This part of GOV.UK is being rebuilt – find out what beta means

HMRC internal manual

Corporate Finance Manual

Interest restriction: overview: a short guide

The Corporate Interest Restriction is the UK’s legislation implementing the Organisation for Economic Cooperation and Development best-practice recommendations for limiting base erosion and profit shifting by means of excessive tax deductions for financing costs.

The aim of the rules is to restrict deductions for a group’s net interest and similar financing costs (tax-interest) to an amount which is commensurate with the activities taxed in the UK, taking account how much the group borrows from third parties.

There is a £2 million per annum de minimis limit. This sets a minimum level of net tax-interest expense that may be deducted. It follows that if a group’s net-tax interest expense is less than this amount, no restriction will arise. Beyond this level, deductions will be limited to the group’s net third party interest expense, or a part thereof that is proportionate to their UK-taxable EBITDA.

The rules may restrict groups which borrow in the UK from third parties or intra-group to hold or acquire foreign businesses (which do not form part of the UK tax base), and groups which borrow from their shareholders or other related parties, as in typical private equity structures.

The rules apply mechanically. Most of the information needed is already in tax computations, although certain accounting information may also be needed from the group’s financial statements. There is no avoidance or purpose condition for the rules to apply. They apply after most other tax rules, such as transfer pricing and anti-hybrid rules, but before the loss restriction rules.

The essence of how the rules operate

The rules will operate on a worldwide group basis (based on IFRS consolidation rules) for each period of account of the group’s ultimate parent. This will allow groups to manage any restriction across their UK businesses. Groups can nominate one company to file for the whole group. The default fixed ratio method imposes two main limits on the group’s tax-interest deductions.

The first is by reference to a fixed ratio of 30% of the taxable earnings before tax-interest, depreciation and amortisation (tax-EBITDA) of group companies in the charge to corporation tax. Tax-EBITDA and tax-interest are measured by reference to amounts taken into account in computing corporation tax.

The second is a debt cap, designed to limit the net tax-interest to a measure of the worldwide group’s net external interest and economically similar, expense.

As an alternative, the group ratio method may be applied, under which the net tax-interest deduction is limited by applying the group ratio to tax-EBITDA. The group ratio is in essence the ratio of group-interest to group EBITDA, both measures based on a group’s consolidated accounts. The group ratio method also incorporates a debt cap, based on the measure of the group’s net interest expense that is used as the denominator in the group ratio.

Groups which provide public infrastructure, including rental property, can elect to use a different approach for some or all of their companies. Instead of applying a limit based on a percentage of earnings, the infrastructure rules restrict deductions where the interest is paid to lenders that are related parties or which have recourse to income or assets other than taxable public infrastructure. In this case no de minimis limit applies.

Interest above the limit is restricted and carried forward indefinitely. It can be reactivated if there is sufficient interest allowance in a subsequent period. Unused interest allowance is carried forward for use in a subsequent period for up to five years.