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HMRC publishes draft guidance on the corporation tax treatment of interest-free loans and other non-market loans

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03 Nov 2015

HM Revenue and Customs (HMRC) has published draft guidance on the corporation tax treatment of interest-free loans and other non-market loans.

The draft guidance has been issued as a result of the change to the way that companies will need to account for financial instruments (if they were not adopting FRS 26 (IAS 39) Financial Instruments: recognition and measurement under old UK GAAP) when moving from old UK GAAP to new UK GAAP (FRS 101 Reduced Disclosure Framework or FRS 102 The Financial Reporting Standard applicable in the UK and the Republic of Ireland) or to full International Financial Reporting Standards (IFRSs).

One particular area where there can be significant difference from Old UK GAAP (where FRS 26 has not been applied) is in respect of non-interest bearing loans and in other cases where loans are entered into on non-market terms.

The accounting difference arises from the requirement in Section 11 of FRS 102 that a basic financial instrument should, in the case of a financing transaction, be measured on initial recognition in the accounts at the present value of future expected cash flows discounted at the market rate of interest. This is similar to the requirement in Section 12 of FRS 102 that non-basic financial instruments (and in IAS 39 for all financial instruments), be measured on initial recognition at the fair value of the instrument.

In most cases, the transaction price for entering into the financial instrument will be the same as its present value / fair value. However, in cases where the loan is not entered into on market terms, this is likely to lead to an accounting difference being booked on inception.

There are a number of accounting and tax rules that can be relevant, depending on the nature of the transaction. The draft guidance looks to cover the interaction of those rules and explain how this particular accounting issue should be treated for corporation tax purposes in the most common circumstances with a number of illustrative examples.

HMRC has also published two papers which provide an overview of the key accounting changes and the key tax considerations of moving from ‘old’ UK GAAP to either FRS 101 or FRS 102.  An updated paper for FRS 102 was published in October 2015.

The draft guidance is available on the HMRC website.

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