Consultation outcome

Reform of transfer pricing, permanent establishment and Diverted Profits Tax — Summary of responses

Updated 26 November 2025

1. Introduction

The consultation Reform of UK law in relation to transfer pricing, permanent establishment, and Diverted Profits Tax ran from 28 April to 7 July 2025. This document provides a summary of responses and next steps. This technical consultation followed a policy consultation in 2023.

The consultation proposed various changes to simplify and modernise relevant UK law. It gave stakeholders an opportunity to review draft legislation, explanatory notes, and amendments to Statement of Practice 1 (2001): treatment of investment managers and their overseas clients.

The government held 3 public engagement sessions involving over 150 participants and received 45 written responses from businesses, representative bodies, and agents. The government appreciates the useful and constructive comments received, with many respondents providing detailed feedback on the draft legislation.

While respondents generally agreed that the drafts addressed many of the issues discussed in the policy consultation, some concerns were raised in respect of implementation and consequential changes. That feedback has been carefully considered when finalising the legislation. Further detail on new and amended provisions is provided in the explanatory notes.

This document summarises responses to the consultation and provides the government’s response. It focuses on key areas of stakeholder comment and points where feedback has not been addressed by changes to the legislation. The government will include primary legislation relating to these reforms in Finance Bill 2025 to 2026. In general, these changes will take effect for chargeable periods beginning on or after 1 January 2026. Transitional rules will apply to certain amendments relating to financial transactions. New legislation will be supported by guidance in HM Revenue and Customs (HMRC)’s International Manual.

These reforms sit alongside the government’s proposals to introduce an International Controlled Transaction Schedule. Readers may benefit from reviewing the associated summary of responses ‘transfer pricing scope and documentation’ alongside this document.

2. Responses

Transfer pricing

Section 2 of the consultation covered proposals to reform the UK’s transfer pricing rules. Key themes raised in stakeholder feedback and the government’s response are set out below.

The participation condition

The participation condition was a key area where stakeholder feedback was received. Some respondents were concerned that the proposed changes introduced uncertainty and subjectivity and went beyond the aims of the reform.

The power for HMRC to issue transfer pricing notices where there would be participation under Article 9 of the Organisation for Economic Co-operation and Development (OECD) Model Tax Convention was viewed by some as too broad.

The conditions deeming participation where there is an ‘arrangement for common management’ were also viewed as too widely drawn. Respondents were concerned it could unintentionally catch commercial structures, such as investment funds, franchise networks and professional-services alliances.

Few commented on the anti-avoidance rule based on a ‘main purpose’ test. Those who did asked for clarification on how it would apply in practice.

The government has taken the following steps to address these concerns:

• the concept of common management has been substantially narrowed in the draft legislation. It now targets structures with a legal arrangement, a unified senior management, and shared economic outcomes through a defined mechanism. Guidance will provide further detail on the types of structures that may be within scope
• the power for HMRC to issue transfer pricing notices where there would be participation under Article 9 of the OECD Model Tax Convention will be retained. However, it will be made clear in legislation that such notices apply in relation to the chargeable period in which it is given and subsequent chargeable periods
• the anti-avoidance provision will be retained, with further detail on how it will apply provided in guidance

UK-to-UK transfer pricing

Respondents strongly supported repealing UK-to-UK transfer pricing as a pragmatic simplification that eases compliance burdens on businesses without introducing undue Exchequer risk.

However, some respondents raised concerns that the exemption, as drafted, was complex. This was seen as potentially undermining some of the certainty the exemption was meant to provide.

In addition, some respondents viewed the list of excluded transactions and excluded companies as too broad. There were concerns about the range and nature of financial services sector companies covered and potential inclusion of companies with minor activities in excluded regimes.

The government has carefully considered the balance between easing compliance burden, legislative complexity, and minimising risk of Exchequer loss and considers the balance is broadly right.

Respondents further suggested that transactions between companies in the same excluded category should benefit from the exemption, as respondents saw little risk of rate arbitrage. After careful consideration, the government does not intend to introduce such a provision. For certain categories risks would remain, which makes this change inconsistent with the aim of revenue neutrality. Transacting on a non-arm’s length basis might also lead to misalignment with regulatory rules. Accommodating this approach overall would also add to legislative complexity.

A few respondents also raised concerns with HMRC’s power to issue notices which disapply the exemption. They stated the risk that HMRC could issue a notice at its own discretion creates uncertainty. The legislation has been amended to clarify that HMRC will give a notice only if it is necessary to avoid a net loss of UK tax. HMRC will confirm in guidance when such notices may be issued and the personnel with oversight and responsibility for those decisions.

Respondents also sought clarity on key terms:

• same rate of tax: the government considers it clear that the meaning is statutory rate of tax, but will confirm this in the explanatory notes.

• reference currency: the question was asked why the term ‘functional currency’ was not used. The government agrees that in most cases the reference currency will be the functional currency of the company. However, there can be situations where a different currency is used to calculate the taxable profits in relation to the particular provision in question

For example, where a company borrows money through a foreign branch that has a different functional currency, the taxable profits and losses from the loan will be calculated by reference to the currency of the branch. The use of ‘reference currency’ is therefore intended to look at the particular currency in which the taxable profits of the particular provision in question are calculated.

Commissioners’ sanctions

Respondents agreed this change represents an administrative and legislative simplification. Many believed it will help streamline the enquiry process, reduce delays, and improve efficiency in closing transfer pricing cases.

Intangibles

Respondents supported the intention to simplify the legislation for transactions involving intangibles and the improved certainty that arises from moving to a single valuation standard.

Some respondents had concerns that they would be required to calculate both market and arm’s length values for domestic transactions. The government’s intention is for taxpayers to only consider one valuation standard in each case. Market value will apply for all domestic transactions so that consistent treatment is maintained with other tax regimes.

Some respondents thought that the asymmetry between the ‘two-way street’ for transfers of intangible fixed assets, and the ‘one-way street’ for the grant of a licence should be addressed. A transfer and a licence can be economically comparable and achieve identical commercial outcomes.

The ‘one-way street’ protects against double non-taxation caused by asymmetry in treatment on either side of a transaction. Whilst the government recognises that aligning the treatment to transfers may be beneficial, the current position is to prioritise changes in respect of the valuation standards. The government will retain the ‘one-way street’ for licence transactions but this will be kept under review.

Several respondents expressed concerns that the drafting of section 151(3) of the Taxations (International and Other Provisions) Act 2010 (TIOPA 2010), which assumes that consideration would be for a ‘sum of money’, is too broad. They suggested it would displace commercial royalty-free licences, or require a lump sum to be paid instead of royalties.

HMRC will clarify through guidance that this section applies in situations where the consideration is non-monetary, rather than in situations where there is no consideration. The form of payment that would have been used at arm’s length will be respected.

Guarantees and compensating adjustments

Respondents welcomed the alignment of UK transfer pricing rules relating to financial guarantees with chapter 10 of the OECD transfer pricing guidelines.

Responses requested further guidance on how, in practical terms, the new rules would operate, specifically emphasising the need to set out how the compensating adjustment, elective guarantee, and UK-UK exemption rules will interact. HMRC will provide guidance in each of these areas.

Several respondents noted that the current drafting of the section 153B election lacks flexibility for taxpayers and could leave them unable to make elections to secure interest deductions if circumstances change in future periods. The government has addressed this concern by amending the legislation to provide additional time for customers to make a section 153B election.

Responses were varied in respect of the commencement provisions and transitional arrangements. Some respondents requested grandfathering of current arrangements, whereas others requested that the proposed reforms have instantaneous effect.

Given the diverging stakeholder views, the government believes having a longstop date 2 years after the introduction of the new rules strikes an appropriate balance. To provide flexibility, the government has introduced an election mechanism where taxpayers can make an election in their tax return to treat their existing loan provisions under the new rules during the transitional period. This allows entities to align to OECD principles quickly, while having adequate time to reprice their existing debt.

Acting together

Many respondents requested that the government clarify certain terms and points of uncertainty, including the definition of ‘acting together’. HMRC will publish guidance on these points. 

Several respondents welcomed the clarification of the acting together provisions. Some noted that the draft legislation appears to bring non- financial transactions into scope. Legislative amendments have been made to address this as there was no intention to expand the scope of acting together to non-financial transactions.

After the consultation closed HMRC noted that certain consequential amendments are required to Part 5 TIOPA 2010 and section 163 TIOPA 2010 as a result of the changes discussed above.

Loan Relationships and Derivative Contracts

Respondents were broadly content with the proposed changes to bring foreign exchange gains and losses into the scope of Part 4 TIOPA 2010. Some respondents suggested that exchange movements should not be part of the tax advantage test at section 155 TIOPA 2010. However, the government considers that exchange movements should be taken into account in determining the amount of the person’s profits or losses as part of the tax advantage test.

Exchange gains and losses – introduction of section 173A

Respondents generally welcomed the proposed section 173A and understood the extension of the existing matching rules to cover additional scenarios involving foreign exchange hedging.

Some respondents suggested simplifying the terminology and framing of the section. The government has amended the draft legislation accordingly.

Some respondents suggested that regulation 7 of the Disregard Regulations (Statutory Instrument 2004, 3256) could be included in the scope of section 173A as this regulation applies to currency contracts where there is a hedging intention. The government agrees with this suggestion and will be including regulation 7 in this provision.

Some respondents queried whether certain lending situations that are not loan relationships within Part 5 Corporation Tax Act 2009 would nevertheless be within the scope of section 173A. Those situations include relevant non-lending relationships (chapter 2, part 6), repo and quasi-repo transactions (chapter 10, part 6) and structured finance arrangements (chapter 2, part 16, Corporation Tax Act 2010). The government agrees that these arrangements should fall within s173A and will ensure that the drafting of the legislation achieves this aim.

Amendments to section 446 and section 693 (relaxation of the one-way street)

Respondents welcomed the relaxation of the one-way street. However, they requested additional guidance on differentiating a new provision from an existing provision, on the meaning of ‘corresponds’, and on determination of ‘corresponding arm’s length profits’. HMRC will provide additional guidance in each of these areas.

Respondents also requested that HMRC make section 446 and section 693 subject to a claim due to concerns that the new rules require consideration of all intragroup loan relationships, which may be disproportionate where section 446 and section 693 will have an immaterial tax impact. The government recognises this concern and will make section 446(8) and (11), and section 693(6) and (9), a claim that taxpayers can make, subject to conditions of the respective sections being met.

The legislation has been amended to clarify that a claim under either section may not be made if the other affected person, for any period where they were required to do so, has not filed on an arm’s length basis.

Permanent establishment

This section relates to section 3 of the consultation (permanent establishment) and highlights the key themes raised in the responses and the government’s response to them.

OECD alignment

Respondents were broadly supportive of the intention to align UK domestic legislation on PEs with the OECD Model Tax Convention and Commentary.

Some respondents were keen that HMRC provide further guidance on new terms, such as ‘almost exclusively’ and ‘plays the principal role’. Some respondents queried whether defining ‘closely related’ in section 1142 Corporation Tax Act 2010 is inconsistent with using the OECD Commentary as an interpretive aid. This was on the basis that the OECD Commentary provides its own guidance on the interpretation of ‘control’.

The government recognises that the updated legislation introduces new terms. These terms are discussed in the OECD Commentary, which the legislation specifically references as an interpretive aid. However, some respondents believe that additional guidance needs to be provided on the new terms. HMRC will publish updated guidance on the new and amended legislation which in particular will cover the issues raised in the consultation.

With regard to the questions on how control is interpreted, the government believes that the legislative definition is entirely consistent with the OECD Commentary. This will also be explained in further detail in the updated guidance produced by HMRC.

Respondents generally supported the clarity provided by specifically pointing to the Authorised OECD Approach when attributing profits to a PE. Some asked why the legislation does not directly replicate the OECD Model (‘profits the establishment would have made’ rather than ‘profits the establishment might be expected to make’).

The government has amended the draft legislation so that it directly replicates the wording of the OECD Model Tax Convention.

The Investment Manager Exemption (IME)

Respondents raised a number of issues in relation to the changes being made to the Investment Manager Exemption. In particular:

• while there was support for a less proscriptive approach, it was noted that the new definition of ‘investment fund’ would mean excluding some situations currently covered by the exemption
• some respondents suggested that the rules should be extended to also apply to ‘investment advisors’ as well as ‘investment managers’

The government agrees that the draft legislation unintentionally restricted exemption access for some types of funds and has corrected that in the final legislation. Similarly, the government agrees that the rules should also apply to investment advisors as well as investment managers and the final legislation reflects that change.

Income Tax

Respondents supported the clarification that where a non-resident is not taxable as a result of sections 1142 to 1144 Corporation Tax Act 2010 there is no charge to Income Tax. Some asked whether this exemption could instead be broadened so that non-residents are always exempt from Income Tax.

The government notes the suggestions that non-resident companies should be exempted from Income Tax in a broader set of circumstances. However, such a question goes beyond the remit of this reform of the UK’s permanent establishment legislation.

Statement of Practice 1 (2001)

Respondents were generally satisfied with the proposed updates to Statement of Practice 01/01. Some particular issues were raised where further clarity was sought:

• how the independence test is assessed in complex fund structures, particularly where the fund is a transparent entity
• how the Investment Manager Exemption applies in relation to carried interest
• how asset attribution works in relation to Capital Gains Tax

Updates will also be required to reflect changes made to the legislation in response to consultation feedback.

The government welcomes the feedback on the Statement of Practice. HMRC will publish an updated version of the Statement of Practice before the revised legislation enters into force. This update will cover all of the issues that were raised as part of the consultation.

Diverted Profits Tax

Section 4 of the consultation invited comments on specific features of the Unassessed Transfer Pricing Profits (UTPP) rules, as well as general views on the operation of the legislation.

General approach

Most respondents welcomed the withdrawal of Diverted Profits Tax as a separate tax and the introduction of UTPP. Many were pleased that UTTP will be within scope of the UK’s tax treaty network. This improves consistency with the transfer pricing rules and certainty for businesses.

Respondents were keen that UTPP remains a targeted anti-avoidance regime, differentiated from standard transfer pricing rules. Some respondents were concerned about the potential for HMRC to revisit arrangements found not to be in scope of Diverted Profits Tax.

The government confirms that the intention is for UTPP to retain the scope of Diverted Profits Tax and apply to similar arrangements in an equivalent way. The Effective Tax Mismatch Outcome (ETMO) and Tax Design Condition (TDC) are important in achieving this. The Designated Officer role is also an important safeguard, ensuring appropriate oversight of the application of UTPP to each case.

A couple of respondents highlighted HMRC’s Profit Diversion Compliance Facility (PDCF) as a useful tool for businesses and requested that it continue. The government recognises the benefits of the PDCF and intends to update the existing guidance following the introduction of UTPP.

Taxpayers subject to UTPP can benefit from the UK’s treaty network including access to the Mutual Agreement Procedure (MAP) to resolve double taxation. This was welcomed, but some respondents questioned how it would work in practice.

The government confirms that businesses subject to UTPP will be able to make a Mutual Agreement Procedure claim in the usual way under section 124 TIOPA 2010. HMRC will clarify this in guidance.

Clarity of drafting

The simplified mechanics of the draft legislation were well received. Some respondents provided specific feedback, which has been considered in drafting the final legislation. In particular, respondents identified potential issues with the application of the draft legislation to partnerships and Lloyds syndicates and arrangements designed to create or increase losses.

The Effective Tax Mismatch Outcome

Respondents welcomed the revision of the Effective Tax Mismatch Outcome to refer to the unassessed transfer pricing profits, rather than inflated expenses or reduced income, as a simplification. The Effective Tax Mismatch Outcome now looks at the actual tax liability of the second party. This is compared to the tax liability for the first party if the unassessed transfer pricing profits had been included in that company’s Self Assessment. This reduces the requirement for hypothecation.

Some respondents suggested the government reinstate exemptions for mismatches arising from payments to pension schemes, charities, non-taxable sovereign bodies and certain offshore or authorised funds.

The government has carefully considered whether there could be instances where the withdrawal of these exemptions has unintended consequences. However, these types of payments are felt to be highly unlikely to create unassessed transfer pricing profits or meet the Tax Design Condition. Therefore, the benefits of the exemptions are unclear.

Partnerships

One respondent suggested that representations should explicitly be permitted as to whether an entity is transparent.

The government considers that such representations can be provided under the existing legislation. This may be evidence against the presumption of an Effective Tax Mismatch Outcome for the period. The government has also amended s217G (4) TIOPA10. Now, if a preliminary notice has been issued on the basis that the other party is transparent, the 60-day representations period will always be honoured.

The Tax Design Condition

Most respondents welcomed the Tax Design Condition as a significant simplification of Diverted Profits Tax’s Insufficient Economic Substance Condition (IESC). However, respondents also raised concerns that the scope of the Tax Design Condition in the draft legislation is wider than the IESC.

Respondents considered the phrase ‘designed to have the effect of reducing, eliminating or delaying the liability of any person to pay any tax’ too broad. They were concerned that it would capture routine tax planning.

The government intends the Tax Design Condition to maintain the IESC’s scope and apply in the same way to the same type of arrangements. This phrase must be considered in the context of the whole of the Tax Design Condition. It requires that the provision or arrangements creating the unassessed transfer pricing profits, must have been designed to reduce, eliminate or delay the tax liability. Therefore, unassessed transfer pricing profits can only arise if the transfer pricing rules have not been applied correctly. There must also be a connection between those profits and the tax design.

Respondents considered that the ‘reasonable to assume’ test is too low a bar and is not well-defined in case law. Some expressed the opinion that the test is subjective because what is considered reasonable may differ between businesses and an HMRC officer. Responses suggested using a ‘main purpose test’ or ‘principal purpose test’ instead.

The government believes that the ‘reasonable to assume’ test is more objective than the alternatives. It worked well in the IESC. Applied in combination with the other Diverted Profits Tax tests it led to the outcomes envisioned under those rules. In particular, the test allows HMRC to draw reasonable conclusions based on the information provided, encouraging businesses to engage.

Respondents suggested that the requirement to consider ‘any tax’ liability meant that the Tax Design Condition could be met where there is no UK tax motive. This does not fit with UTPP’s aim of discouraging arrangements designed to erode the UK tax base. The government recognises that the Tax Design Condition should clearly articulate the behaviour that UTPP aims to target and limit unnecessary administration for businesses. Therefore the Tax Design Condition has been amended so that it only applies to designs which aim to erode the UK tax base.

Some respondents suggested that the word ‘designed’ is not well-understood. They noted that the word ‘contrived’ does not appear in the legislation, despite reference in the explanatory notes. Responses suggested substituting ‘designed’ with ‘contrived.’ 

The government has considered the point and concluded that ‘designed’ is the appropriate term. A design is a deliberate plan, by a designer, to achieve a particular effect, whereas contrived implies an element of artifice or sham. The government considers that the word ‘contrived’ would set the bar too high. It could also incentivise some businesses to introduce a nominal commercial element, or elements into a tax avoidance arrangement to circumvent the legislation.

A few respondents suggested reintroducing the requirement to compare the overall financial benefit of the tax reduction with the total non-tax benefits. 

The government considers that this comparison is inherent in the existing wording of the legislation and therefore does not require separate specification in statute.

A few respondents suggested that the Tax Design Condition should retain the IESC’s specification that the transaction should be designed to secure the ETMO. 

The government considers that an explicit link between the material provision, tax design and inflated expense or reduction in income was needed in Diverted Profits Tax. This was due to the requirement for hypothecation in the Diverted Profits Tax legislation. The UTPP legislation looks at the unassessed transfer pricing profits throughout. The government has considered whether a more explicit link between the Tax Design Condition and the unassessed transfer pricing profits would be useful. However, the conclusion was that the current link is sufficiently clear.

3. Next steps

The government will include primary legislation relating to these reforms in Finance Bill 2025 to 2026. In general, these changes will take effect for chargeable periods beginning on or after 1 January 2026. Transitional rules will apply to certain amendments relating to financial transactions. New legislation will be supported by guidance in HMRC’s International Manual.

Annex A: List of stakeholders consulted

Sol Investments SEZC

Blick Rothenberg

ADE Consulting LLP

Grant Thornton

KNAV UK

Schulte Roth and Zabel

The Law Society

Fried, Frank, Harris, Shriver and Jacobson (London) LLP

Centrica

Johnston Carmichael

Australian Super

Aviva

Institute of Chartered Accountants in England and Wales (ICAEW)

Investment and Life Assurance Group

British Private Equity and Venture Capital Association (BVCA)

Legal and General

Linklaters

Forvis Mazars LLP

Chartered Institute of Taxation (CIOT)

Saffery LLP

UK Finance

Moore Kingston Smith

S and W Partners Group Limited

FTI Consulting LLP

Travers Smith LLP

Hazlewoods LLP

Sidley Austin LLP

Alternative Investment Management Association (AIMA)

BDO LLP

Slaughter and May

The Association of British Insurers (ABI)

Lloyd’s of London

PricewaterhouseCoopers (PWC)

Skadden, Arps, Slate, Meagher and Flom

Managed Funds Association (MFA)

Freshfields LLP

Simmons and Simmons

Ernst and Young LLP

Frazier and Deeter UK LLP

MHA Baker Tilly International Limited

KPMG

Deloitte LLP

Confederation of British Industry (CBI)