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HMRC internal manual

Banking Manual

Bank compensation restriction: unwinding provisions: examples

Example 1

Bank P has a long-running compensation issue. At 31 December 2014 it had a provision of £1bn for remaining compensation. Over the course of 2015 it makes the following adjustments to this provision:

  • 31 March 2015: £200m paid out, no further provision required, £800m carried forward
  • 30 June 2015: £250m paid out, further provision of £100m made, £650m carried forward
  • 30 September 2015: £250m paid out, further provision of £150m made, £550m carried forward
  • 31 December 2015: £350m paid out, further provision of £50m made, £250m carried forward

The provision includes compensation and interest costs but does not include administration costs.

Under the commencement rules, P gets tax relief in 2015 for £100m, but has tax relief denied for £200m.

In Q1 of 2016, Bank P finalises all claims in respect of this issue, and pays out £150m. It therefore reverses the £100m of provision which is no longer needed.

Because £200m of the provision has been denied tax relief, none of the £100m is taxed.

Example 2

Bank Q has a similar long-running compensation issue. At 31 December 2014 it had a provision of £1bn for compensation remaining. Over the course of 2015 it makes the following adjustments to this provision:

  • 31 March 2015: £200m paid out, no further provision required, £800m carried forward
  • 30 June 2015: £250m paid out, further provision of £100m made, £650m carried forward
  • 30 September 2015: £250m paid out, further provision of £150m made, £550m carried forward
  • 31 December 2015: £350m paid out, further provision of £50m made, £250m carried forward

The provision includes compensation and interest costs but does not include administration costs.

Under the commencement rules, Q gets deductions in 2015 for £100m, but has tax relief denied for £200m.

In Q1 of 2016, Bank Q finalises all claims in respect of this issue, without making any further payments. It therefore reverses the £250m provision carried forward at 31 December 2015. This reversal is treated as follows:

  • £200m is non-taxable, reflecting the fact that £200m has been denied tax relief in 2015
  • £50m is taxable income 

In each case, the effective treatment is to adjust the underlying expense.

BKM206350 has a further example explaining how the unwind works wthere the provision includes administration costs.