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HMRC internal manual

International Manual

Arbitrage: practical guidance - examples demonstrating the application of the arbitrage legislation: Example 1 Part 3 - inward investment

Example 1 Part 3 - inward investment

Facts: As with part 1, except that UK Hold Co has used the proceeds of the loan solely to buy a new company from an unconnected party. The investment in this new subsidiary is funded by a mixture of debt and equity. The group as a whole always funds new investments without increasing the gearing of the acquiring company and the Board minutes of UK Hold Co show that several options were considered for the form and source of the loan.

Analysis: For UK Hold Co, conditions A and B are satisfied as in part 1. The analysis for condition C is, however different. One of the main purposes of the scheme is to make a third party acquisition, that is to say both the company and the group of which it is a part will be expanding. The scheme also has a main purpose of including a hybrid so that the receipt under the loan by Code A Hold Co is untaxed. Although this is a tax purpose it is not a UK tax purpose and so does not affect condition C. The scheme also has a purpose of using debt as part of the third party acquisition cost and therefore obtaining a UK deduction for the interest. However, in this case, it has been established that:

  • UK Hold Co would have borrowed the same amount on plain vanilla terms (which it could and indeed did consider); and
  • the conditions and terms of the debt UK Hold Co is party to were not increased by the arbitrage.

On the above analysis, it is considered that obtaining a UK deduction is not a main purpose of the scheme and condition C will not be satisfied.