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Corporate interest restriction ‘devil is in the detail’ – property trading companies

Corporate interest restriction

This week we look at the implications of the CIR regime for property trading companies.

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This is the twenty ninth 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. The draft legislation has now been approved without amendment by the Parliamentary Public Bill committee. This week we return to our articles on the impact of the CIR rules for real estate businesses, with some of the typical issues faced by property trading companies. Careful consideration will be required in relation to the application of the CIR rules, in particular as regards the treatment of capitalised interest.

As discussed in previous articles, the CIR regime requires a worldwide group to determine its aggregate net tax-interest expense (ANTIE). This will be disallowed for tax purposes by the CIR rules, to the extent it exceeds 30 percent (or the group ratio percentage) of the group’s ‘aggregate tax-EBITDA’ (or a ‘debt cap’ limit, if lower). However, there is no disallowance of the first £2 million of ANTIE.

The CIR rules will need to be applied to property trading companies that are:

  • Resident in the UK;
  • Trading in the UK via a taxable permanent establishment; or
  • Dealing in UK land and deemed to be trading in the UK via a taxable permanent establishment under special  rules introduced in 2016.

While the accounting treatment of interest costs accrued by a property developer while the property is under construction may vary, these are commonly capitalised and subsequently written off to the income statement (as part of the cost of sales) in the period when the property is sold.

Although the technical analysis is not entirely clear, HMRC have confirmed to us that in such cases, the amount written-off to the income statement in the period when the property is sold should be treated as a ‘tax-interest expense’ (included in calculating the group’s ANTIE) to the extent it effectively represents the write-off of interest previously capitalised.

This means that where property development companies have capitalised interest costs prior to 1 April 2017, which are subsequently written off to the income statement after 1 April 2017, these costs will be potentially subject to disallowance under the CIR regime even though the interest accrued prior to 1 April 2017.

It also means that a property developer may have a more favourable transitional CIR treatment where it has not previously capitalised interest costs. This is only possible if the company has adopted FRS 102 (rather than FRS 101 or IFRS) and has chosen to expense interest amounts to the income statement in the period when they accrued. This should mean the interest is deductible for tax purposes prior to 1 April 2017, and therefore not susceptible to disallowance under the CIR regime.

In contrast to the position for calculating ‘tax-interest’, the default position for the purposes of calculating a group’s ‘debt cap’ limit, is that interest capitalised into trading stock (i.e. the property under construction) should be recognised in the period when it is capitalised. This mismatch could result in interest being disallowed in the period when the property is sold due to a debt cap restriction.

However, a group should be able to ‘cure’ this mismatch by making an interest allowance (alternative calculation) election, so that, when calculating the debt cap limit, the capitalised interest is also recognised in the period when the property is sold. The other implications from making such an election would need to be considered.

The previous articles in this series can be found here.

For further information please contact:

Mark Eaton

Richard Rudman

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