CFM52570 - Derivative contracts: embedded derivatives: rules for groups

CTA09/S618

This guidance is relevant to cases where the accounting standards applied result in the separation of an embedded derivative. For details of the accounting treatment for embedded derivatives and hybrid debt see CFM25020.

Elections in a group context

S618 contains rules to ensure consistent treatment of contracts that are within the scope of a disapplication election, where transactions involve companies within a group. ‘Group’ here takes its meaning from TCGA92/S170 (see CG45100). The rules apply to three scenarios:

(1) Two companies within the same group are parties to a contract (which is not a loan relationship) containing an embedded derivative. One company has made a disapplication election, and the election applies to the contract in question. The second company has not made an election. The second company must treat that particular contract for tax purposes as if it had elected out of S616.

(2) A company, which has made a disapplication election, transfers a contract (which is not a loan relationship) containing an embedded derivative to another company in the same group. The transferee company must treat that contract as if it had also made a disapplication election.

This applies even if the transfer happens before the transferor company makes the election. For example, suppose that X Ltd, which draws up accounts to 31 December, first becomes party to such a contract on 1 March 2010. On 1 September 2010, it transfers the contract to a fellow group company, Y Ltd, and on 20 December 2010 it elects out of S616. Y Ltd must treat the contract for tax purposes as if it had also elected out of S616.

(3) The converse situation is where the transferor company (A Ltd) has not elected out of S616, but the transferee company (B Ltd) has. In this case, B Ltd’s disapplication election does not apply to the contract that has been transferred - it must apply S616 to that contract. But this does not apply if, subsequent to the transfer, A Ltd makes a disapplication election.