Deemed loan relationships: manufactured interest
Manufactured interest treated as interest on a loan relationship
Where a company pays or receives manufactured interest (either on UK or overseas securities), CTA09/S540 applies to
- treat the company as being a party to a loan relationship
- treat the manufactured interest as interest under a loan relationship (and, in the case of the recipient, as though it were under the loan relationship under which the real interest is payable)
Provisions such as CTA10/S812 deem manufactured payments to be made in certain circumstances. Where the deemed payment constitutes interest, it is also brought within the loan relationships provisions by virtue of CTA09/S541(1). However, this does not override the rule in CTA10/S812 disallowing a deduction for deemed manufactured payments. The equivalent rule for income tax purposes is now in ITA07/S596.
LY Ltd borrows loan stock from TW Ltd for 2 months to enable it to settle a short sale. During that period interest of £500 arises on the security. LY Ltd does not receive the real interest because it does not hold the security, but still has to pay manufactured interest of £500 to TW Ltd as compensation for the fact that TW Ltd did not receive the real interest.
If LY Ltd debits the manufactured interest payment of £500 to its profit and loss account in accordance with GAAP, it will be a loan relationship debit. For TW Ltd, the manufactured interest receipt is treated as though it were the real interest on the loan stock that it has lent to LY Ltd.