Finance Act (FA) 2019 introduced two important changes to the UK Intangible Fixed Asset (IFA) Regime, namely:

1. The ability to defer IFA degrouping charges on certain disposals of IFAs
2. The reinstatement of tax relief for goodwill and other customer-related intangibles, subject to certain conditions.

While these changes have been broadly welcomed and should go some way to meet the intention of the legislation to “reduce frictions that inhibit commercial mergers and acquisitions”, as outlined below, purchasers should still be wary if they intend to realise any IFAs post-acquisition and factor this into their deliberations, negotiations and pricing of deals.

Background and recap of UK IFA regime

The introduction of the IFA regime in 2002 changed the way the UK corporation tax system treats IFAs (such as copyrights, patents and trademarks) and goodwill by, in general, aligning the tax treatment of assets within the scope of the regime with their accounting treatment. All references hereafter to “intangible assets,” “intangible fixed assets” or “assets” include goodwill.

Broadly speaking, the commencement rules to the IFA regime mean that it does not apply to assets that existed at 1 April 2002 unless the assets were acquired from an unrelated party on or after that date.

Prior to the introduction of the IFA regime, the tax system did not allow relief for amortisation or impairment of IFAs. Changes in the value of the asset were generally only recognised for tax purposes under the capital gains regime when an asset was sold (with some limited classes of assets qualifying for capital allowances).

A key change occurred to the regime in July 2015, when relief for amortisation of goodwill and customer related intangibles was removed effective 8 July 2015 for relevant assets acquired on or after that date.

However, the government recognised the growing importance of intangible assets to the productivity of modern business, and the restructuring of intangible assets ownership within multinational groups – therefore the changes introduced in FA 2019 aim to make the UK more competitive as multinational groups look at the location of their intellectual property (IP).

Deferral of IFA degrouping charges on certain disposals of IFA

The changes to the IFA degrouping charge rules resolve an arbitrary inconsistency in pre-FA 2019 legislation that had previously inconvenienced M&A transactions involving significant amounts of IP. For a number of years, groups have been able to include any degrouping charges arising on chargeable assets as additional consideration on the disposal proceeds of the relevant shares for capital gains purposes, which could then be exempted by the Substantial Shareholding Exemption (SSE). But no similar mechanism was available for IFA degrouping charges, with the result that they remained crystallised in the target group unless a section 792 Corporation Tax Act (CTA) 2009 reallocation could be made. Broadly, a section 792 election allows a company (in which a degrouping charge arises) that is about to leave the group to jointly elect with another group member to treat the degrouping charge or any part of it as arising in that other group company.

FA 2019 has now introduced rules to allow IFA degrouping charges arising on or after 7 November 2018 under section 780(2) and 785(3) CTA 2009 to be ‘switched off’ where the disposal of shares qualifies for the SSE. The legislation therefore allows a company to be sold without creating a degrouping charge however this does not allow a tax written down value (TWDV) step up/down to market value, unlike that possible for chargeable assets under section 179 TCGA 1992, as it was the view that it was inappropriate to do so given that the IFAs on which the degrouping charge would have arisen had already benefited from amortisation relief under Part 8 CTA 2009.

There are therefore very practical advantages to these changes as businesses that wish to transfer an IFA to a group company on a tax neutral basis will have one less covenant exposure to worry about and no immediate tax charge should arise. However, because there is no rebasing to market value, purchaser due diligence should continue to focus on IFAs, and it will be important to ensure that the deal is priced accordingly especially where the purchaser may intend to sell the IFA in the acquired company post acquisition.

This is because, while a charge may not arise on the purchase of the company, if the IFA has increased in value but been subject to amortisation (possibly at a fixed rate and thus not reflecting the economic reality) during the time the vendor group owned the asset, the amortisation claimed is effectively recovered by HMRC (from the purchaser) on any future sale (where the price is greater than the TWDV).

Reinstatement of amortisation relief for goodwill and other customer-related intangibles

Recognising that businesses are often valued at a premium to the fair value of their assets (both tangible and intangible), which is especially true in the technology and pharmaceutical sectors, the government has reinstated targeted tax relief for companies for goodwill acquired on or after 1 April 2019 in certain circumstances. Broadly this is available on the acquisition of businesses with IP.

The new rules apply to ‘relevant assets’, being:

• Goodwill in a business or part of a business;
• An IFA that consists of information which relates to customers or potential customers of a business or part of a business
• An IFA that consists of a relationship whether or not contractual – between a person carrying on a business and one or more customers of that business or part of that business;
• An unregistered trademark or other sign used in the course of a business or part of a business; or
• A licence or other right in respect of any of the assets above.

A company that acquires a ‘relevant asset’ on or after 1 April 2019, is deemed to have made an election under section 730 CTA 2009 to write down the asset for tax purposes at a fixed rate of 6.5% of the cost of the asset per annum. Full unrestricted relief is available for the cost of goodwill where the value of the goodwill is no more than six times the value of the ‘qualifying IP assets’.

To determine whether a restriction applies, the following ratio is calculated –

Where the ratio is less than 1, the relief available for relevant assets is restricted by applying this fraction to the relief that would otherwise be available.

Example 1

A business is acquired for £100m, consisting of the following assets:

Qualifying IP: £20m

Tangible FA:   £50m

Goodwill:   £30m

Expenditure on qualifying IP assets × 6 = £20m × 6 = £180m

Expenditure on ‘relevant assets’:          £30m

The result of the calculation is more than 1, therefore full unrestricted relief will be available for the cost of goodwill.

This will mean a deduction of £1.95m (6.5% × £30m) is available in a full year.

Example 2

A business is acquired for £100m, consisting of the following assets:

Qualifying IP:  £2m

Tangible FA:   £50m

Goodwill:    £48m

Expenditure on qualifying IP assets × 6 = £2m × 6 = £12m

Expenditure on ‘relevant assets’:         £48m

The result of the calculation is less than 1, as expenditure on ‘relevant assets’ is greater than expenditure on qualifying IP assets × 6, and thus relief available in respect of the goodwill is restricted by applying the fraction calculated by the above formula to the relief that would otherwise be available. Thus, relief is available for only £12m of goodwill, being £48m × (£12m / £48m).

This will mean a deduction of £780k (6.5% × £12m) is available in a full year.

Other exceptions

There are other circumstances in which ‘relevant assets’ will not qualify for relief. These provisions are aimed at preventing companies deliberately structuring arrangements to access the relief where relevant assets would not otherwise have qualified for it. Broadly, they are:

1. Where asset is acquired from a related party individual (alone or in a partnership) who has not acquired the asset from a third party;

This scenario effectively preserves the original restriction on incorporation relief for goodwill where the transferor had created goodwill or acquired from a connected or related party.

2. Where it is a ‘pre FA 2019 relevant asset’.

A ‘relevant asset will be a ‘pre FA19 relevant asset’ if, broadly:

• The company acquired or created the asset between 8 July 2015 and 31 March 2019.
• The company acquired the asset post April 1 2019 from a related party who acquired/created the asset between 8 July 2015 and 31 March 2019 and it was a chargeable intangible asset for that other company between 29 October 2018 (budget day) and 31 March 2019.
• The company acquires the asset from related party post 1 April 2019 and its value is derived in whole or in part from a different asset with ‘preserved status’ – the intention is to prevent creation of a sub-licence out of an existing asset which itself is a ‘pre FA 2019 relevant asset’.
• The company acquires the asset on or after 1 April 2019 directly/indirectly in relation to disposal of a relevant asset by another person and the asset disposal would have been a ‘pre FA 2019 relevant asset’ for the company if the other party had just transferred it to the company.

Conclusion

Again, these changes will be welcomed by businesses. However, the exclusion of registered trademarks from eligible IP in the context of a business acquisition may have practical significance for companies looking to acquire businesses that derive significant value from registered trademarks or goodwill generated from such trademarks, as they may unexpectedly find that relief is restricted by the above formula.

Also, where businesses being acquired have qualifying IP assets, due consideration should be given to the allocation of the purchase consideration between the various asset categories.

Marie Farrell and Michelle McKinley are Directors with KPMG Belfast.

Email: marie.t.farrell@kpmg.ie
   michelle.mckinley@kpmg.ie