United Kingdom

Each individual corporate group member is required to submit their own tax return on a stand-alone basis, with the exception of the election available with respect to VAT (discussed below). However, there are a variety of ways in which one's relationship with fellow group members is recognised in the UK tax system for the purposes of corporation tax, VAT, SDLT, and stamp duty.

Corporation tax

The corporation tax system includes a number of measures that advantage UK members of qualifying groups, all of which are subject to anti-avoidance measures.

Operating taxable profits and losses arising in the same period can usually be offset between UK resident 75% affiliates within a worldwide group (known as 'group relief') and certain non-UK resident 75% affiliates within the charge to UK corporation tax. There are some restrictions, primarily where one of the two companies is not an economic 75% subsidiary of the group or is subject to arrangements under which it might leave the group.

In very limited circumstances, a UK PE of a non-UK resident group member may also be able to surrender losses for group relief. However, the conditions that need to be satisfied in order to do so are very restrictive. Not only must the losses be attributable to activities of the PE that are within the charge to UK corporation tax and not exempt from tax under a DTT, but it is also necessary that no part of the loss may be relieved against the non-UK profits of any person in any period. This last condition means that the UK losses of a UK PE may only be surrendered for UK group relief where there is no possibility of relief for any part of those losses (or amounts corresponding to or representing them) in any foreign jurisdiction at any point in time. Prior to 27 October 2021, this last condition was relaxed for the UK PEs of European Economic Area (EEA) resident companies. However, following Brexit, this is no longer the case.

Until recently, group relief was also available for non-UK losses of EEA-resident group companies, subject to certain conditions. Following Brexit, such group relief for non-UK losses arising in accounting periods beginning on or after 26 October 2021 is no longer available (subject to special provisions where there are straddling accounting periods).

Losses arising on or after 1 April 2017 that cannot be used by the company or group relieved in the year are carried forward and can, subject to restrictions, be surrendered as group relief in a later year.

Intra-group transfers of capital assets between UK companies, including UK PEs (and non-UK companies within the charge to UK tax on gains in respect of UK immovable property or assets that derive at least 75% of their value from UK land where the company has a substantial indirect interest in that land) are normally tax-free, though the definition of group for these purposes is slightly different than the definition of group relief for losses. This treatment is also extended to intra-group transfers of loan relationships, derivatives, and intangibles. There is generally a 'degrouping' charge if the transferee company leaves the group within six years.

There is no automatic offset of capital gains and losses where these arise in different group companies, but it is normally possible for offset to be arranged either by actual transfer of the asset prior to disposal or by election.

In addition, the corporation tax system also has a number of measures that seek to prohibit groups unfairly manipulating the tax system by shifting profits between group members (either internationally or within the United Kingdom) in a way that is considered unacceptable, including the application of transfer pricing rules to transactions between UK entities.

The net interest deduction of a UK group is restricted to 30% of UK tax-EBITDA (or the group ratio for highly leveraged groups) and, in any case, cannot exceed the net interest shown in the worldwide group’s consolidated financial statements. This is discussed under Funding costs in the Deductions section.

VAT

Group companies can, subject to certain requirements, elect to account for VAT as if they were one taxable person; where this is done, no VAT is charged on intra-group supplies of goods or services. The registration is made in the name of the representative member, who is responsible for completing and rendering the single return on behalf of the group. All the companies are jointly and severally liable for any VAT debts. VAT grouping is subject to detailed anti-avoidance provisions.

Stamp duty and SDLT

Transfers of shares or real estate within worldwide 75% groups are generally exempt from stamp duty or SDLT, respectively. For SDLT, the relief can be retrospectively withdrawn in certain circumstances, primarily where the transferee leaves the group within three years of the transfer.

Transfer pricing and thin capitalisation

The United Kingdom has widely drafted transfer pricing rules that are intended to apply to almost any kind of transaction or series of transactions made or imposed between related parties that gives rise to:

• a provision that differs from one that would have been made between third parties and
• a UK tax advantage (potential or actual) to one or more of the parties.

These rules apply to both cross-border transactions and UK-to-UK transactions. A tax advantage is one that reduces UK taxable profits or increases UK taxable loss compared to the arm’s-length position. The United Kingdom follows the guidance provided by the OECD in relation to transfer pricing.

Parties are considered related for the purpose of transfer pricing rules where either one controls the other or both are under common control. Control here is not confined to situations in which one party is the majority shareholder in the other. Effectively, control exists where one party has the power to ensure that the affairs of another party are conducted in accordance with the first party's wishes. The controlling party can include companies, partnerships, and, in certain circumstances, individuals. The controlled party can be a company or a partnership.

The concept of control is also subject to the following two important extensions:

• The rules can apply to joint venture companies where two parties each have an interest of at least 40%.
• There are attribution rules to trace control relationships through a number of levels in determining whether parties are controlled for the purposes of the transfer pricing rules.

The regime applies not only to arrangements involving products, services, and intangible property but also to finance arrangements, including both the rate of return charged and the amount of loan principal (or equivalent) made available. It is therefore the mechanism by which the UK's revenue authorities address the issue of thin capitalisation. Unlike many other territories, the United Kingdom does not have any 'safe harbour' rules in relation to the amount of debt or interest (or equivalents), and the question of whether a UK company or group is thinly capitalised needs to be addressed on a fact specific, case-by-case basis. However, a separate UK interest deductibility rule was introduced, effective from April 2017. This is discussed under Funding costs in the Deductions section.

In addition to the general related party control rules, the regime restricts interest deductions to an arm's-length amount where a number of persons who would collectively control a company or a partnership have 'acted together' in relation to the financing arrangements of that company or partnership. An independent financier (usually a bank) can then be taken as related to the company or partnership for financing, despite the absence of any other type of participation in control, and the loan becomes subject to transfer pricing limitations.

There are a number of exemptions that essentially exclude SMEs and dormant companies from the regime, subject to certain qualifications.

The effect of the transfer pricing rules is to require an arm's-length provision to be substituted in for the actual one, thereby increasing the party's UK tax liability and cancelling out the UK tax advantage that would otherwise have arisen.

Where both parties to the transaction are UK taxpayers, the disadvantaged party will generally be entitled to claim a 'compensating adjustment' (except where the transaction falls within the transfer pricing regime because of the 'acting together' provisions), but only after the UK adjustment has been made by the advantaged entity. The legislation also provides that parties may make balancing payments to each other in such circumstances, of any amount up to the gross transfer pricing adjustment (and not just the tax impact), which will neither be taxable for the recipient nor tax deductible for the payer.

Where the disadvantaged party is outside the UK tax net, they can pursue a claim for relief under the relevant DTT if it provides a mechanism for such relief; where the adjustment in the United Kingdom is to reduce a deduction for an amount paid under deduction of UK tax, the compensating adjustment rules should allow the overseas party to reclaim any WHT paid on the disallowed amount, subject to time limits and other criteria.

Where the disadvantaged party to a cross-border transaction is subject to UK tax and an adjustment is made by the overseas tax authority to increase the overseas counterparty’s profits, the entity may similarly be able to apply for a “corresponding adjustment” under the MAP of the relevant DTT. HMRC may also consider providing relief on a unilateral basis, subject to the specific facts and circumstances. 

UK taxpayers are required to self-assess their compliance with the arm's-length principle. The taxpayer must therefore identify and make transfer pricing adjustments when submitting their tax returns. An important implication of this approach is the application of interest and the potential for substantial penalties if the position taken in the return is subsequently held to be wrong. Transfer pricing is an area of focus for enquiries, including DPT enquiries and submissions under the Profit Diversion Compliance Facility. HMRC expects taxpayers to be able to produce often extensive evidence that supports the conclusion that the self-assessment return reflects arm’s-length pricing and recently legislated (effective 1 April 2023) a specific requirement for large groups to prepare and maintain transfer pricing documentation. Where a transfer pricing inaccuracy is found in a tax return and the taxpayer has not kept or preserved the specified transfer pricing records, the behaviours associated with that inaccuracy will be presumed to be careless unless the taxpayer can demonstrate that they took reasonable care to avoid the inaccuracy. 

The United Kingdom has an Advance Pricing Agreement (APA) programme that, subject to the acceptance of an application and agreement being reached between the relevant tax authorities, can provide a high degree of transfer pricing certainty on a prospective basis. A specific form of APA agreement, an Advance Thin Capitalisation Agreement, may also be agreed in relation to certain financing arrangements.

As part of the consultation HMRC launched in relation to the UK transfer pricing legislation (as well as other international tax matters) back in June 2023, HMRC sought views on the following transfer pricing matters:

• Alignment of the United Kingdom’s use of the term ’provision‘ with the OECD’s use of ’conditions‘ when assessing the consistency of arrangements within a multinational enterprise (MNE) with the arrangements that would exist between independent parties.
• Reframing the concept and definition of the relationship between counterparties that would impose the requirement to consider whether arm’s-length pricing has been applied, with a potential expansion of the definition to take into account ’excessive influence‘, for example, by a major creditor.
• Clarifying the general purpose and application of the ’one-way street‘, which requires, on a provision-by-provision basis, an upwards adjustment to UK taxable profits where necessary to comply with the arm’s-length principle, but prohibits a downwards adjustment.
• Targeted relaxation of the general requirement to apply transfer pricing UK-UK where a non-arm’s-length provision does not provide an overall UK tax advantage.
• Amending the specific UK rules that apply to transactions involving loans and guarantees to align them with updates to the OECD Transfer Pricing Guidelines (Chapter X) in this area.
• Provide a simpler and more certain alternative to the current compensating adjustment mechanism to enable UK borrowing capacity as a whole to be taken into consideration.
• Placing greater emphasis and clarity on HMRC’s internal governance framework in ensuring consistency of treatment and outcome.

Additionally, HMRC sought views on the interaction and consistency (or otherwise) between the transfer pricing rules and other legislation, including legislation that governs loan relationships and related issues, and the approach to related party transactions involving intangibles and the associated valuation methodologies.

Country-by-country (CbC) reporting

In line with the OECD recommendations coming out of BEPs Action 13, 'private' CbC reporting (i.e. MNEs submitting CbC reports to tax authorities) is required for all MNEs with annual consolidated group revenue over 750 million euros (EUR) (or equivalent). It requires the preparation of a summary report setting out the jurisdictions in which the group has operations and, for each jurisdiction, the aggregate revenue, profit, income tax, plus additional data, such as number of employees, accumulated earnings, assets, etc.

This report has to be filed with HMRC where the MNE’s ultimate parent is in the United Kingdom, or, in some circumstances, where the MNE operates in the United Kingdom, in addition to the tax return for the period in question. HMRC then makes the report available to other jurisdictions included within the relevant report automatically in line with/subject to the specific CbC information sharing provisions entered into between the United Kingdom and the relevant tax jurisdictions.

In some quarters, stakeholders have been asking for CbC data to be made public. The Global Reporting Initiative released a new tax standard (GRI 207 - Tax) that contains public CbC reporting as a voluntary standard. 

In the United Kingdom, legislation provides for the government to bring in regulations to require publication of CbC information for UK MNEs; however, it remains to be seen what approach the UK government will take in light of international developments.

On 4 July 2023, HM Treasury made the Taxes (Base Erosion and Profit Shifting) (Country-by-Country Reporting) (Amendment) Regulations 2023 (SI 2023/752), and this was laid before Parliament on 5 July 2023. The effect of these changes is broadly the removal of the annual year-end CbC reporting notification obligations in the United Kingdom for many MNE groups, albeit there still remain some specific scenarios where a UK notification may still be required.

Transfer pricing documentation

The UK’s transfer pricing documentation rules have in the past relied on the generic legal requirement to keep sufficient records to deliver correct and complete returns, and there has historically been limited guidance on the form and content of the documentation. In terms of best practice, this has already been commonly understood to mean OECD-compliant documentation in most cases. 

Following public consultations, the government decided to legislate to require larger businesses (where the taxpayer group meets the CbC reporting consolidated revenue threshold of EUR 750 million) to maintain OECD-format 'Master File' and 'Local File' documentation (subject to certain exemptions). The new rules are effective for corporation tax purposes for accounting periods beginning on or after 1 April 2023 and for income tax purposes from 6 April 2024. 

Primary legislation was included in Finance (No.2) Bill 2023, which was published on 23 March 2023. The Spring Finance Bill 2023 received royal assent in July to become Finance (No.2) Act 2023. The Finance (No.2) Act 2023 is legislation that enables HMRC to specify specific transfer pricing record keeping requirements, the details of which are provided in a separate Statutory Instrument, The Transfer Pricing Records Regulations 2023. The Finance (No.2) Act 2023 also sets out, amongst other things, the consequences for taxpayers of failing to comply with the new rules, including increased risk of substantial penalties, and additional powers for HMRC in relation to access to transfer pricing records and information. Simultaneously with the release of The Transfer Pricing Records Regulations 2023, HMRC issued accompanying material within the transfer pricing sections of their International Manual, which provides guidance to HMRC officers and taxpayers on the UK’s application and interpretation of the aforementioned legislation and regulations. 

Where a UK entity is part of an MNE group that does not meet the CbC reporting consolidated revenue threshold, HMRC has emphasised that it is still a requirement to keep appropriate books and records to file a correct and complete tax return. Additionally, while legally such UK entities are not formally required to prepare a prescribed Master File and Local File, HMRC is of the view that such formats provide an appropriate way to demonstrate adherence to the arm’s-length principle and the requirement to prepare and retain adequate books and records to substantiate this. This is also aligned with the position and expectation for the periods prior to the enactment of the new legislation.

In addition, the primary legislation makes some significant changes to information powers and penalties for transfer pricing. The most material potential impact where a taxpayer fails to do the work necessary to maintain or to produce relevant records on request would be on the assessment of behaviours should HMRC later identify an inaccuracy in a return that relates to transfer pricing (i.e. where an enquiry results in an adjustment). Where a tax return is submitted that contains an inaccuracy and the specific records required by law (including the transfer pricing documentation report) have not been kept and/or the processes for managing the taxpayers transfer pricing positions, including setting and implementing transfer prices, are inadequate, it will be presumed ’careless‘ behaviour. Similarly, careless behaviour will be assumed if HMRC makes a discovery of an underassessment of tax relating to transfer pricing and the specified records have not been kept or preserved. This will have ramifications for penalties geared to the amount of any transfer pricing adjustment and on how far back HMRC can issue assessments in the event of a discovery.

There is a new right for HMRC to request specified transfer pricing documents outside of a transfer pricing enquiry; and the requirement for specified documents to be in the 'power and possession' of a UK entity when they are in the 'power or possession' of another group entity has been removed.

HMRC is still considering an additional requirement, a 'summary audit trail' (SAT), with the aforementioned regulations providing HMRC with the power to introduce such a requirement. The SAT would summarise the work undertaken by the taxpayer in arriving at the conclusions in their transfer pricing documentation. It has been described as requiring businesses to complete a questionnaire detailing the main actions they have taken in preparing the Local File, A public consultation on this requirement is expected to take place, and any SAT requirement would come into force at a later date.

The newly specified documents would not need to be filed with HMRC as a matter of course but would be required to be provided within 30 days of an HMRC request. Penalties would be available to HMRC for failure to comply with the new requirements.

Maintaining the specified transfer pricing records is part of the Senior Accounting Officer (SAO) responsibilities. See Senior Accounting Officer and tax strategy publication in the Tax administration section for further details.

Controlled foreign companies (CFCs)

Under the CFC regime, a UK resident company may be taxed on a proportion of the profits of certain UK-controlled, non-resident companies in which the resident company has an interest. The overall intention is to tax profits that have been artificially diverted from the United Kingdom.

Broadly, profits of a non-UK resident CFC will be taxed, using normal corporation tax rates and rules, on the persons controlling the CFC if (i) the profits pass through the CFC ‘gateway’ and (ii) are not exempt.

The ‘gateways’ are a series of tests that identify profits that are, broadly, artificially diverted from the United Kingdom. For example, where profits are attributable to UK significant people functions (SPFs), those profits will be taxed in the United Kingdom unless one of four conditions are satisfied (the first of which is that obtaining a tax advantage is not the main purpose or one of the main purposes of the arrangement). A range of other tests may capture other profits.

Various exemptions exist for certain types of companies, those with low profits or low margins, CFCs in excluded territories, or others with corporation tax rates similar or above UK rates.

There is a special exemption for intra-group financing profits that can result in an exemption of between 75% and 100% of the financing profits on qualifying loans. In order to make the regime Anti-Tax Avoidance Directive (ATAD) compliant, the government tightened these rules so that (from 1 January 2019) the reduced rate of tax is no longer available in relation to profits that are attributable to UK SPFs. This exemption has been the subject of an in-depth investigation by the European Commission into whether it constitutes fiscal state aid. The European Commission has found the exemption, prior to 1 January 2019, to be partially justified. However, it has specifically stated that the rules applicable after that date no longer give rise to any state aid concerns.