Investors in non-reporting funds: exceptions to the charge to tax: interests treated as derivative contracts - Regulation 25(3)
Certain investments in offshore funds are treated as derivative contracts under Part 7 Corporation Tax Act (‘CTA’) 2009 if they are held by a UK investor subject to corporation tax.
Further guidance on when such treatment applies is set out in the Corporate Finance Manual (CFM). In summary, where a company acquires a holding in an offshore fund that is not a direct holding, but a financial instrument based on such a holding and in consequence the company is party to a relevant contract that is not otherwise a derivative contract as defined in the legislation, that holding will be treated as a derivative contract (a ‘relevant contract’ in the terms of CTA).
A ‘relevant contract’ is treated as if it was a derivative contract and any profits or losses thereon are computed on a fair value basis of accounting.
This means that corporate investors will be charged to corporation tax on their proportionate share of any income arising to the fund that is the subject of the contract under the derivative contracts rules and accordingly regulation 25(3) prevents an OIG charge from arising in relation to any periods when those rules apply.
Contract not a ‘relevant contract’ for entire period held
It is possible that a holding in an offshore fund may not be treated as a relevant contract for the entire period that it is held. There are rules in Chapter 3 of Part 6 CTA 2009 that determine what happens on acquiring or disposing of a relevant contract (see the CFM for further details). The effect is to treat any gains on disposal for periods when a holding is not a relevant contract as an offshore income gain, but an OIG will not arise in respect of any gains relating to periods where the derivative contract rules apply.