Tony Mudd: Taxing times ahead for corporate investments

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If you have any private company clients, the chances are that some of them will have funds they hold on deposit over the medium to long-term.

Many of these companies will be owner managed, with surpluses generated through successful trading and unspent/un-invested profits left on deposit, the same way an individual will accumulate surplus funds. However, when it comes to taxation there is no similarity between the two.

Investments held by a company will be taxed in an entirely different way from the same investments held by an individual. This is because they are covered by the loan relationship rules, as the company, subject to its accounting principles, will suffer corporation tax on an annual basis on profits and gains, regardless of whether they are realised. The important caveat here is “subject to its accounting principles”.

Current position

If we look at investment bonds and accepting that the loan relationship rules extend well beyond such investments, we have two accounting principles: the historical cost basis and the fair value basis. Under the fair value basis, any increase in the value of the investment, as a result of gains or accumulated income, will then be assessed as a non-trading credit and become subject to corporation tax. However, under the historical cost basis, corporation tax is only levied when part or all of the investment is realised. For this basis to apply, the company would need to satisfy various rules under the Financial Reporting Standard for Smaller Entities. While companies assessed under the FRSSE are able to benefit from tax deferral, this is all about to change.

Change ahead

It is the Government’s intention to implement the European Commission’s Accounting Directive 2013/34/EU, which will see FRSSE replaced by Financial Reporting Standard 102. The implications of this are that all small, medium and large companies will now be assessed – for all practical purposes – on the fair value basis. As a result, they will become subject to tax on the underlying profit or gains on an annual basis. This will come into effect for all accounting periods commencing on or after 1 January 2016. Although transitional rules will apply, tax referral will cease to become available.

Size matters

The only exclusion from these rules will be in respect of “micro-entities”. These are very small companies that will be able to continue with the historical cost basis using FRS105 (currently in draft), provided the company does not exceed two or more of the following criteria:

  • Turnover: £632,000
  • Balance sheet: £312,000
  • Number of employees: 10

It should be noted that these were still just proposals open for comment until 30 April but final amendments are expected by July. That being said, most commentators expect the directive to be implemented in full and FRS102 to be the accounting principle for most companies. With January a little over six months away, the need for a review of the companies holding investment funds within onshore and offshore investment bonds is clear.

Tony Mudd is divisional director of tax and technical support at St James’s Place