CFM38170 - Loan relationships: tax avoidance: unallowable purpose: factors relevant to assessing evidence of a main tax avoidance purpose
Source: gov.uk (2025-05-07)


CTA09/S441-442

This page covers:

An introduction to factors potentially relevant to assessing evidence of a main tax avoidance purpose (#An introduction to factors potentially relevant to assessing evidence of a main tax avoidance purpose)

Full factual context (#Full factual context)

Principles/ potentially relevant tax-related factors (#Principles/ potentially relevant tax-related factors)

The extent to which the tax advantage is known or expected or taken into account, and the degree of attention paid to securing the tax advantage (#The extent to which the tax advantage is known or expected or taken into account, and the degree of attention paid to securing the tax advantage)

The size of the tax advantages, in particular in comparison to the size of commercial (excluding UK tax) benefits (#The size of the tax advantages, in particular in comparison to the size of commercial (excluding UK tax) benefits)

The existence, or lack, of net UK tax benefits in wholly UK or cross-border financing arrangements (#The existence, or lack, of net UK tax benefits in wholly UK or cross-border financing arrangements)

The existence, or lack, of net global tax benefits in cross-border financing arrangements (#The existence, or lack, of net global tax benefits in cross-border financing arrangements)

Whether or not the arrangements would have happened, or would have happened in a different way, that is, ‘but for’ the tax advantage (#Whether or not the arrangements would have happened, or would have happened in a different way, that is, ‘but for’ the tax advantage)

Whether the borrowing funds activities or investments which are not expected to generate UK tax, either immediately or at all (#Whether the borrowing funds activities or investments which are not expected to generate UK tax, either immediately or at all)

Introduction

For the ‘unallowable purpose rule’ (at s441-442) to be engaged, there must be an ‘unallowable purpose’: that is, a purpose for which the company is party to the loan relationship (or enters into a ‘related transaction’, as defined for the purposes of the rule), which is not amongst the business or other commercial purposes of the company.

It is specifically provided that if there is a purpose of securing a tax advantage (a ‘tax avoidance purpose’), and if this is the main purpose, or one of the main purposes, for which the company is party to the loan relationship or related transaction (s442(3)-(5), CFM38130 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38130) to CFM38140 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38140)), then this is an unallowable purpose. This is referred to as a ‘main tax avoidance purpose’ in the following.

This section addresses the assessment of evidence of a main tax avoidance purpose. For more technical detail on whose purposes are in question, see CFM38125 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38125); and for more technical detail on what a main tax avoidance purpose is, see CFM38130 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38130) to CFM38140 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38140).

Full factual context

HMRC will seek to establish the full factual context to understand and assess the evidence as to whether securing a tax advantage is the main purpose or one of the main purposes. As discussed at CFM38140 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38140), tax advantage is a defined term and, in particular, only relates to UK tax. For ease of drafting, where applicable the following focusses on a group situation, but the points made may apply to other contexts, appropriately adjusted.

HMRC will seek to understand the UK and non-UK tax consequences which result from the overall arrangements, and for relevant constituent parts of the arrangements, in the UK and for the group as a whole. That will include identifying any (UK) tax advantages, applying the legislative test of tax advantage, for the company and for other group companies. To understand the full factual context, HMRC will also seek to understand the net UK tax benefit, and the net global (UK and non-UK) tax benefit, if any. Tax benefit is being used in this section in a general sense, not applying the legislative test of tax advantage: the concept of net tax benefit is not an exact one, it is simply a helpful concept for the purpose of assessing the evidence.

For instance, suppose a UK company borrows from another group company (no permanent establishments are involved), there is a deduction for interest costs fully relieved against the profits of the UK company which is fully matched by actual tax at the same rate on the receipt of interest income in the other group company, and there are no other material facts or tax considerations. There is a UK tax advantage (the deduction for interest costs). In understanding the full factual context, HMRC would generally approach this when assessing tax-related factors on the basis that, if the other group company is a UK company, there is no net UK tax benefit, and, if the other group company is not a UK company, this is a cross-border arrangement with a net UK tax benefit but no net global tax benefit.

Understanding the non-UK tax consequences will also be relevant as part of understanding and testing any purposes in relation to non-UK tax that are put forward: a purpose in relation to achieving a non-UK tax benefit may be a commercial purpose. Where purposes to achieve a non-UK tax benefit are put forward, this is a complex area and if it is in point should form part of the discussions with Counter-Avoidance Technical Team (see CFM38200 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38200)).

HMRC will seek to understand and test the commercial (non-tax) purposes that are put forward as being the purposes for which the company is party to the loan relationship. These will often be in the form of commercial (non-tax) benefits from the direct impact on the company of the use of the funds obtained. HMRC will further wish to understand the group’s commercial (non-tax) purposes for, and benefits from, the arrangements, and of relevant constituent parts of the arrangements. This will include the factors behind the choice of structure adopted, and specifically the company’s role in the arrangements, including its contribution to delivering material net group commercial (non-tax) benefits. For instance, if group financing is routed through a UK special purpose vehicle (SPV), earning a margin for the vehicle, the fact that the involvement of the SPV generates this intragroup margin does not contribute to net group commercial (non-tax) benefits. HMRC will wish to understand whether the involvement of the SPV does so in any other way, and, if so, to what extent.

Understanding the full factual context will enable case teams to make sense of the picture as a whole, and so more effectively assess the purposes for which the company is party to the loan relationship, that is, this provides critical context. In particular, based on HMRC’s experience, in most situations involving groups the relevant purposes will be the purposes of the directors of the company, who will know and take into account and be influenced by any group purposes in relation to the company’s role in wider arrangements, and so it is necessary to understand what those group purposes are. See CFM38125 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38125) and CFM38135 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38135) for more technical detail.

Principles/ potentially relevant tax-related factors

The question of whether or not securing a tax advantage is a main purpose is a matter of subjective intention, taking into account all the facts and circumstances. As discussed in CFM38135 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38135), in summary, it is often appropriate to start with the question ‘why’ in assessing the purposes for which a company is party to a loan relationship, but it is necessary to consider all the facts and circumstances, taking into account all of the principles and factors identified in CFM38135 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38135).

The following is a non-exhaustive list of potentially relevant tax-related factors which may be helpful in assessing this question. Most of these are based on principles from a plain reading of the statutory language and/or from a number of cases, and are expanded here having regard to experience in working enquiries. Assessing these and any other tax-related factors should be carried out in parallel with considering the commercial (non-tax) drivers and benefits put forward. HMRC has not identified a set of generally relevant factors for commercial (non-tax) purposes as this is very situation dependent. However, CFM38135 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38135) sets out the technical analysis on some arguments that are commonly made and CFM38200 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38200) sets out the sorts of questions which may be asked.

Assessing the position on the tax-related factors below is not an exact science and there are no prescribed approaches to doing so.

It is very important to note that none of these factors are determinative of the question as to whether securing a tax advantage is, or is not, a main purpose; that they may point in different directions; that in many cases it will be a combination of factors that results in an overall conclusion; and that the extent to which any specific factor is relevant at all will depend on the particular facts and circumstances.

The extent to which the tax advantage is known or expected or taken into account, and the degree of attention paid to securing the tax advantage

As discussed in CFM38135 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38135), the extent to which the tax advantage is known or expected or taken into account is potentially relevant, and should be assessed, but it is not determinative. In particular, it will often be known and expected and taken into account that a tax deduction be obtained for loan relationship debits: that is relevant but not determinative.

Significant attention paid to securing the tax advantage is potentially a factor pointing towards securing the tax advantage being a main purpose. The existence of substantial fees related to advice on the tax advantage or net UK or global tax benefits may be relevant to assessing the degree of attention.

However, simply considering the tax treatment of, and obtaining tax advice with corresponding fees in relation to, arrangements, as is ordinarily the case, may be of minimal significance. In particular, it would be of minimal significance if arrangements which are complex solely for commercial (non-tax) reasons require substantial consideration, and advice and corresponding fees.

In many circumstances, if there are substantial fees dependent on obtaining the tax advantages and in excess of any stated commercial (excluding UK tax) benefits, having assessed all relevant factors it is likely there will in fact be a main tax avoidance purpose.

The size of the tax advantages, in particular in comparison to the size of commercial (excluding UK tax) benefits

A tax advantage which is large in comparison to the size of commercial (excluding UK tax) benefits is potentially a factor pointing towards securing a tax advantage being a main purpose.

A tax advantage which is large in absolute size is also potentially such a factor: however, there is no bright line test of what large in absolute terms is and this is particularly a factor which may be of minimal significance in some circumstances. For instance, suppose a loan relationship with a large principal is taken out for commercial (non-tax) purposes on commercial terms. In the absence of other relevant factors, the mere existence of interest deductions which could be described as large in absolute size would have very little significance in the overall assessment and would certainly not of itself mean that there was a main tax avoidance purpose.

The existence, or lack, of net UK tax benefits in wholly UK or cross-border financing arrangements

Net UK tax benefits in wholly UK financing arrangements may arise in a number of ways. For instance, net UK tax benefits may arise where the arrangements result in an asymmetry in the UK between a deduction for interest costs obtained by the company in the UK and the treatment of interest received by another group company in the UK, which results in a net UK tax benefit. This could arise, for example, because of a difference in tax rate or because of the existence of tax attributes such as losses. Net UK tax benefits may also arise in cross-border financing arrangements, both in straightforward cases and also in more complex ones, often associated with net global tax benefits.

If there are net UK tax benefits:

Their existence in wholly UK financing arrangements will potentially be a factor pointing towards there being a main purpose of securing a (UK) tax advantage. It will be necessary to take into account all relevant factors to determine whether or not there is in fact a main tax avoidance purpose.

Their existence in cross-border financing arrangements should be assessed in the context of the net global tax benefits position, see below.

If there are no net UK tax benefits:

This will potentially be a factor pointing against securing a tax advantage being a main purpose. In many circumstances, having assessed all relevant factors, it is likely there will not in fact be a main tax avoidance purpose (or, at the least, at the stage of attribution on a just and reasonable apportionment, no debits should be attributed to any such purpose: see CFM38150 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38150) for further detail of attribution on a just and reasonable apportionment).

The existence, or lack, of net global tax benefits in cross-border financing arrangements

Net global tax benefits in cross-border financing arrangements may arise in a number of ways. For instance, they may arise where cross-border financing arrangements result in an asymmetry globally between a deduction for interest costs obtained by the company in the UK and the treatment of interest in the lender’s overseas jurisdiction, which results in a net global tax benefit, for example, because of a difference in tax rate or because of the existence of tax attributes such as losses.

If there are net global tax benefits:

To the extent this involves a purpose of securing a non-UK tax benefit, this is not, of and by itself, a purpose of securing a tax advantage. Indeed, a purpose of securing a non-UK tax benefit for the group can be a commercial (non-UK tax) purpose, see above.

However, most such financing arrangements require, and involve, substantial tax advantages by way of deductions on loan relationships, and indeed substantial net UK tax benefits by way of deductions on loan relationships not matched with income taxed in the UK, to achieve the net global tax benefit. Further, the existence of a net global tax benefit will often be relevant to the degree of attention paid to tax, including attention paid to securing tax advantages. Both these elements will potentially be factors pointing towards a main purpose of securing a tax advantage.

It will be necessary to take into account all relevant factors to determine whether or not there is in fact a main tax avoidance purpose, and this is an area where the examples at CFM38190 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38190) should be of particular assistance.

If there are no net global tax benefits:

This will be potentially a factor pointing against securing a tax advantage being a main purpose. In many circumstances, having assessed all relevant factors, it is likely there will in fact not be a main tax avoidance purpose (or, at the least, at the stage of attribution on a just and reasonable apportionment, no debits should be attributed to any such purpose: see CFM38150 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38150) for more detail on attribution on a just and reasonable apportionment).

It is also particularly worth noting that other rules, for instance thin capitalisation and transfer pricing rules, the Corporate Interest Restriction rules, and the hybrids rules, and also the provisions of the Double Taxation Treaties, may be applicable in cross-border financing.

Whether or not the arrangements would have happened, or would have happened in a different way, that is, ‘but for’ the tax advantage

It can be relevant to look at whether the arrangements would have happened, or would have happened in a different way, had the potential for the tax advantage never existed or had ceased to exist in the course of developing the arrangements. This is particularly relevant where the arrangements would have happened in a simpler way but for the tax advantage, and that extra complexity has arisen to get the tax advantage.

If the arrangement would not have happened, or would have happened in a different way, but for the tax advantage, this is potentially a factor pointing towards securing a tax advantage being a main purpose. In cross-border financing arrangements, whether or not there is any material net group commercial (non-tax) benefit from involving the UK is often a key point. For instance, if there is a non-UK entity who would from a commercial (non-tax) perspective be the natural entity to borrow to acquire shares in a third party, but instead financing is obtained via the UK because of the tax advantage by way of tax deductible debits (perhaps as part of achieving a net global tax benefit), then in many circumstances, having assessed all relevant factors, it is likely there will in fact be a main tax avoidance purpose.

Again, however, the fact that arrangements would not have happened, or would have happened in a different way, but for the tax advantage, is not determinative. There will be situations in which arrangements involving funding for commercial (non-tax) purposes would not go ahead absent a tax deduction for the loan relationship costs which are not within the scope of the rule; and situations where a choice has been made between different ways of carrying out a commercial transaction so as to minimise tax, possibly resulting in a slightly more complex structure, where this is of minimal significance and where the situations are not within the scope of the rule.

This is an area where the examples in CFM38190 (https://www.gov.uk/hmrc-internal-manuals/corporate-finance-manual/cfm38190) may be of particular assistance.

Whether the borrowing funds activities or investments which are not expected to generate UK tax, either immediately or at all

This may potentially be a relevant factor where it contributes to the assessment of other factors.

Borrowing to fund activities or investments which are not expected to generate UK tax may be relevant to whether securing a second tax advantage, in addition to the tax advantage from the deductibility of financing costs on the loan relationship, is in point. For instance, there may be borrowing to fund investments which do not generate UK tax because of tax avoidance arrangements.

The fact that activities or investments do not generate UK tax may in some cases be because they are the sorts of activities or investments less clearly commercially linked to the UK, which in turn may be relevant to the factor of whether or not the arrangements would have happened, or would have happened in a different way, but for the tax advantage.

However, in some circumstances, the fact that the borrowing funds activities or investments which are not expected to generate UK tax has minimal significance. In particular, suppose ordinary commercial debt financing by a UK company is to be used by it to acquire shares, UK or non-UK, as a commercial development of its existing business. The fact that the return on the shares acquired for the company (income, on an ongoing basis, or capital, on a later sale) is not expected to attract tax (by virtue of an applicable dividend exemption or the substantial shareholding exemption) has minimal significance in assessing whether securing a tax advantage is a main purpose.