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HMRC internal manual

Corporate Finance Manual

Debt cap: interaction with other rules: deduction of tax


A disallowance under TIOPA10/PT7 does not change the nature of interest payable to a person. The interest remains chargeable to corporation tax as a non-trading profit (CTA09/S299) or where appropriate as trading income CTA09/PT3, for example in the hands of a bank. For an income tax payer, it remains chargeable under ITTOIA05/S369.

A UK company must, under ITA07/S874, deduct income tax from yearly interest paid provided the interest arises in the UK (i.e. has a UK source). It does not matter that the interest is paid to someone resident in the UK or someone resident overseas - the interest is still subject to deduction of tax (but see below regarding double taxation agreements).

There are specific exemptions from deduction of tax, for example where the interest is to another UK company. The application of these exemptions mean that in the main, income tax is deducted where the interest is paid to an individual, a partnership (unless all the partners are UK companies) or a non-resident person.

Where there is a statutory duty to deduct tax under ITA07/S874, that duty is not affected by anything in the debt cap rules. Even if a group allocates a disallowance to a financing expense amount which consists of interest payable under deduction of tax, the company concerned must still deduct tax when the interest is paid and account for that tax under the CT61Z procedure. In this respect, the worldwide debt cap operates in the same way as loan relationships provisions that may give rise to a permanent disallowance of interest, such as the ‘unallowable purposes’ rule (CTA09/S441).

The same applies to any other statutory provision which requires deduction of tax at source, such as the requirement for deposit-takers and building societies to deduct tax from relevant interest paid on relevant deposits - although groups headed by or including such entities are likely to be qualifying financial services groups that are exempt from the debt cap (CFM90800).

An overseas recipient of interest may claim under a Double Taxation Agreement for exemption from UK tax or for a reduced rate of UK tax. Here again, nothing in the worldwide debt cap rules changes the characterisation of interest (or any other form of income) for treaty purposes, or affects any claim under a treaty.