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HMRC internal manual

International Manual

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Controlled Foreign Companies: The CFC Charge Gateway Chapter 3 - Determining which (if any) of Chapters 4 to 8 apply: Does Chapter 4 apply?: Conditions A to D: Example 5

A UK headed group holds intellectual property (IP) in two different companies, one resident in the UK (Company Y) and the other in a zero tax territory (Company Z). Company Y holds patents and related IP for products manufactured and marketed by the group around the world. Company Z holds software which is used by one of the group’s businesses across Latin America and which is also licensed to third parties in Spanish and Portuguese speaking countries.

Company X, the UK parent of Companies Y and Z decides to acquire a manufacturing business. All the work in relation to this is done in the UK by Company X, which also makes the decisions on where in the group the newly acquired IP should be held and, within an outline business plan, sets out in general terms how its value might best be exploited.

Ownership of the newly acquired software is transferred to Company Z as part of the acquisition process, and a number of patents are transferred to Company Y in the UK. Company Z needs to recruit some new staff locally to handle the increased work and its acquisition of the software is funded by additional equity from Company X.

The acquisition managed by Company X is of a manufacturing business, not unlike that for which Company Y already holds patents, know how, etc. and quite different from Company Z’s other business. Only a small part of the value of the acquired IP is in software. Nevertheless the decision is to put all the IP into Company Z in the low tax jurisdiction, despite the fact that the group’s experience with this IP and its decision making ability in relation to it resides primarily with Company Y in the UK. There is a considerable tax saving anticipated from this arrangement and contemporary evidence shows that tax was an important consideration.

Conditions B and C are not met for the same reasons as in INTM197390 and because the ongoing work to exploit the newly acquired IP is undertaken primarily in the UK. Company Z has little real involvement with this line of business. As for Condition A, TIOPA10/S371CA (3) and (4)(a) apply as in example 4. However in these circumstances subsection (4)(b) also applies as it is reasonable to suppose that the arrangement under which Company Z holds the new assets and bears the associated risks would not have been made if it were not for the expected tax saving for the group. Company Z’s assumed total profits do not consist only of the types of profit specified in Condition D, so none of the TIOPA10/S371CA conditions are met and Chapter 4 must be considered.