UK and International Tax news
Accounting For Interest Strips And Tax
Thursday 13th September 2012
The First Tier Tribunal has recently heard the case of Greene King plc V HMRC [TC02069] in which the accounting treatment of interest strips was considered and whether receipts of stripped interest were taxable within the loan relationships rules.
Greene King plc [PLC] lent £300m to one of its subsidiaries Greene King BR [GKBR]. Subsequently PLC assigned the right to receive the accrued but unpaid interest on ther loan to another subsidiary, Greene King Acquisitions [GKA], retaining the principal. GKA issued preference shares as consideration for the interest strip, which carried the right to a spercial dividend.
GKBR continued to account for interest on the loan on an accruals basis and claimed tax deductions for the interest. PLC continued to account for the full amount of the loan but no longer accrued any interest on the loan. GKA accounted for the interest strip acquired as a receivable ‘funded ‘ by the issue of preference shares. As each amount of interest was received, it was accounted for as a revenue item in the profit and loss account followed by a transfer to a share premium account. Only the difference [£800k] between the total amount of interest [£21.3m] and the net present value of the interest strip [£20.5m] remained in the profit and loss account at the end.
Overall, Greene King hoped to continue to claim a tax deduction for the interest paid by GKBR and exclude the interest interest received by GKA from taxable income.
HMRC argued that the accounting treatment of the interest strip by PLC was not UK GAAP compliant and that the difference between the value of the loan after the interest strip and the nominal value of the loan should be credited to profit and loss over the remaining period of the loan and this difference was taxable.
The FTT dismissed Greene King’s appeal and held:
(a) PLC should not account for the value of the preference shares received as consideration for the interest strip as a taxable profit, which was the parties’ agreed position.
(b) PLC was required by UK GAAP to de-recognise the loan principal, to the extent necessary to reflect its current value at the date of the assignment, and to bring a sum equivalent to the difference between the amount so determined and its face value into profit over the remaining period before redemption and this was taxable. The amount by which the principal should have been de-recognised was not an impairment for tax purposes and therefore not deductible.
(c) It did not need to decide whether GKA had a loan relationship with GKBR, because the payments received by GKA did not arise from such a relationship and were taxable under normal principles.
(d) There was no requirement under s.130 CA85 for GKA to transfer the premium received on the issue of the preference shares to its share premium account, and therefore the transfer of interest receipts to the share premium account was not needed.
It is expected that Greene King will appeal the decision given the otherwise resulting double taxation of the interest [in PLC and GKA] from this decision, notwithstanding the overall economic profit was nil.
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