IFM37750 - Accruals basis elections: creation of a loss

Introduction

TCGA92/S103KFD

In order to make an accruals basis election in respect of an investment scheme under TCGA92/S103KFA, an individual must have received a sum of carried interest from the scheme or reasonably expect that they will receive a sum of carried interest from the scheme. This is discussed at IFM37720.

On some occasions, the investment scheme will reach the end of its lifecycle with no further profits or income expected to arise, and the individual will have received less carried interest than the aggregate amount of chargeable gains deemed to arise under TCGA92/S103KFA. This may be the case where an investment held by the scheme has been disposed of for a consideration that was less than its acquisition cost.

Once a chargeable gain has been recognised and taxed under TCGA92/S103KFA, then this cannot be reversed and the tax cannot be refunded. Likewise, once an election to be taxed on the accruals basis has been made then it cannot be revoked. However, in some circumstances a loss will be deemed to accrue under TCGA92/S103KFD.

Once a loss has accrued to an individual under TCGA92/S103KFD then the election under TCGA92/S103KFA will cease to have effect for any subsequent tax years in respect of that particular scheme.

If, after a loss has accrued under TCGA92/S103KFD, carried interest arises in a subsequent tax year to the individual from the scheme, then the individual cannot make a double taxation adjustment claim under TCGA92/S103KFC in respect of that carried interest (because no corresponding tax charge under TCGA92/S103KFA will have arisen).

Loss Calculation

TCGA92/S103KFD

An individual who has made a valid election and accrued a chargeable gain under TCGA92/S103KFA will accrue a loss under TCGA92/S103KFD where the following conditions are met:

  • All or substantially all of the investments in the relevant scheme have been disposed of
  • The amount of carried interest that has actually arisen to the individual from the scheme under TCGA92/S103KA is less than the sum of carried interest which was deemed to arise to the individual under TCGA92/S103KFA
  • No further amount of carried interest can reasonably be expected to arise to the individual from the scheme

The expression ‘substantially all’ is not defined in legislation. In this context, HMRC will generally interpret the expression as meaning all bar one or two investments in the relevant scheme have been disposed of. A degree of flexibility can be applied depending upon the circumstances.

In determining whether a further amount of carried interest can reasonably be expected to arise to the individual from the scheme, HMRC will take a narrow view. It is not sufficient that an investment has performed poorly one year and may recover in the next year; there should be evidence to suggest that the remaining scheme investments are highly unlikely be disposed of or yield income such that profits arise and further carried interest becomes payable.

Once these conditions are met, then the individual will automatically accrue a loss immediately before the end of the tax year.

The loss is calculated as follows:

    1. Determine the aggregate amount of carried interest that actually arose to the individual under TCGA92/S103KA from the relevant investment scheme. It is possible that no carried interest arose from the scheme in which case this amount would be zero.
  • 2.Subtract the aggregate amount of chargeable gains that have been deemed to arise to the individual under TCGA92/S103KFA.

A deemed loss created under this methodology would be treated as a normal capital loss. For guidance on the capital loss rules see CG15800P.

It may be the case that carried interest arises to the individual in the same year in which the conditions of TCGA92/S103KFD(2) are met. In such instances, the calculation of a deemed chargeable gain under TCGA92/S103KFA should be performed as usual in the relevant tax year. The loss should then be calculated, factoring in any carried interest arising in that tax year and any deemed chargeable gain which accrues under TCGA92/S103KFA in that tax year.