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HMRC internal manual

International Manual

Foreign Permanent Establishments of UK Companies: anti-diversion rule: Diverted Profits Gateway Approach: Example 2.

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

Example 2.

UK Parent Company is a UK resident company with a PE in France, a French subsidiary and a German subsidiary.

Use this link to view diagram showing flowchart of Example 2

Trade profits of €100m are attributed to the French PE under the UK-France double taxation agreement. Non-trading finance profits arising on a €40m loan to French Co and a €600m loan to German Co are also claimed to be attributable to the French PE under the terms of the double taxation agreement.

The €40m loan was made by French PE using cash held for the purposes of its trade. The €600m loan was previously held by UK Parent Company and was funded by external borrowing taken out in the UK. Both loans have an interest rate of 5%.

UK Parent Company makes an election under CTA09/Part 2/CH3A/S18A to exempt the relevant profits amount of French PE from UK CT.

Based on the assumption in S18A(6) the relevant profits amount is calculated as follows:-

  Trade profits €100m
  Interest (loan to French Co) €    2m
  Interest (loan to German Co) €  30m
  Total €132m


However, S18A is subject to the remaining provisions of Chapter 3A.


S18CB(1) excludes from the relevant profits amount profits of any part of the company’s business which consists of the making of investments. This is subject to S18CB(2) which allows profits arising from investment business to fall within the relevant profits amount if they arise from assets which are effectively connected with the trade of the PE.

The loan to French Co is funded from cash held for the purposes of the trade of French PE and so this loan is effectively connected with the trade of French PE. Therefore S18CB(2) applies and the non-trading finance profits of €2m arising from the loan to French Co are not excluded by S18CB(1).

The loan to German Co is not effectively connected with the trade of French PE as it is not held for the purposes of the trade. S18CB(1) will apply and the profits of €30m will not form part of the relevant profits amount.

After considering the restriction on investment income under S18CB(1), it is still necessary to consider whether the adjusted relevant profits amount includes any diverted profits. S18G excludes from the adjusted relevant profits amount any diverted profits as defined by S18H. S18H applies a modified version of the UK’s CFC Charge Gateway rules to a foreign PE in order to determine whether any of the profits of the PE are diverted profits.

The modified version of TIOPA10/Part 9A/CH5 will potentially apply to the profits arising on the French loan as these are non-trading finance profits to which modified Chapter 5 would normally apply. However as the profits arise on investment of funds held by French PE for the purposes of its exempt trading activity, the modified version of TIOPA10/Part 9A/CH3 will apply to the profits of French PE as they are incidental to the profits of its trade.

Accordingly none of these profits pass through the Diverted Profit Gateway at CTA09/Part 2/CH3A/S18H(2) and the adjusted relevant profits amount for French PE is €102m.