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HMRC internal manual

International Manual

Non-residents trading in the UK: overseas permanent establishments of UK resident companies: the capital attribution approach

The “capital allocation” approach of TIOPA10/S43 and the “thin capitalisation” approach of Chapter 4 of Part 2 CTA09 are the two methodologies authorised by the OECD for attributing capital to PEs in the OECD Report on the Attribution of Profits to Permanent Establishment (“the Report”) to establish an arm’s length result. The 2010 version of the Report can be viewed on the OECD website at:

The capital allocation approach is discussed in the Report, including in the contexts of:

  • General considerations - at Part I Section D-2 (v) (b) (3) (from page 37);
  • Special considerations for PEs of banks - at Part II Section D-1 iii) a) (from page 86) and Annex on BIS Ratio Approaches (page 107);
  • Special considerations for PEs of insurance companies - at Part IV Section C-1 iii) b) (from page 200)

The process of attributing assets to the PE is the same under both the thin capitalisation and capital allocation approach. For banks (see INTM267700) the same principles apply in risk weighting the assets (see INTM267711) under either approach. In practice there may also be little difference between the two approaches in carrying out the capital requirement calculation. Both approaches require a consideration of the capital structure of the company as a whole and this may often be the best starting point for the capital requirement calculation in the thin capitalisation approach (see for example INTM267140 and INTM267769).

However the thin capitalisation approach requires the further step that goes on to consider comparability with capital structures of companies operating in the PE host country. In general terms it is this element of comparability with local companies that distinguishes the two approaches.

The proper application of the capital allocation approach does require consideration of any differences in the business carried on by the PE and that of the company as a whole. This means that the process of allocation should not be seen as a purely mechanical exercise. This is reflected in the requirement at S43(4) that the allocation is “made on a just and equitable basis” and the requirement from S43(2) that the result is consistent with the arm’s length principle.

Introduction of the amended TIOPA10/S43

The amended provisions of TIOPA10/S43 apply from the date of Royal Assent for Finance Act 2011. Generally any reasonable basis for managing the transition will be acceptable, but where companies see any particular problems in relation to accounting periods straddling that date that could materially affect their tax computations they should contact their HMRC Corporation Tax Office to discuss.