies to a qualifying infrastructure company (QIC), tax-interest expenses on non-related party borrowing are excluded from the CIR regime, subject to a requirement that the recourse of the creditor is limited to income, assets or shares in or loans issued by the QIC. Any tax-interest income of the QIC is also excluded from the CIR regime. Tax-interest expenses on related party borrowings are not generally exempted under the PIE (although some debt may be grandfathered), unless the lender is also a QIC. Where the PIE applies, the QIC’s tax-EBITDA is also reduced to zero. As a result:
- Where the QIC forms a single company CIR group, it is unlikely to be worthwhile electing into the PIE regime where the QIC is wholly or substantially funded by (non-grandfathered) related party debt; and
- Where the QIC forms part of a wider CIR group and elects into the PIE regime, it may be possible to access some relief for its interest costs on (non-grandfathered) related party debt but this will depend upon the group’s wider CIR position.
Conditions for the exemption to apply
- To qualify, the QIC should derive its income/value of its assets from qualifying infrastructure activities (QIA);
- A company carries on a QIA if it provides a public infrastructure asset or carries on any other activity that is ancillary to, or facilitates the provision of a public infrastructure asset; and
- A building or part of a building, is a public infrastructure asset if: o The company or another member of the worldwide group carries on a UK property rental business;
- The building, or part, is or is to be let (or sub-let) on a short term basis (a lease term of 50 years or less) to parties unrelated to the company or group member;
- The expected economic life of the building is at least 10 years; and
- The building or part is recognised on the balance sheet of the PIE company or an associated company, which itself must be subject to UK corporation tax on all sources of income.
Key points to note and practical implications
- A PIE election may be beneficial in some circumstances, such as for groups with significant third party debt and low tax-EBITDA at UK group level, and a low group ratio at group level;
- For many groups with significant related party lending, the fixed ratio method or the group ratio method (where the wider group has a high gearing ratio) may provide better relief than the PIE treatment;
- Even where there is significant third party debt, the group ratio method could provide similar deductions to PIE treatment and should be modelled to compare the benefit;
- Grandfathering of related party debt is unlikely to apply to the majority of real estate type structures but there can be arguments to support grandfathering for some type of property businesses such as student accommodation, hospitals, health, etc., and so each case should be considered separately;
- The PIE election is irrevocable for at least five years so the impact of future plans should be considered before making the election;
- Where only some group companies make the election, any cross guarantees or financial assistance provided by non-QICs within the worldwide group to the lenders of the QIC can taint the third party debt as related party debt;
- A PIE election can simplify the compliance burden significantly;
- Income generated from activities that are ancillary to or facilitate the provision of qualifying infrastructure activities (required for the exemption to apply) also qualify but what constitutes ‘ancillary’ or ‘facilitates the provision’ is not clearly defined and is subject to interpretation; and
- Where the public infrastructure asset is owned by a non-resident landlord not currently subject to UK corporate tax but the third party borrowing is drawn by a UK group company, the PIE exemption may not be available for that UK company.
The previous articles in this series can be found here.
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