Controlled Foreign Companies: Assumed Taxable Total Profits, Assumed Total Profits and the Corporation Tax Assumptions: Example
A and B are CFCs and subsidiaries of UK resident company C. In computing A’s assumed taxable total profits, A is treated as UK resident but B is not so treated, and in computing B’s assumed taxable total profits, B is treated as UK resident and A is not so treated. As stated, C is resident in the UK.
Consequently, the transfer pricing legislation at Part 4 of TIOPA 2010 may apply to increase C’s profits in respect of transactions with A and B. Part 4 may also apply to increase the assumed taxable total profits of A in respect of transactions with either B or C or to increase the assumed taxable total profits of B in respect of transactions with A or C. This is because A or B is assumed to be within the charge to corporation tax and so if the actual provision made between A and either B or C or between B and either A or C differs from the arm’s length provision which would have been made between independent companies and confers a potential UK tax advantage, the profits or losses of A or B, as the case may be, are to be calculated for tax purposes as if the arm’s length provision had been made rather than the actual provision.
However, this is subject to section 179 of TIOPA 2010 which applies the “compensating adjustment” rules at sections 174 to 178 where the transfer pricing rules at section 147 require the profits or losses of A or B to be calculated as if the arm’s length provision has been made or imposed instead of the actual provision. For these purposes, the CFC is the “advantaged person” (i.e. the person whose UK tax has been reduced or whose tax loss has been increased by the actual provision) and the “disadvantaged person” can make a claim for a “compensating adjustment” in relation to the uplift in the CFC’s profits (or decrease in losses) as long as certain conditions in section 179 are met.
Section 179(2) apples if:
- the actual provision is a provision made or imposed in relation to a CFC,
- for the purposes of determining the CFC’s assumed taxable total profits for an accounting period, the transfer pricing rules will apply to that provision,
- in relation to the accounting period, sums are charged on chargeable companies at step 5 in section 371BC(1) of TIOPA 2010, and
- in consequence of the application of the transfer pricing rules, the total of those sums is more than it would otherwise be.
TIOPA10/S179(5) provides that for the purposes of step 5 in section 371BC(1), including whether the application of the transfer pricing rules results in those sums being more than they would otherwise be, it should be assumed that no claims under Chapter 9 (exemption for profits from qualifying loan relationships) of Part 9A for the accounting period have been made. This means that if an interest-free loan is made by CFC A to CFC B and A’s assumed taxable total profits are consequently increased, B will receive a compensating adjustment based on the application of the arm’s length provision even if the application of Chapter 9 to A’s assumed total profits means that only a quarter or none of those profits are actually charged.