Loans released by Close Companies

This measure is designed to prevent a close company claiming a corporation tax deduction when it releases a debt due from a shareholder.

Baker Tilly analysis

There have recently been reports of many close companies claiming a corporation tax deduction when a debt due to a shareholder is released. The shareholder is generally taxed as if he/she had received a dividend. Dividends are not deductible for corporation tax purposes but, in most cases, debt releases are. HMRC clearly consider this as an abuse whereby companies are effectively claiming tax deductions for what amount to dividend payments, so it is not surprising that HMRC have acted to block the corporation tax deduction in such circumstances. The block is effective from Budget Day.

In detail

This measure, effective from Budget Day, acts to block a corporation tax deduction for close companies that release debts due from participators. The definition of a close company is, broadly, a company under the control of five or fewer participators, or its directors. A number of close companies and their shareholders have recently been seeking a tax advantage where debts owed by shareholders to the company are released. Whilst the company will have been required to account for tax when it made the loan, that payment becomes repayable on the release. The release of such a debt will normally be taxed on the shareholder as a distribution – for example, as if it were a dividend. A dividend is not deductible for corporation tax purposes, but the release of a debt owed by an individual shareholder generally is deductible. HMRC are known to have been unhappy about this, as it has the effect of giving a corporation tax deduction for what amounts to a dividend payment. This advantage is to be stopped by legislation that will be effective from Budget Day.