HM Revenue and Customs Brief 01/09
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Issued 12 Janaury 2009
Advance Thin Capitalisation Agreements - Frequently Asked Questions
HM Revenue & Customs (HMRC) recognises the rising importance of international
issues for business customers and has established a new Business International
directorate with effect from 5 January 2009. The director of Business
International is Judith Knott.
The Financial Transfer Pricing Team has been formed within Business
International to take responsibility for certain international tax issues
previously dealt with by the specialist financial groups within CT & VAT,
including thin capitalisation, financial services transfer pricing and
attribution of profits, the Investment Manager Exemption, avoidance involving
arbitrage and paragraph 13, Schedule 9 Finance Act 1996. Financial Transfer
Pricing is led by Andrew Martyn.
This document seeks to answer questions which have come up in the months
since the introduction of the process for entering into Advance Thin
Capitalisation Agreements ('ATCAs'), as introduced by Statement Of Practice 4 of
2007 (SP04/07). This is likely to be revised or supplemented as experience of
the ATCA process develops within and outside HMRC.
What is the scope of the ATCA?
The ATCA process is designed to deal with thin cap forward agreements, and
will not be available for issues such as imputation of interest on outward loans
and quasi-equity arguments, or for agreeing an appropriate level for guarantee
fees. However, if such issues are encountered in the course of exploring the
basis of an ATCA, they may be considered and dealt with. Additionally, the
specialist financial teams responsible for ATCAs have, on a limited number of
occasions in the past, entered into discussions about the level of return
appropriate to a group finance or treasury company, and these discussions may
continue to take place within the ATCA dialogue, subject to size, complexity,
Can HMRC explain the criteria for qualifying for an ATCA?
No criteria have been set out and none are planned, though guidance will be
offered if experience begins to suggest that it would be constructive to do so
ie resources start to become overstretched and HMRC is obliged to become
selective. The Statement of Practice (04/07) says that situations 'where the
financing arrangements in place do not appear to be significant commercial
issues for the company' are likely to be unsuitable for pre-return agreements.
However, we do not want to be prescriptive unless for practical reasons we have
to be. Companies will submit applications based on their own risk assessment and
desire for certainty. Smaller cases are more likely to be accepted where the
information is comprehensive, clearly presented and accompanied by a draft
At what point is it appropriate to submit the ATCA application?
ATCAs are not specifically intended as pre-transaction rulings - it is
expected that the majority will be submitted after the relevant transactions
have taken place but before the return incorporating those transactions is made.
However, it is acceptable to make an application once plans are well-enough
advanced for there to be every reason to suppose that transactions are about to
be carried out as described in the application ie the pieces are all in place.
We cannot spare resource to help in fine tuning or in establishing boundaries
with a view to optimising tax efficiencies. We are committed to responding to
commercial imperatives and to 'real time' working, but with 'real' transactions.
SP04/07 also sets out the circumstances in which the ATCA can have retrospective
effect (Para 19 onwards)
What are the key differences between ATCAs and the old treaty-linked
- ATCAs are negotiated quite separately from the treaty clearance
application process. The treaty clearance and thin cap are now separate issues
dealt with in different offices. The treaty clearance application to CAR
Residency in Nottingham (formerly the Centre for Non-Residents) no longer
presents HMRC with an opportunity to consider the thin cap position. Except
where an ATCA application is received, HMRC cannot commence thin cap enquiries
until the return encompassing the relevant transactions or indicating a thinly
capitalised position is submitted. Similarly, the borrower has no obligation
to initiate thin cap discussions with HMRC - or at least not until HMRC
exercises the option of enquiring into the return.
- It remains the case that, where a treaty clearance is required, a
certified application to CAR Residency must still be made. Assuming there are
no problems with the application, CAR will issue a clearance notice and report
the outcome to the payer's Corporation Tax office, rather than (as was the
case before) referring the application for consideration and in some instances
awaiting the outcome of thin cap enquiries.
- ATCAs extend the range of potential applications for a thin cap forward
agreement to include lending arrangements which involve no treaty claim, such
as funding involving quoted Eurobonds, discounted loans and UK/UK
- The traditional, occasionally drawn out process of correspondence to
establish key facts and obtain relevant documentation is replaced by a
requirement to present the necessary information in the initial application.
As a consequence, if meetings are needed to increase understanding and advance
resolution, these should occur sooner and be more focused than was previously
the case; progress should be swifter than under the old system.
- ATCAs offer the opportunity to introduce a more standardised approach
where it is appropriate, using the model ATCA as a basis for the agreement,
while recognising that most agreements are to varying degrees customised to
fit particular facts and expectations.
How might taxpayers best present information to make the process as
efficient as possible?
It is recommended that the information be presented as comprehensively as
possible, proportionate to the size and complexity of the case, and may include:
- A description of financing structure which has been or is in process of
being put in place, including dates of transactions;
- A description of the business and the plans of the principal trading
operations, showing how capital is allocated and the relationship between
capital and cash flows from operations, indicating any changes relating to the
- Copies of loan agreements and other relevant documents;
- A clear statement of the source of the funds (immediate and ultimate), how
the funds were applied and the repayment terms;
- An analysis of the financial strategy of the business, identifying the
principal cash flows and the sources of repayment of debt;
- A group structure covering all relevant companies and clearly setting out
any changes to the structure taking place over the course of the transactions;
- Financial forecasts contemporaneous with the transactions in question,
projected as far as is meaningful, including a clear picture of the expected
levels of interest cover, gearing or other relevant measures over the forecast
- An analysis supporting the borrower's view of the extent to which the
connected party (or supported) debt is considered to be arm's length;
- A clear proposal for the terms of the agreement, including covenants. This
might be in the form of a draft agreement, based where appropriate on the
How can taxpayers present their application to maximize the effectiveness of
the case? (Some of the following points are usually more relevant to intra-group
funding arrangements which incorporate an element of group reorganisation)
- Fully explain the commercial motivations/advantages/pressures of the
chosen course of action, both from the UK and the wider group perspective;
- Provide an analysis of the cost of debt and resultant benefits to the
business in clear commercial terms;
- Provide an analysis of the risks to the lender and how the risks are
managed, priced, monitored, hedged or secured;
- Provide an analysis of the risks for the borrower, including the risks of
failing to meet the terms of the loan, and the possibility of penalties and
- Explain how the borrower intends to repay or otherwise manage the proposed
loans, including sources of repayment;
- Provide copies of applications and responses for any pre-transaction
clearances under other specific provisions of the Taxes Acts, where those
would be helpful in understanding the proposals.
What is the status and purpose of the Model ATCA?
Para 60 of SP04/07 says:
It is recognised that a model is not obligatory and will not
be appropriate in all cases, but HMRC considers that it would cover a
significant proportion of cases dealt with in Local Compliance, as well as some
of those handled by the Large Business Service.
The Model ATCA is there to help, to act as a guide, particularly in smaller
and more straightforward cases. It can serve as an aide-memoire or a check list
for the features which HMRC likes to see in agreements, such as the procedure
which applies in the event of a breach of one or more of the covenants.
How do ATCA applications fit in with the new arrangements for transfer
pricing enquiry governance and the newly formed Transfer Pricing Team?
- ATCAs are negotiated and concluded under the Advance Pricing Agreement
legislation at Sections 85 to 87 Finance Act 1999, and the same statutory
provisions will apply as for other APAs, although the terms contained in each
agreement are framed by reference to Schedule 28AA ICTA 1988. Because of their
APA status, ATCAs fall outside the governance rules recently set out by the
Transfer Pricing Group for the conduct of transfer pricing enquiries. Even so,
it is envisaged that most ATCA applications will be signed off within 18
- Thin cap enquiries initiated by HMRC into company tax returns fall within
the TP governance procedures in the same way as non-financial transfer pricing
cases. An enquiry will only be opened if the risk assessment and business case
justify doing so, and the enquiry will be subject to periodic review. How
enquiries interact with open ATCA applications is explained below.
- Applications for ATCAs are typically made before a return falls due for
the period in which the transactions occur, but the ATCA application can
overlap with HMRC-initiated enquiries. Either the return falls due and is
submitted before pre-return ATCA negotiations are concluded, or the ATCA
application is not made until after the return has been made (possibly after
enquiries into the return have begun). In either case, the ATCA takes
precedence, but the enquiry will be tracked under TPG governance procedures.
- Whichever way the case arises, the work is likely to be carried out by
(and will certainly be supervised by) an International Issues Manager or a
specialist from the Transfer Pricing Group. The Financial Transfer Pricing
Team at Business International will continue to be responsible for operational
policy, consistency and best practice, advising and supporting operational
colleagues rather than taking case ownership.
We expect that a lot of people at HMRC will get involved in the ATCA
process; how will HMRC provide appropriate training for the relevant people and
ensure consistency of treatment?
- The Transfer Pricing Group (TPG) was launched on 1 April 2008, bringing
together the existing international tax specialists, Local Compliance, the LBS
and SCI, alongside supporting specialists such as economists and sector
experts. Teams of transfer pricing specialists have been established in Local
Compliance and the Large Business Service and an intensive training programme
is well advanced to provide expertise for every transfer pricing and thin cap
enquiry. The Financial Transfer Pricing Team at Business International will
continue their monitoring and supervising role in relation to ATCAs, but with
the expansion of the work and the increasing expertise available in the TPG,
the central teams will be concentrating on training, updating guidance, and
providing a high level strategic and support role, taking on a more active
role in only the largest and most complex cases, or those with novel features.
- The work of the TPG is ensuring the creation of a core of well-trained
specialists able to carry out, monitor and supervise transfer pricing work
- Training and guidance extends to material on topics such as economics and
- Written guidance to transfer pricing specialists and the wider HMRC is
being brought up-to-date.
How are ATCA applications being handled?
The Statement of Practice says that ATCA applications should be sent to Miles
Nelson at Business International, 3rd Floor, 100 Parliament Street, London, SW1A
2BQ but it would be helpful if they were also copied to the office where the
borrower's Corporation Tax affairs are dealt with. In order to provide a more
efficient service, it has been decided that Danny Berry (at the same address)
should receive the applications relating to private equity leveraged buy-outs.
You may if you wish submit applications by email:
'Mainstream' ATCAs should be sent to Miles Nelson and copied to borrower's CT
Private equity ATCAs (preferably marked as such) should be sent to Danny
Berry and copied to borrower's CT office
If you are happy to submit electronically, please also copy both types of
application to Mike Bowen, who has an administrative role in relation to ATCA
We hope soon to establish and publicise a central electronic mailbox to which
ATCAs can be sent, leaving their processing less dependent on the presence of
HMRC's ability to conduct email correspondence is subject to data security
rules, but it would be helpful if applicants or their representatives could
indicate whether you are comfortable to exchange emails with HMRC on the matter
of the ATCA. Please indicate any restrictions - by way of content, for example -
that you would wish to place on such exchanges.
Applications are in most cases allocated either to a member of the Transfer
Pricing Group or an International Issues Manager within Local Compliance or the
Large Business Service. This will depend on the complexity of the case and the
availability and location of the relevant expertise. The Statement of Practice
says at Para 26 that: 'HMRC will endeavour to respond to the initial contact
within 28 working days'. This may not amount to a definitive answer, but should
take the matter on to the next stage: a request for further information or a
When might HMRC withdraw from considering an ATCA application any further?
It is expected that the majority of cases will be seen through to a
successful conclusion with co-operation from groups and their advisors but HMRC
may withdraw from considering an ATCA application:
- If negotiations reach a stage where there appears to be no possibility of
agreement as to arm's length terms;
- When responses to requests for further information are unsatisfactory or
inconsistent so that insufficient information is provided to allow a proper
understanding and assessment of the situation and reasonable warning of
withdrawal has been given;
- Where expected resource commitment appears disproportionate to the
apparent risk or uncertainty.
What happens if the two sides fail to reach an agreement?
As Para 46 of SP04/07 states, if HMRC decides to withdraw from the ATCA
process, it will issue a statement setting out the reasons. If agreement cannot
be reached, both sides walk away, and the thin cap issue reverts to an annual
self assessment exercise. If risk assessment suggests that further enquiry is
appropriate, a CTSA enquiry may be opened, if there is a business case for doing
Who is entitled to sign off an ATCA on behalf of HMRC?
Subject to local management arrangements, ATCAs may be authorised by a Local
Compliance or LBS International Issues Manager, a member of the Transfer Pricing
Group or the relevant LBS Customer Relationship Manager, as well as members of
the Financial Transfer Pricing Team at Business International.
One of the valuable elements of an APA is the bilateral nature. Is there any
intention of extending the ATCA process to provide for agreement in the country
of the lender as to the treatment of any part of the debt on which interest is
denied in the UK?
There are no plans to make the ATCA process multilateral. An application for
a bilateral agreement involving any sort of transfer pricing must be made via
the mainstream transfer pricing APA programme overseen by Ian Wood at Business
International , and will be considered in accordance with that programme's
criteria regarding complexity, etc. Thin cap aspects of APA and Advance
Agreement Unit cases are in practice usually referred to the Financial Transfer
Pricing Team for consideration on a unilateral basis. There is difficulty in
finding compatibility with overseas territories' thin cap rules, particularly
where 'safe harbour' regulations are in place.
Does the ATCA process cover the anti-arbitrage rules or the unallowable
purpose rules at Para 13 Schedule 9 Finance Act 1996?
Arbitrage - the 2005 anti-arbitrage legislation falls
outside the ATCA regime and outside the governance processes of the Transfer
Pricing Group. It is subject to its own clearance process controlled by the
arbitrage specialists within Business International. However, where a company
has made an arbitrage clearance application alongside an ATCA application, so
that the company is asking for a set of transactions to be reviewed from both
perspectives, HMRC will endeavour to deal with them in as coordinated a way as
Para 13 - ATCAs between a taxpayer and HMRC are entered into
under the Advanced Pricing Agreements (APA) legislation in Sections 85-87 FA
1999. In the context of inter-company financing, the only matters that can be
the subject of an agreement under the APA legislation are matters relating to
transfer pricing governed by Schedule 28AA ICTA 1988. Therefore, a clearance
that Para 13 will not apply to a particular loan cannot be given as part of the
Under the new procedures for Non-Statutory Business Clearances, HMRC will
provide clearances in relation to legislation not contained in the last four
Finance Acts, including Paragraph 13, where there is material uncertainty around
the tax outcome of a real issue of commercial significance to the business
itself. However, any clearance that HMRC can give will be limited to conditions
that existed at the time of the transaction and cannot provide any form of
comfort that Para 13 will not apply to a loan in subsequent periods. One reason
is that purpose can change with time and the purpose test in Para 13 is an
annual one which is highly fact-sensitive. It would not be possible to create
objective rules to define how long it takes for one purpose to be displaced by
As regards the interaction of computational adjustments under Schedule 28AA
and Para 13, Schedule 28AA applies where there is a potential tax advantage, but
a disallowance under Para 13 will serve to reduce or nullify that advantage ie
if there were a Para 13 adjustment, it would be applied first and Schedule 28AA
would then be considered in relation to the profits or losses as adjusted. In
some cases where there is a potential Para 13 application, a thin cap solution
alone may serve to satisfy HMRC's concerns over a company's financial position,
so the Sch 28AA adjustment obviates the requirement for a Para 13 adjustment.
Any compensating adjustments will be based on the transfer pricing adjustment
What is HMRC's position on safe harbours and netting?
Questions are regularly asked about these issues:
- Safe harbours - HMRC does not operate any type of 'safe
harbour', nor does Tax Bulletin 17 say that it does. The paragraph usually
quoted in support of the existence of safe harbours actually concludes:
'…there are no hard and fast rules in this area and each case has to be
considered on its own facts.' However, the starting point of a thin cap
negotiation is often the consideration of debt- and earnings-based ratios.
- Whether net debt or interest is acceptable in a thin cap agreement
- over the years there have been discussions about HMRC's attitude
towards using net interest or net debt as a suitable measure in a thin cap
agreement. The debate has often been simply whether HMRC accepts netting or
does not accept netting. The answer is that HMRC is prepared to examine the
arguments for employing a net position, looking at issues such as the
security, consistency and durability of the offsetting source, but will not
accept netting without being satisfied that it is appropriate. HMRC sees
instances of UK sub-groups of multinational enterprises which are subject to
group pressure from outside the UK to retain borrowed funds that no longer
serve their original purpose, do not form part of the company's working
capital, and which the UK grouping is unable to exploit to its own advantage.
Can you clarify which entities are taken into account when measuring a
borrower's ability to borrow, following the repeal of s209 (2)(da) and (8A) ie
what is the thin cap 'borrowing unit' after 1 April 2004?
The UK borrowing unit
This is the largest grouping whose assets and liabilities are considered in
assessing whether or not thin capitalisation is present or not, and which is
encompassed in a thin cap agreement.
The position before 1 April 2004
Before 1 April 2004, the borrowing unit for thin cap purposes was defined at
ICTA88/S209(8A) and consisted of the ultimate UK parent company and all 51 per
cent subsidiaries, wherever situated in the world. If, in addition to such a
grouping, there were also within the same global group:
- any singleton UK companies held directly from overseas, or
- any sub-groups (other UK groups) held directly from overseas
then each of these would constitute a separate borrowing unit in its own
right, and could not be consolidated with any other UK grouping. In other words,
if a US-owned group had three trading divisions, and for its European operations
it had three different UK parent companies, each heading up one of those
divisions, then each of those sub-groups of the US parent would have to be kept
separate and considered in isolation from each other. Potentially there could
have been two thinly-capitalised sub-groups and one adequately-capitalised
sub-group with no consolidation or set-off of any kind between them.
The position on or after 1 April 2004
S209(8A) was repealed for transactions on or after 1 April 2004, Thereafter
the legislation states that the borrowing company should be considered in
isolation from any guarantees from connected companies, in effect on a
standalone basis. In reality, any third party lender would take into
consideration the assets and liabilities of subsidiaries of the borrowing
company, so on that basis the post-April 2004 borrowing unit is (broadly):
Borrower + 51 per cent subsidiaries
The main change from pre-April 2004 is that the borrowing unit is now topped
by the borrower, not by the UK parent company. The assets and liabilities of any
company 'above' the borrower in the chain of ownership will be excluded; since
to include them would in effect mean recognising guarantees which are excluded
by Schedule 28AA (1B)(4). The subsidiaries of the borrower are included as, in
effect, bundles of assets and liabilities, so it may be necessary to examine
critically such issues as whether assets may be regarded as reliable security,
or how easily assets could be accessed and realised. If any practical difficulty
does arise, it is more likely to involve overseas subsidiaries and overseas
assets of UK companies, rather than the domestically-based group, and
examination of the 'bundles' is likely to be sparing.
Once it is agreed what constitutes the borrowing unit for a particular
borrower, consolidated figures in the form of an accurate schedule (assuming the
absence of actual consolidated accounts) for the unit will provide the necessary
information for an assessment of the thin cap position. Measures used as
covenants in any agreement will be tested by reference to the same consolidated
One significant difference between the Schedule 28AA and former s209
provisions is the arrangement for compensating adjustments in Schedule 28AA by
which companies such as those in a parallel sub-groups, as in the example of the
three divisions above, or companies within the same sub-group but outside the
borrowing unit, may be able to claim a compensating adjustment under Schedule
28AA Para 6D, assuming they have the necessary borrowing capacity. This of
course excludes the lender, which cannot guarantee its own loan.
This ability to claim does not require the existence of a formal guarantee,
but includes any case where the lender has a reasonable expectation that he will
be paid by or out of the assets of the guarantor company. This extends to
unwritten guarantees and informal arrangements, which may in practice be
inferred by reason of the relationship between the borrower and the claimant to
Will HMRC challenge the manner in which interest disallowed by agreement in
an ATCA is allocated in practice, for example between different lenders treated
as 'acting together', provided they operate within certain parameters?
In some cases the terms of an ATCA will be such that there is no doubt as to
how a disallowance of interest is to be allocated.
However in many cases the terms within the ATCA are not so explicit as it to
make it obvious how disallowed interest should be allocated between debt
tranches and investors. In these circumstances HMRC would expect to see interest
disallowed in accordance with any specific terms and conditions of the
underlying financial instruments in priority to any other factors. For instance
there may be specific terms and conditions of the instruments entered into as
part of the commercial structure of the business which make it clear how a
disallowance should be allocated or there may be an order of subordination set
out in a loan or inter-creditor agreement.
A proportion of disallowed debt may include instruments which rank pari passu
with other instruments and/or instruments with the same terms and conditions
held by different investors. HMRC would expect the disallowance to be
apportioned pro-rata across these instruments and/or investors.
If after considering these steps the disallowance has not been fully
allocated, HMRC's current view is that an allocation of any remaining disallowed
interest among debt tranches and investors that is made on the basis of
commercial, ie non-tax, considerations would normally be regarded as low risk in
the context of considering compliance with s847 ITA 2007.
This does not go as far as giving an answer to all scenarios in existing
ATCAs because where tax advantage is a significant motive in determining the
basis of the allocation we would naturally wish to reserve our position until
the facts have been established and the consequences considered.
We will keep this position under review.
CAR Residency takes this opportunity to offer a few tips for making
successful clearance applications:
Common errors in applications which hold up treaty applications at CAR
- The application has not been certified by the overseas fiscal authorities
of the treaty partner state
- The address is not legible
- The application has not been signed
- A copy of the loan documentation has not been provided
- It is at times overlooked that answers to certain questions on an
application form can trigger a requirement to submit supplementary information
in support of a claim - for example a list of names and addresses of
shareholders as required in certain circumstances for a claim under the US/UK
treaty (Section B2, Question 2.8).
It is worth noting that:
All the information provided to CAR Residency is confidential. We are often
contacted by UK based agents who have not been nominated on the form (part A) to
discuss the tax affairs of the company or permanent establishment but we can
only discuss the tax affairs of the company with:
- an officer of the company and/or
- an agent (tax adviser) nominated by the applicant company
Use of a syndication manager in the appropriate circumstances streamlines the
process and reduces the number of claims to be processed.
Any questions or comments on this paper to
Financial Transfer Pricing Team
3rd Floor (03C/01)
100, Parliament Street
Tel: 0207 147 2663
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Article Published/Sorted/Amended on Scopulus 2009-01-12 23:22:56 in Tax Articles