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HMRC internal manual

Business Income Manual

Specific deductions: pension schemes: wholly & exclusively: sale of shares in a subsidiary

S199 Finance Act 2004, S75 Pensions Act 1995

When a subsidiary company leaves a group, it is common for a substantial pension deficit to crystallise by virtue of S75 Pensions Act 1995. A payment may be made or guarantee given by the parent company to meet all or part of the liability arising, as part of the terms of the sale of its shareholding in the subsidiary.

Contributions will not be solely for the purposes of the trade if made as part of a bargain involving the transfer of shares (James Snook and Co Ltd v Blasdale [1952] 33TC244 and, by way of contrast, CIR v Patrick Thomson Ltd [1956] 37TC145).

The company must demonstrate that the two events are unconnected, (see BIM38340 for further guidance). This is of particular relevance in the context of group schemes (see BIM46065).

However this is not to suggest that contributions will automatically fail the wholly and exclusively test because the vendor company chooses to make a contribution to address a pension deficit, which resides in a subsidiary which is being sold. What it does mean is that the company must be able to demonstrate that the contribution was made for the purpose of its own trade and not to facilitate the disposal of shares in the subsidiary.

It is important to consider all the representations and evidence in order to establish the vendor’s purpose at the time the decision was taken to meet the liability. This will include the chronology of events and all the documentation relating to the sale. In addition to the sale agreement it will often be helpful to obtain a copy of any approved withdrawal arrangement entered into (see BIM46045).

The paying company will often view the payment as being for the purpose of its reputation in not wishing to dispose of a company which carries a substantial pension deficit. If the liability relates to orphan employees and the subsidiary itself was not in a position to meet the liability from its own resources prior to sale, this viewpoint is usually sustainable and a deduction will be due.

Example 1

Company B decides to sell one of its trading subsidiaries to an unconnected party. The trading subsidiary operated a registered pension scheme for its employees, which was fully funded at the time of sale. Three years after the sale, the former subsidiary ceases trading and it is found that the registered pension scheme is underfunded. Company B has no legal obligations to the registered pension scheme but decides to pay an additional £5 million into the registered pension scheme because it is concerned that it could be damaged by the bad publicity arising from the collapse.

In this case Company B can make a deduction for the payment in computing its trading profits. The contribution is not made as part of the bargain struck upon the earlier disposal of shares in the subsidiary. The facts show that Company B made the contribution for the sole purpose of protecting its reputation.

Example 2

Company A decided to sell one of its trading subsidiaries to an unconnected party. The subsidiary operated a registered pension scheme for its employees, which was underfunded at the time of sale. Although the subsidiary was in a position to meet its £25m liability under S75 in relation to its pension scheme deficit, the former parent believed it could secure an increased sale price for its shares in company B and entered into an approved withdrawal arrangement to meet the £25m from the proceeds of the sale.

At the time the agreement was entered into Company A did not do so wholly and exclusively for the purposes of its trade, but rather with a non-trade purpose of securing sale of its shares in the subsidiary at an enhanced value.

This example is in contrast to BIM46045 example 3. In that example the only purpose in a parent company meeting the liability of a subsidiary being sold was to underpin the morale of its remaining scheme members. In that case the subsidiary itself was not in a financial position to meet its S75 liability. In that case the parent was able to make a deduction as the contribution was wholly and exclusively for the purposes of its trade.