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HMRC internal manual

Corporate Finance Manual

HM Revenue & Customs
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Derivative contracts: hedging: regulation 10

This guidance applies to periods of account starting on or after 1 January 2015 where the company has elected for regulation 7 or 8 to apply. 

Bringing excluded profits and losses into account

The exclusion of fair value profits and losses under regulations 7 or 8 is designed primarily to reduce the asymmetry in tax treatment between the derivative contract and the hedged item. Once the hedged item is recognised for tax purposes, then it is appropriate to also recognise the deferred gains and losses on the hedge. This includes any transitional adjustments (CFM57130).

Regulation 10 contains two main provisions governing when the deferred gains or losses are brought back into account.

Contract hedges expenditure that is allowed for tax purposes

Regulation 10(3) applies where the hedged item is a forecast transaction of, or a firm commitment to, a purchase of an asset, and the money expended by the company

  • falls to be taken into account in computing the profits of a trade or property business carried on by the company (for example, a purchase of trading stock, or of services used in a trade), or
  • would fall to be deducted were it not for specific prohibition of deductions for depreciation (for example, a purchase of machinery to be used in the trade).

Where either of these conditions are met, the aggregate of the credits and debits representing the fair value changes is brought back into account when the expenditure falls, or would fall, to be deducted.

Thus if the contract is hedging a purchase of trading stock, the expenditure will be tax-deductible when the stock is sold. Where the purchase is of a fixed asset, which is depreciated or amortised in the accounts, the deferred amount is brought into account proportionately to the depreciation that is allowed in the accounts. Regulation 10(3A) sets out a formula for doing this - see CFM57230.

All other cases

In all other cases, the rule is that the aggregate of the credits and debits that have been disregarded is brought back into account when a ‘termination event’ occurs. A ‘termination event’ is defined in regulation 10(2) as the earlier of

  • the hedged item beginning to affect the company’s profit and loss account, and
  • the company ceasing to be a party to the contract.

The example at CFM57100 illustrates how amounts are brought back into account under regulation 10. CFM57220 gives further examples.

The rules above are subject to some qualifications and exceptions - see CFM57250+.