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HMRC internal manual

International Manual

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HM Revenue & Customs
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UK residents with foreign income or gains: double taxation relief: Corresponding adjustments and the alternative method

This paragraph is about the method of giving relief to a UK enterprise where an adjustment has been made to the profits of an associated enterprise in order to bring those profits on to an `arm’s length’ basis (see INTM153100). For example, a UK enterprise sells goods to its foreign associated enterprise for 1,500 on which the associated enterprise makes a profit of 500 when it sells them. A foreign country takes the view that these goods have been purchased by the associated enterprise at an over-value and that the correct `arm’s length’ price should have been 1,200 and the profit 800. It, therefore, increases the taxable profit of the associated enterprise, in accordance with its own domestic law, and as permitted by the associated enterprises Article in the double taxation agreement, by 300. The UK enterprise has brought in 1,500 as a trading receipt and has been taxed on the profit derived from that amount. 300 has therefore been taxed twice, once by the foreign country on the associated enterprise following the `arm’s length’ adjustment and secondly by the UK on the UK enterprise in the computation of its profits.

Most double taxation agreements provide for some measure of relief from the double taxation which follows from adjustments of this kind. One method effectively restores the position to what it would have been had the transactions been at `arm’s length’ in the first place. This is done by making a corresponding adjustment to the profits of the UK enterprise so that in the above example the trading receipts and the profit will be reduced by 300. Article 9(2) of the 2003 UK/United States agreement (DT19938) is an example of a provision which gives relief in this way.

An alternative method treats the adjustment made by the foreign country to the profits of the associated enterprise as income of the UK enterprise having its source in the foreign country. This enables the UK to give the UK enterprise credit for the additional foreign tax paid by the associated enterprise. In the example, the foreign tax on the additional profit of 300 will be allowable against the UK Corporation Tax on the profits from the trading receipt of 1,500. Article 23(5) of the UK/Thailand agreement (DT18722) is an example of an Article in an agreement which secures relief by this method.

The provisions relating to time limits are contained in TIOPA10/S124-S125 S125 (3) provides for cases to be presented within 6 years of the end of the chargeable period or any longer period specified in the particular treaty - so for example, the new UK/US treaty (DT19924) provide for different, and potentially longer, time limits based on the period of 3 years or 6 years respectively from the first notification of the action resulting in taxation not in accordance with the treaty.

Where relief is given by the credit method, TIOPA10/S79 does not apply to give extended time limits for claims. The reason for this is that an adjustment which increases the taxable base gives rise to a new claim for credit relief within Section(19) and is not an adjustment of tax in respect of the previous credit claim.

Transfer pricing adjustments often take a long time to negotiate and settle. Officers should therefore advise UK enterprises or their agents that, as soon as they become aware that a foreign country is negotiating to make adjustments to the profits of the associated enterprise, protective applications should be made. This will avoid UK chargeable periods becoming out of time for adjustment or credit relief when the foreign country has finally made a settlement. Such protective applications must be substantiated by reference to events which have occurred and are not merely speculative.

Approaches relating to corresponding adjustments should be sent to CTISA Business International, 3rd Floor, 100 Parliament Street, London SW1A 2BQ with the file, for the attention of the competent authority who is the person authorised to deal with such matters under the UK’s double taxation agreements.