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

HMRC internal manual

International Manual

Non-residents trading in the UK: profits of the PE: The separate entity principle and use of transfer pricing methodology


CTA09/SS21-32 provisions for attribution - companies only

The domestic attribution provisions in CTA09/SS21-32 were originally introduced in S11AA and Sch A1 FA03 and took effect for accounting periods beginning on or after 1 January 2003. These provisions apply to non-resident companies only. These attribution provisions are explicit that the non-resident’s profits chargeable in the UK should be determined under the ‘separate entity principle’ (CTA09/S21). This attributes profits to the PE in the amount that it would have made if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar conditions dealing wholly independently with the non-resident company of which it is a PE. This includes the assumption that the PE would have such equity and loan capital attributed to it as it would reasonably be expected to have if it were a separate entity. See the guidance on PE capital attribution at INTM267120 to INTM267150.

The separate entity principle and use of transfer pricing methodology

The separate entity principle equates to the requirement under UK domestic law to follow the arms length principle in calculating the non-resident company’s chargeable profits and to do this we use transfer pricing principles and methodology. This accords precisely with the attribution requirements laid down in the OECD model treaty article 7 (INTM267160) and so there should be no conflict between treaty and domestic law provisions. Prior to the introduction (for companies only) of the separate entity principle attribution provisions to UK law in FA03, the arms length principle and transfer pricing methodology had always been the means by which the corporate or individual non-resident’s profits chargeable in the UK have been determined whether a treaty applied or not. The rationale for the arms length principle approach was recognised as far back as the attribution case of Pommery and Greno v Apthorpe (2TC182) with the dicta of Denman J being taken as an approximate description of the arms length principle. And more recently, public consultation with taxpayers’ representative bodies at the time when the FA95 ‘machinery provisions’ (INTM268010) were introduced made it clear that this settled principle and practice was uncontroversial. The OECD Report on the Attribution of Profits to PEs published in 2008 confirmed this as the correct approach.

Relevance of HMRC and OECD guidance on transfer pricing

Subject to some important distinctions, transfer pricing within a single entity and transfer pricing between two separate but connected entities is an exercise that uses the same principles and techniques to a significant extent. The important distinctions (see Distinctions in application of transfer pricing principles between permanent establishments and entire entities below) arise from the fact that a permanent establishment / branch or agency and the rest of the entity are simply parts of one single entity.

The OECD model treaty distinguishes the difference between PE attribution and dual entity transfer pricing by including separate provisions for each of these situations as follows:

  • Article 7 - attribution of business profits between the parts of a single entity using the separate entity principle - this accords with the UK domestic attribution legislation at CTA09/S21 et seq.
  • Article 9 - transfer pricing between two separate enterprises using the arms length principle - this accords with the UK domestic transfer pricing legislation in Part 4 of TIOPA (what was ICTA88/SCH28AA).

However, subject to the important distinctions, the existing guidance at INTM460000+ on practical working of transfer pricing cases applies equally to attribution of profits to a permanent establishment / branch or agency. The same (qualified) read-across applies to the relevance of the OECD transfer pricing guidelines. Further guidance on the OECD guidelines and transfer pricing methodologies can be found at INTM463010.

Practical examples of attribution using transfer pricing methodology are at INTM267060 to INTM267090. More detail on the permanent establishment rules for attribution of expenses can be found at INTM267100

Distinctions in application of transfer pricing principles between permanent establishments and entire entities

Although transfer pricing principles and methodology are used in the attribution exercise you should remember that the transfer pricing legislation in TIOPA10/Part 4 does not legally apply. So there are some important distinctions between transfer pricing for a PE and transfer pricing for a separate entity. Examples include:

  1. It is unnecessary to seek a Commissioner’s Approval before HMRC could raise an assessment on the foreign entity including an adjustment of the return made.
  2. Whereas there may be difficulties obtaining information about a foreign connected party’s profits under the domestic information powers; information about the foreign entity’s profits would fall within the scope of domestic information powers where the foreign entity has a UK permanent establishment.
  3. Where the UK PE exists because a dependent agent sells goods for the non-resident in the UK a reward to the UK agent in accordance with the arms length commission rate usually prevailing may not be a sufficient measure of the entire UK chargeable profits. The non-resident may well have made a residual profit above the commission and any other expenses paid away. Those residual profits are chargeable upon the non-resident and the agent’s commission is chargeable upon the agent as profits of his trade.