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HMRC internal manual

Corporate Finance Manual

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HM Revenue & Customs
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Loan relationships: computational rules: credits not brought into account: releases of debt: debt/equity swaps: ‘in consideration of shares’

Release of debt must be in consideration for shares

It is not enough for a release of debt merely to be accompanied by an issue of shares in order to come within the exemption in CTA09/S322(4). Whether or not a debt has been released ‘in consideration of shares’ will depend on whether on a realistic view of the transaction, CTA09/S322(4), construed purposively, can be said to apply to it.

In the majority of cases, there will be no doubt that a debt/equity swap that forms part of a commercial debt restructuring, undertaken as an arm’s length transaction, will fall within the exemption in CTA09/S322(4).

There is no requirement for the shares issued by the debtor company to be held for any particular length of time. Indeed, regulatory capital requirements may lead a bank to sell on the shares received as part of a debt/equity swap.

Commonly any on-sale of the shares will be to an unconnected third party. On the other hand there may, for example, be arrangements (contractual or other) in place for the lender to divest itself immediately of the shares to a company connected with the borrower for nominal consideration. If so, the consideration the lender receives may be the cash it gets, not the shares; the release of the debt may be entirely gratuitous and a realistic view of the transaction may be that the shares are issued merely to obtain a tax advantage for the debtor company.

See the examples in CFM33203.

Other features in debt restructurings

Debt restructurings will often have a number of complex features, for example:

  • the debt may transferred, by novation or otherwise, to other companies in the same group;
  • the debt may be split into tranches and the seniority changed;
  • there may be arrangements to allow one party to exit a joint venture, or for one party in such a venture to become the controlling shareholder of the debtor company or its group;
  • a newco may be set up to hold the shares issued in exchange for debt;
  • the shares issued in exchange for the debt may have different rights to other shares issued by the debtor company;
  • derivative contracts hedging the debt may be closed out;
  • the release may include part of the debt, and accrued interest on the debt;
  • interest may be released that has been disallowed under the late interest provisions or transfer pricing rules (see CFM35810 where debits have been disallowed under the late paid interest provisions. Similar reasoning applies to interest previously disallowed under the transfer pricing rules);
  • where the shares are sold on to a third party, this may be on deferred terms so that the lender benefits from a future increase in their value.

The existence of such features will not in themselves cast doubt on the availability of the exemption, and there is no need for a submission or clearance application simply because such features are present in the transaction.