Equalisation reserves: the tax rules: tax credit relief
Where a UK insurance company operates through a permanent establishment overseas a claim may be made for tax credit relief for foreign tax borne on the profits of the establishment.
Credit relief must not exceed the amount of UK corporation tax that is charged on the doubly-taxed profits. In order to calculate the amount of this limitation a separate calculation of the branch profits must be made, in accordance with UK tax rules. It follows that where equalisation reserves are maintained some method is needed of identifying the proportion of the transfers into or out of the reserve which relate to the profits of each of the company’s foreign branches.
Regulation 10 of the tax Regulations lays down the method of apportionment to be used. Different rules apply according to whether the net transfer for the accounting period is made into or out of the reserve.
The proportion of any transfer into the reserve which is deemed to relate to each foreign branch will be the total transfer in, pro-rated by reference to the proportion of the relevant net written premiums that are attributable to the foreign branch in question. This is expressed in the regulations by
(A x B)/C, where
A = Amount transferred into the reserve.
B = Net premiums of the branch relating to business for which equalisation reserves are maintained.
C = Total net premiums relating to business for which equalisation reserves are maintained.
The proportion of any transfer out will be pro-rated by reference to the proportion of relevant claims in that year which derive from the foreign branch business. This is expressed in the regulations by
(D x E)/F, where
D = (Taxable) amount transferred out of the reserve.
E = Claims attributable to the branch business which have been taken into account in determining whether a transfer out of the equalisation reserves was required.
F = Total claims so taken into account.
Where a company elects to waive tax relief on a transfer into the reserve (GIM7250), the apportionment of the transfer in for tax credit purposes is made before the waiver is taken into account. The company can then choose how the amount on which tax relief has been waived is to be attributed between the UK profits and the various computations of establishment profits.
However, when apportioning transfers out for a period in which part of the transfer is matched with an earlier inward transfer on which tax relief was waived, it is only the amount of the transfer out that is liable to tax that is taken into account as D in the above formula. There is no element of choice available in the way in which previously waived tax relief is allocated. These rules of apportionment also apply to credit equalisation reserves (GIM7120), to ’equivalent’ equalisation reserves (GIM7290), and to reserves which must be recalculated for tax purposes (shadow reserves - see GIM7240).
There is an example of apportionment of profit for double taxation relief purposes at GIM7340.