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HMRC internal manual

Business Income Manual

Private Finance Initiative (PFI): accounting and tax: income and expenditure recognition: example 6

A private sector operator, whose trade is running a school, (including the provision of teaching staff), enters into a PFI contract with a public sector purchaser, to provide a specific number of school places for 30 years. The operator builds a school on land acquired for the purpose. The trade commences when the school is completed and ready to receive its first pupil (see BIM64065). In return the operator receives an annual service payment, the unitary charge, which commences after the trade has started.

Accounting period 1

The school is completed at the end of the first accounting period.

For tax purposes the design and construction costs are capital expenditure. The school is a fixed capital asset of the operator’s trade (see BIM64025 onwards). For accounting purposes the example assumes that SSAP9 ‘Stock and long-term contracts’ principles are adopted during the construction period (see BIM64070 onwards). The construction costs of the school are debited to the work-in-progress account (WIP) and a sale is recognised on completion of the school at the end of the accounting period. For accounting purposes the school is therefore reported as a finance debtor on the operator’s balance sheet, under FRS5 Application Note F, at a figure of £90m representing cost (see BIM64125).

Dr WIP account (construction costs) £90m Cr Bank £90m
Dr P&L account (costs of sale) £90m Cr WIP account £90m
Dr Finance debtor £90m Cr P&L account (sale) £90m

No income is receivable in the first accounting period.

Neither the sale, nor the deduction for WIP, is recognised for tax purposes.

Accounting period 2

In the second accounting period the trade commences and a unitary payment of £15m is receivable.

For tax purposes the £15m is trading income for the provision of a service. For FRS5 accounting purposes, £7m represents a part payment of the finance debtor and £8m represents operating income for the provision of services.

For accounting purposes, a figure representing accrued finance income, i.e. notional interest, on the finance debtor is calculated at £4m and credited to the profit and loss account. The corresponding debit is to the finance debtor.

Dr Finance debtor £4m Cr P&L account (notional interest) £4m

The part payment of £7m is then credited to the finance debtor and the operating income of £8m is credited to the profit and loss account.

Dr Bank £15m Cr P&L account (operating income) £8m
      Cr Finance debtor (part payment) £7m

For tax purposes we follow the accounting recognition of income in the profit and loss account, subject to any relevant over-riding statutory or case law principle. The £8m operating income and the £4m notional interest are the recognition of trading income of the accounting period for tax purposes.

However, £3m of the £7m part payment credited to the finance debtor will never be reflected in a profit and loss account. For tax purposes, the £3m is a trading receipt for the provision of services and is therefore included as an addition in the trading profits computation (see BIM64125).

The proportion of the finance debtor, against which the £3m income is credited, represents capital construction costs. Therefore no matching adjustment is required in the trading profits computation (see BIM64130). Capital allowances can be claimed on qualifying expenditure (see BIM64375).

Trading income computation  
Income (recognised in P&L account) £12m
Plus part payment £ 3m
Profit (before overheads) £15m