697LB Treatment of finance costs

Summary

This section deals with the tax treatment of a tonnage tax company’s or a tonnage tax group’s financing costs. This section is designed to prevent a company or group arranging for tonnage tax activities to be financed by non-tax deductible equity capital while its non-tonnage tax activities are financed by tax deductible debt.

The rules operate on the basis that debt finance is “fungible”. In other words, borrowings serve to finance the activities of the company or group as a whole, even if they are earmarked initially for a particular project. The section requires companies to consider their activities as a whole and to ensure that only a just and reasonable proportion of any finance costs incurred are treated as tax deductible in companies or activities outside of tonnage tax. Where a company or group has more that a just and reasonable proportion of its finance costs claimed as deductions against profits outside tonnage tax, then an appropriate amount is added to its taxable profits from activities outside tonnage tax.

Details

Definitions and interpretation

(1) “finance costs” is all of the costs to a company arising from debt financing. It is intended that this provision be interpreted very broadly. It includes the obvious costs such as interest on a loan but also includes less straightforward costs such as exchange gains and losses arising from the translation of foreign currency loans. It could include off-balance sheet methods of financing.

“deductible finance costs outside the tonnage tax trade” in the case of single company, refers to the total of the amounts which the company may deduct for financing reasons in calculating its corporation tax other than any amount which is referable to the financing of its tonnage tax activities. In the case of a group of company’s, this amount is the amounts which group companies may deduct from their profits other than any amount which is referable to the group’s profits from its tonnage tax activities.

“finance lease” is basically a lease under which all the risks and benefits associated with ownership of plant and machinery other than actual legal title is borne by the lessee and that this is recognised as such by the accounting treatment afforded the lease.

Where companies accounting periods do not correspond then for the purposes of this section the periods are to be matched on whatever basis is just and reasonable in the circumstances.

Determination of excessive finance deductions outside tonnage tax

(2) to (8) Where a company’s deductions which are referable to financing costs exceed a fair proportion of the company’s total finance costs, then the adjustment to the company’s profits for tax purposes provided for in subsection (3) is to be made.

The adjustment is to be made on whatever basis is just and reasonable in the circumstances. The just and reasonable calculation should take into account the fact that finance requirements differ from activity to activity. Shipping is generally a capital intensive activity due to the high costs of assets and would usually be expected to absorb a large part of any finance raised. To the extent that a company has more than a just and reasonable proportion of its finance costs claimed as deductions against profits from activities outside the tonnage tax trade, then an addition is to be made to its taxable profits outside the tonnage tax trade.

Similar provision is made in relation to a group of companies.

This section will not apply where the amount of costs and losses incurred is exceeded by the amount of profits or gains arising in the calculation of the company’s or group’s deductible finance costs outside the tonnage tax trade.

Relevant Date: Finance Act 2021