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HMRC internal manual

Corporate Finance Manual

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HM Revenue & Customs
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Old rules: convertibles pre 2005: return on the security: type of security

Type of security

This guidance applies to periods of account beginning before 1 January 2005

Relevant discounted securities, and excluded indexed securities, were both defined in FA96/SCH13 (now, in relation to accounting periods ending after 5 April 2005, ITTOIA05/S430). FA96/S92(1)(d) excluded both from FA96/S92.

Relevant discounted security

Broadly speaking, a security is a relevant discounted security (RDS) if

  • the issue price, or the price paid on issue is less than the amount to be paid out on redemption, and
  • the difference is sufficient to be a ‘deep gain’.

Type of security: example

LB Ltd issued a security for £10,000 with a face value of £15,000 to KD Ltd. The terms showed that

  • at the end of Year 1, the holder could choose to exchange the security for shares in TG Ltd
  • the shares would be issued on a 1 for 1 basis, that is, £1 nominal loan stock would be converted into £1 nominal of shares in TG Ltd
  • alternatively, the holder could choose to redeem the security for £15,000 at the end of Year 1.

The security is a relevant discounted security as the amount payable on redemption, £15,000, when compared with the issue price, £10,000, constitutes a deep gain.

Even though the security is a convertible security, it was prevented from getting chargeable gains treatment because it was also an RDS. The reward for lending money was the increased amount payable on redemption. This was an income reward and was taxed accordingly

Excluded indexed securities

Excluded indexed securities are securities where the amount payable on redemption is linked to the value of chargeable assets. The full definition is at ITTOIA05/s433 in relation to accounting periods ending after 5 April 2005, and was previously at FA96/SCH13/PARA13. You can find more guidance in the Savings and Investment Manual at SAIM3050. Although an excluded indexed security could not have been within FA96/S92, it may have been treated as an asset-linked security within FA96/S93. It could therefore have fallen within the capital gains provisions by the workings of that section.