ETASSUM52080 - Enterprise Management Incentives (EMI): Qualifying companies: Trading activities & UK permanent establishment requirement

Paragraphs 13, 14A & 15, Schedule 5 of the Income Tax (Earnings and Pensions) Act 2003 (ITEPA)

For a company to be a qualifying company for EMI purposes, a company must carry on a qualifying trade on a commercial, profit making basis, which does not, to any substantial extent, include certain excluded trading activities. Until 15 December 2010 the qualifying trade must have been carried on wholly or mainly in the UK.

With effect from 16 December 2010 the requirement became that the qualifying company must have a permanent establishment in the United Kingdom. If the company is a parent company, at least one member of the group must meet all other trading activity requirements, whilst having a permanent establishment in the United Kingdom.

For a company to be considered to have a permanent establishment in the United Kingdom, either of the following must apply:

  • it has a fixed place of business there through which the company’s business is wholly or partly carried on; or
  • an agent acting on behalf of the company has and habitually exercises their authority to enter into contracts on behalf of the company.

The legislation lists a number of examples of fixed places of business, including:

  • a place of management;
  • a branch;
  • an office;
  • a factory,
  • a workshop,
  • an installation or structure for the exploration of natural resources,
  • a mine, an oil or gas well, a quarry or any other place of extraction of natural resources; and
  • a building site or construction or installation project.

The type of business will determine the type and nature of the premises or facilities required. However, these would qualify as a permanent establishment only if in relation to the business as a whole, the activities carried on there are not of a preparatory or auxiliary character.

The legislation also allows a company to be treated as having a permanent establishment in the UK where an agent has and exercises authority in the UK to enter into contracts on behalf of the company. This test is offered as an alternative to the “fixed place of business” test and the company need only meet one of the tests to qualify.

The agent must have and must repeatedly use the authority to enter into contracts on behalf of the company or which are otherwise binding on the company. The contracts in question must relate to the substantive business of the company and not merely to matters which would be considered preparatory or auxiliary.

If a company is not a member of a group it must exist (apart from any incidental purposes) wholly for the purpose of carrying on one or more qualifying trades.

The purposes for which a company exists fall to be ascertained primarily by reference to what, through its directors and employees, it actually does, and not, for example, by reference to the intentions of those who originally formed it

It must be either carrying on a qualifying trade or preparing to carry on a qualifying trade which it must begin within two years of the options being granted. If the trade does not begin within this time period, this is a disqualifying event, (See ETASSUM57080).

A new company whose directors are actively engaged in setting up a trade should not be regarded as failing to satisfy the rule merely because it is not yet trading and a large part of its funds is temporarily being held on deposit. However, the making of investments which are less easily realisable is likely to lead to the conclusion that the company exists for investment purposes, even if there is an intention to trade at a later date.

Carrying on research and development from which a qualifying trade will be derived, or benefit, is treated as carrying on a qualifying trade, but preparing to carry on research and development, does not count as preparing to carry on a qualifying trade. Research and development means activities that are treated as research and development in accordance with normal accounting practice, but this excludes oil and gas exploration or appraisal.

When considering whether the trade is a qualifying trade, the holding and managing of property used by the company, and holding shares to which investment relief is attributable, if this is not a substantial part of the company’s business, are disregarded.