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

HMRC internal manual

International Manual

Foreign Permanent Establishments of UK Companies: anti-diversion rule: Diverted Profits Gateway Approach

This applies for relevant accounting periods beginning on or after 1 January 2013.

Diverted Profits Gateway Approach

The first step is to identify whether there are any “diverted profits” (INTM286310) within the “adjusted relevant profits amount” (INTM286310) of the foreign PE i.e. whether, if the foreign PE was subject to the CFC rules, any of its profits would pass through the CFC Charge Gateway. In order to consider the CFC rules in a foreign PE context, the legislation includes an assumption that the UK company with a foreign PE is a CFC, and that the company’s total profits are the deemed CFC’s assumed total profits (CTA09/S18H(3) assumptions). However in making this assumption, there is no requirement to assume that there is any change in the place or places where the company carries on its activities. The legislation refers to the UK company as Company X, to its relevant accounting period as Period X, and to the territory outside the UK in which the PE is located as Territory X. This approach allows the total profits of the UK company to be considered in the context of the CFC Charge Gateway at Chapters 4, 5, 6, 7 and 9 TIOPA10/Part9A in order to ascertain whether any of those total profits would give rise to a CFC charge. If it is established that none of the total profits of the UK company (Company X) would give rise to a CFC charge, it follows that none of the exempt profits of the foreign PE of the UK company would give rise to a CFC charge either and there are no diverted profits for the purposes of the foreign PE rules. If an amount of Company X’s total profits do contain diverted profits, then CTA09/S18G will apply.

S18G asks whether the adjusted relevant profits amount of the foreign PE includes any diverted profits if it does, then those diverted profits are left out of the adjusted relevant profits amount. The result will be that those diverted profits will not benefit from foreign PE exemption, and will simply stay within the charge to corporation tax.

In identifying whether there are any “diverted profits” (INTM286310) within the “adjusted relevant profits amount” (INTM286310) (the exempt profits amount) of the foreign PE, the Diverted Profits Gateway is used to apply the CFC Charge Gateway in the context of a foreign PE, by considering whether profits would pass through any of the CFC Charge Gateways at Chapters 4,5,6,7 or 9 TIOPA10/Part9A. This approach therefore considers trading profits, non-trading finance profits (including partial exemption for the profits of qualifying loan relationships), trading finance profits and captive insurance profits.

The CFC Charge Gateway is applied to the whole of the total profits of the UK company (not just to the profits of its foreign PE). Any “diverted profits” which are identified by applying the CFC Charge Gateway are left out of the “adjusted relevant profits amount” in other words, they are no longer exempt. Clearly, the profits of a foreign PE do not fall within the CFC regime, which applies to non-UK resident companies controlled from the UK. However, if the CFC rules at Chapters 4, 5, 6 and 7 were not applied to foreign PEs, this would be an obvious loophole in the legislation, because it would allow groups to shelter profits within exempt profits of a foreign PE that, if they were held in a foreign company, would give rise to a CFC charge.