A group of companies has won their case at the Court of Appeal, having already won the case at both lower tax tribunals.  The case concerned the application of the loan relationship rules when companies changed the functional currency of their accounts, in this case from pounds to US dollars.

When performing this accounting change the companies also then arranged for substantial intra-group loans to be repaid.  The loans had been outstanding for some time and were creating administrative work due to notional interest being applied on the loans.  The companies had previously asked HMRC to provide non-statutory clearance to waive the loans and ensure that capital gains were not applied but HMRC declined to provide this clearance.

Due the change in the functional currency of the companies some the exchange differences on the loans were accounted for via the statement of total gains and losses (STRGL).  HMRC had argued that the losses that were created by this change were not ‘real-world’ losses and therefore the losses didn’t ‘fairly represent’ the real word position of the companies.  HMRC stated that the approach the CoA should take would follow that of the GDF Suez case (see our analysis of the case here) where UK GAAP compliant entries were shown not the ‘fairly represent’ the transactions.

The CoA dismissed HMRC’s appeal, finding that the accounts that were the basis of the tax returns were UK GAAP compliant and therefore the exchange losses fairly represented the losses that the companies faced.  It noted that exchange gains and losses were outside of the control of the companies and the prescriptive method of accounting for them had been followed by the companies.

The decision can be found at: The Commissioners for HMRC v Smith & Nephew Overseas Ltd & Ors – Find case law (nationalarchives.gov.uk)

This is a pleasing result as it helps ensure that the taxation of loan relationships continues to the follow the underlying accounting, making internal processes more streamlined.  Of course, there are exceptions to this rule, such as forgiveness of connected party debt, but this case helps keeps the departures from accounting basics to a minimum required to counter abusive tax planning.

Please let us know if you have any questions on loan relationship and corporation tax matters.  We are experienced with these issues and can help with compliance or planning.