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A Kwik recap: deductibility and the 'unallowable purpose' rule

Posted on 3 January 2023

Adding to the growing list of recent cases concerning the "unallowable purpose rule" (UPR), the Upper Tribunal held in Kwik-Fit Group Ltd v HMRC [2022] UKUT 00314 (TCC) that a debt reorganisation undertaken by a taxpayer group to utilise certain "trapped" losses fell foul of the UPR, with the result that debits arising from the reorganisation were not deductible.  

The UPR broadly operates to disallow loan relationship debits where a company's purpose for being party to a loan includes a non-commercial purpose. Commonly, this will be the case where a company's main purpose is to secure a "tax advantage" (often "a relief from tax"). Where the UPR applies, debits must be apportioned between this unallowable purpose and any commercial purposes.

In Kwik-Fit, a member of the taxpayer group (Speedy) had losses that it could not readily use or surrender. Steps were therefore taken to access those losses by assigning certain intra-group loans to Speedy and increasing the interest on those loans. New intra-group loans were also arranged. The intended result was that Speedy would deduct its losses from the new interest income, and the intra-group debtors would receive equivalent interest debits that could then be surrendered for the group's benefit.

Upholding an earlier decision that the interest debits should be almost entirely disallowed, the Upper Tribunal held that:

  • A taxpayer could secure a "tax advantage" even if their overall tax position was not improved. It therefore did not matter that Speedy was left in the same after-tax position as if the reorganisation had not occurred, or that some of the debtors were loss-making. The losses and debits operated to reduce any tax payable and therefore were "a relief from tax".
  • Although knowledge of the effects of a transaction does not equal a taxpayer's purpose, there was sufficient evidence that the debtors' had a main purpose of securing deductions for themselves based on the underlying motivation for the reorganisation.
  • It was irrelevant that the increased interest rate might have been required for transfer pricing reasons as there was no evidence this was the purpose for the increase.
  • The debtors' original purpose of acquiring funding for ongoing commercial activities remained, and so debits from the existing loans could be apportioned between this commercial purpose and the debtors' unallowable purpose.

Kwik-Fit serves as a useful reminder of the importance of clearly documenting a company's commercial purposes for entering into loan-related transactions.

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