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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: tax treatment of ‘bond assets’

Taxation of ‘bond assets’

Since alternative finance investment bonds are treated as debt securities for tax purposes, CTA09/S517 ensures that, irrespective of the legal position, any trust created by the arrangements is ignored for Corporation Tax purposes. This is the same principle which applies to an ‘enactment about tax’ by virtue of ITA07/S564S and TCGA92/S151U. It applies for income tax, capital gains, capital allowances and inheritance tax. It also covers management provisions (so that, in particular, an issuing company does not need to complete trust returns). It does not, however, cover stamp duty or stamp duty land tax, which are duties rather than taxes.

‘Bond assets’ are treated as being beneficially held by the bond-issuer, and income or gains arising from them are treated as part of the bond-issuer’s profits or gains. Normal CT rules (including, where applicable, group relief rules) will apply to determine the bond-issuer’s liability. If the bond-issuer also carries on some other trade or business, profits derived from the bond assets are amalgamated with other profits or losses - there is no form of ring-fencing. Where the bond assets consist of, or include, an interest in a partnership, CTA09/PT17 and other relevant provisions will apply, with the bond-issuer being treated as a corporate partner.

If exceptionally an income tax payer was to issue a listed sukuk, normal income and capital gains tax rules will likewise apply to the bond assets held by the issuer.

Similarly, redemption payments or additional payments made by a bond-issuer are not treated as being made in a fiduciary or representative capacity. This ensures, among other things, that a corporate issuer must deduct tax under ITA07/PT15/CH3 from ‘interest’ payments unless the quoted Eurobond exemption, or some other exemption from tax deduction, applies.

Capital allowances

It follows from the above that bond-issuers can claim capital allowances on bond assets: bond-holders cannot. Bond-holders are treated as having no legal or beneficial interest in the bond assets, under CTA09/S517(2). To make the position absolutely certain, CTA09/S517(6) provides specifically that bond-holders are not entitled to relief for capital expenditure in connection with bond assets.

Bond assets which are alternative finance arrangements

It is common for the assets underlying sukuk to themselves be Islamic financial arrangements. This gives rise to a potential problem if those assets are purchase and re-sale arrangements within CTA09/S503 (CFM44050) or diminishing shared ownership arrangements within CTA09/S504 (CFM44070), since both of these sections require the ‘lender’ to be a financial institution in order for the arrangements to be treated as a loan relationship. Generally a sukuk issuer will not be a financial institution. For example, a bank wishing to securitise a portfolio of diminishing shared ownership ‘mortgages’ through sukuk arrangements is likely to set up a bankruptcy-remote vehicle, which is not a wholly-owned subsidiary of the bank, to issue the sukuk.

To overcome this problem, the definition of ‘financial institution’ in CTA09/S502 (CFM44030) includes the issuer of alternative finance investment bonds, but only in relation to bond assets that are S503 and S504 arrangements.

Bond assets may include Islamic financial arrangements that are not within the alternative finance rules. The tax treatment of these should be decided on the facts - for example, a sukuk issuer that is party to a musharaka (partnership) arrangement might fall to be treated for tax purposes as being a partner in a conventional partnership.