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HMRC internal manual

Corporate Finance Manual

HM Revenue & Customs
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Deemed loan relationships: alternative finance: investment bond arrangements

What are alternative finance investment bonds?

CTA09/S507 deals with a type of Islamic finance arrangement known as sukuk. Sukuk (a plural noun in Arabic - the singular is sakk) literally means ‘certificates’: it refers to an arrangement under which holders acquire a beneficial interest in assets in proportion to the value of certificates that they hold.

A company wishing to raise finance through sukuk will, typically,

  • issue certificates to investors for cash, and
  • identify assets that are then ring-fenced in some way - normally, but not necessarily, the company will make a declaration that it holds these assets on trust for the certificate holders.

The assets are used to generate income, which is periodically distributed to the certificate holders. These periodic distributions are frequently benchmarked to a rate of interest: the investors may receive quarterly distributions equal to LIBOR plus a margin, calculated on the capital they have subscribed.

At the maturity date of the certificates, the assets are realised, the proceeds are distributed to investors and the trust is dissolved. It is commonplace for the issuing company to enter into arrangements at the outset under which the assets are sold at a pre-determined price, enabling the certificates to be repaid either at par or at a premium. As with conventional bonds, however, variations are possible: the certificates may be redeemed in stages (as with an amortising loan), or they may be convertible into shares.

Most sukuk will be issued by companies (or governments) wishing to raise finance in capital markets, either for specific projects, or as general working capital. The issuing company will therefore frequently want the certificates to be listed on a stock exchange, and rated by credit rating agencies.

CFM44130 gives an example of sukuk arrangements.

The rules apply to ‘debt-like’ sukuk

It will be seen that sukuk have a good deal in common with collective investment schemes (CIS), and have normally been regulated as such. However, an investor in (for example) an authorised unit trust typically has no certainty about what income or capital return, if any, their units will generate, whereas many (but not all) sukuk function economically like conventional debt securities. Subject to normal credit risk, the investor is assured of an interest-like return, and of repayment of their capital at the end.

The legislation covers these ‘debt-like’ sukuk, which are referred to as alternative finance investment bonds. Sukuk where the investor is directly exposed to the performance of the underlying assets or business, and where the risks and rewards are not equivalent to a conventional bond, will not fall within the statutory definition Such sukuk may be treated as unauthorised unit trusts or offshore funds for tax purposes (see SAIM6000 onwards). CTIAA (Financial Products Team) can advise in cases of difficulty.