CFM96640 - Interest restriction: alternative calculations: interest allowance (alternative calculation) election: capitalised interest

TIOPA10/S423

The default approach for calculating group-interest and group-EBITDA is based closely on the amounts recognised in the group’s financial statements. In particular, the calculation of adjusted net group-interest expense (ANGIE) includes all amounts of interest that is capitalised in the period.

Where, however, the group has made an interest allowance (alternative calculation) election, certain adjustments are made to the default approach to align the calculations more closely with the UK tax rules. One such adjustment is to mirror the UK tax rule for capitalised interest.

Background

The Corporation Tax rules for dealing with capitalised interest and other amounts distinguish between the nature of the asset or liability in which the amounts are capitalised.

In most cases, tax relief is available for capitalised amounts at the time they are capitalised. However, where the asset or liability is taxed in line with the accounts (referred to as ‘GAAP-taxable’) the tax relief follows the accounting treatment. In particular, this applies to trading stock and intangible fixed assets.

Effect of the election

Where an interest allowance (alternative calculation) election is made, the adjustments made when calculating adjusted net group-interest expense in respect of capitalised interest are no longer applied. This brings the treatment in line with UK tax principles for loan relationships and derivative contracts.

For the purposes of this section, all members of the group are treated as within the charge to Corporation Tax. As a result, the same treatment applies irrespective of the tax residence of the company holding the asset.

For periods beginning on or after 1 January 2019, S423 has been amended to ensure that where a GAAP-taxable asset is also a relevant asset (such as an intangible fixed asset), the calculation of ANGIE includes (by way of an upward or downward adjustment) the amount of any amortisation or write off of relevant amounts previously capitalised in the asset.

Where a company has elected for an intangible fixed asset to be relieved under CTA09/S730 (at a fixed rate of 4% per annum), it will fall to be included as a GAAP-taxable asset.

For periods beginning on or after 1 April 2023, S423 has been amended to clarify that where assets are appropriated from trading stock to fixed assets (under CTA09/S157), or deemed to be so appropriated (under TCGA92/S173), the calculation of ANGIE is the same as if the asset had been disposed of.

Administration

The interest allowance (alterative calculation) election can only be made by a reporting company within an interest restriction return (full or abbreviated) and is irrevocable.

Groups which are capitalising large amounts of interest in respect of assets that are not GAAP-taxable assets should make the election in the earliest possible period of account. This puts beyond doubt that interest capitalised in the early periods are not included in the calculation of ANGIE, and can then be included in the ANGIE when the interest passes through the accounts as depreciation or the asset is disposed of. Failure to do this may lead to the capitalised interest being permanently disallowed due to the operation of the debt cap in later years.

Examples

The following examples contrasts the calculations under the default approach.

Example 1: Interest capitalised in fixed asset

JK plc prepares accounts to 31 March each year. It builds a factory for £40m as new premises for its widget manufacturing business. The company borrows money for this purpose and in doing so capitalises the interest of £4m incurred during the year ended 31 March 2018 during the construction of the factory. This borrowing cost increases the total value of the tangible fixed asset on the balance sheet to £44m. The factory is completed on 1 April 2018 and is subsequently depreciated over 10 years on a straight-line basis.

JK plc has relevant interest expense amounts of £100m each year on other loans.

As the factory is classed as plant, property & equipment in the company’s accounts, the interest is recognised in profit or loss through the depreciation charge.

In this case there is no difference with the default approach.

In summary:

	NGIE	ANGIE
Year ended 31 March 2018	£100m	£104m
Year ended 31 March 2019	£100m	£100m

Example 2: Interest capitalised in trading stock - development property

YZ plc is a property development group. In year ended 31 March 2018, year 1, the group built a new development property as part of its trading stock. The actual construction cost of the building was £100m, and the associated interest of £10m was capitalised. In year 2, the group sold the property for £150m.

Assume YZ plc has relevant interest expense amounts of £100m each year on other loans.

YZ plc made an interest allowance (alternative calculation) election.

Year 1

In the first year, YZ plc capitalised the interest of £10m. As a result, this amount was not reflected in the group’s profit or loss for the period and hence was not included in calculating the net group-interest expense (in the same way as under the default approach).

Because an interest allowance (alternative calculation) election was made, the £10m capitalised interest was not included in the adjusted net-group interest expense for the period.

Year 2

In the second year, YZ plc sold the property. The £10m capitalised interest was recognised in the profit or loss for the period as part of the cost of sale.

As the £10m related to the writing off of an asset, the £10m was included in the net group-interest expense (in the same way as under the default approach). This ensures that this interest cost is excluded from the calculation of group-EBITDA.

As an alternative calculation election was made, no adjustment was made to NGIE in the calculation of ANGIE. As a result, the £10m was included in ANGIE in the year of disposal.

In summary:

	NGIE	ANGIE
Year ended 31 March 2018	£100m	£100m
Year ended 31 March 2019	£110m	£110m