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HMRC internal manual

Business Income Manual

Films and sound recordings: old regime for films: avoidance: individual exit schemes: capital contribution to the trade

S801 Income Tax Act 2007

An exit event occurs when an individual’s capital contribution to the trade becomes less than the sideways loss relief and relief against chargeable gains claimed by the individual, or when the excess of loss relief claimed over the capital contribution increases (see BIM56525). Putting it more simply, this is just saying that the individual has claimed more loss relief than he has actually lost - and thereby has an unfair tax advantage.

An individual’s capital contribution to the trade is defined as the amount that the individual has contributed to the trade as capital, less any amount:

  • he has directly or indirectly drawn out or received back;
  • he is entitled so to draw out or receive back;
  • he has had directly or indirectly reimbursed to him by any person;
  • he is entitled to require any person so to reimburse to him.

For a member of a limited liability partnership the amount contributed to the trade as capital is read as the amount of capital he subscribes to the limited liability partnership.

Drawing out and receiving back refer to obtaining amounts back from the trade or partnership (drawing out is active, the individual himself draws out; receiving back is passive, the individual receives capital back).

Reimbursement by any person can include reimbursement by the partnership of which a partner is a member, or from another partner. For the avoidance of doubt the legislation also makes it clear that reimbursement includes reimbursement effected by discharging or assuming all or part of a liability of the individual. This puts it beyond doubt that reimbursement includes someone else meeting an individual’s liability under a loan taken out to invest capital in the trade - film tax deferral schemes normally include such a loan (see BIM56505).

Some partnership schemes were devised where the partner’s capital contribution was artificially inflated with amounts for which the partner was not personally at risk; for example, where the loan was limited liability or not repayable by the partner. To counter such schemes there are further restrictions on the amounts which can be treated as a partner’s capital contribution to the trade, which are described at BIM56545.

In a film sale and lease back scheme, accountancy practice is normally to treat the finance lease rentals as equivalent to payments of interest and repayments of capital on a loan. Therefore, when these amounts are withdrawn by the partners, this is likely to be shown as withdrawals of a partner’s capital contribution. However, for tax purposes these amounts are fully taxable as income. To prevent unfair application of these rules, the legislation makes it clear that any amount which is chargeable to Income Tax on the individual as profits of the trade should not be treated as a sum drawn out or received back by the individual.

Interaction with non-taxable consideration

It is possible that some amounts received by individuals, including liabilities reassigned (for example, an investor’s loan), could be regarded either as consideration received (see BIM56525) for a disposal of rights to profits from the trade, or as a reimbursement of a capital contribution. Indeed, by defining an exit event in terms of consideration received and in relation to the capital contribution, the legislation was designed to ensure that any exit would be caught under one or other of these.

To prevent a double charge, any amount of non-taxable consideration which is included in computing the chargeable amount cannot also be included in calculating a reduction in an individual’s capital contribution to the trade.