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HMRC internal manual

Business Income Manual

Private Finance Initiative (PFI): Interest: non-trade: example 1

A private sector operator enters into a PFI contract with a public sector purchaser to lease a fully equipped hospital extension to the purchaser for 25 years. In addition, the operator is to provide non-clinical support services for the existing hospital, and the extension, for the duration of the contract. The support trade commences immediately (see BIM64065). The operator builds the extension on land it acquires for the purpose, the construction costs being financed by a bank loan. In return, the operator receives an annual service payment, the unitary charge.

Accounting period 1

Construction of the hospital extension is completed during the accounting period.

For tax purposes the design and construction costs of the extension are capital expenditure. The hospital extension is a fixed capital asset of the operator’s property business (see BIM64035 onwards). For accounting purposes the example assumes that the extension is reported as a finance debtor on the operator’s balance sheet, under FRS5 Application Note F (see BIM64070 onwards). The construction costs are shown as debited direct to the finance debtor on the balance sheet during the construction period, at a figure of £75m representing cost. Interest on the construction loan, of £5m, is debited to the profit and loss account.

Dr Finance debtor £75m Cr Bank £75m
Dr P&L account (interest) £5m Cr Bank £5m

A unitary payment of £15m is receivable in the first accounting period. The example assumes that £2m of the payment is for the provision of the hospital (property business) and £13m for the provision of support services (trading).

For accounting purposes £12m is credited to the profit and loss account (being notional interest on the finance debtor and operating income) and £3m is credited to the finance debtor.

Dr Bank £15m Cr P&L account £12m
      Cr Finance debtor £3m

For tax purposes we follow the accounting recognition of income in the profit and loss account, subject to any over-riding statutory or case law principle.

The £3m credited to the finance debtor is business income and is included as an addition in the trading income and property income computations (see BIM64125).

The proportion of the finance debtor, against which the £3m credit is matched, represents capital construction costs. No adjustment is required in the tax computations.

The interest debited to the profit and loss account is a non-trading debit, since the loan is for the construction of a property for a property business, and is added back in the tax computations. If there are no other non-trading credits or debits of the period arising from the company’s loan relationships, this creates a non-trading deficit which can, for example, be set off against any profits of the company for the accounting period.

Tax computation   Trading Income Property Income Non-trade deficit
Income (net of interest) £ 7m      
Plus part payment £ 3m      
Non-trade interest £ 5m      
Profit (before overheads) £15m £13m £2m (£5m)