EIM46085 - Section 554Z11C: Chapter 2 liability equal to or greater than earlier charges: examples

ITEPA 2003 – section 554Z11C(7) - (10)

Example 1

A relevant step is taken in 2017-2018 on an amount loaned to an employee of £300 giving rise to a Chapter 2 liability for £135.

The loan arises from amounts earmarked in earlier years which gave rise to tax charges as follows:

  • 2012-2013 - £100 × 45% = £45
  • 2013-2014 - £100 × 45% = £45
  • 2014-2015 - £100 × 45% = £45

The £300 loan is sum P. It is made up entirely of the amounts previously earmarked so an overlap exists in terms of the income included in the liability for each separate earlier year. The income subject to tax in each of the earlier years is therefore an item within section 554Z11B(2)(b).

The liabilities for these earlier years are still referred to as earlier charges to the extent that they relate to the overlap. This is provided for by section 554Z11C(9)(a). Here the liabilities are made up entirely of amounts which overlap with the Chapter 2 tax liability so they are also the earlier charges for each individual year.

As noted above each of these overlap individually with the Chapter 2 tax liability for 2017-2018. Each one is a relevant Chapter 2 overlap charge. The total Chapter 2 tax liability therefore contains 3 separate individual relevant Chapter 2 overlap charges, one for £45 for each year.

To obtain relief, a payment of the Chapter 2 liability must be made. Where this amount covers all or part of 2 or more of the relevant Chapter 2 overlap charges, the payment will also be treated as a payment on account of the earlier charges. The split of the payment is to be allocated justly and reasonably across the earlier charges.

A payment of £90 is made towards the 2017-2018 liability. This is the Chapter 2 aggregate paid amount. This is also paid in respect of 2 or more relevant Chapter 2 overlap charges.

It would be reasonable to allocate this to the earlier charges by setting £30 towards each charge. An amount of £30 can therefore be used as a payment on account of each of the earlier charges of £45, leaving an amount of £45 outstanding in respect of the 2017-2018 tax liability. This means an amount of £45 still needs to be settled in terms of the 3 relevant Chapter 2 overlap charges included in the Chapter 2 tax liability. There will also be £15 still outstanding in respect of each of the earlier charges.

Example 2

  • a loan of £100 made in 2008 resulting in a tax liability of £40
  • a loan of £100 made in 2009 resulting in a tax liability of £40
  • a loan of £100 made in 2010 resulting in a tax liability of £50
  • the loan charge applies in 2019 on the £300 loan balance resulting in a tax liability of £135

The £300 loan charge would be sum P which would overlap with each of the 2007‑2008 to 2009‑2010 liabilities, for example, 3 items within section 554Z11B(2)(b). The relevant Chapter 2 overlap charges for each tax year would be:

  • 2007-2008 - £40
  • 2008-2009 - £40
  • 2009-2010 - £50

£135 is then paid by the taxpayer as a Chapter 2 aggregate paid amount against the Chapter 2 tax liability. This would also be in respect of ‘two or more relevant Ch2 overlap charges’ within section 554Z11C(7)(b)(i). This is because £135 is a Chapter 2 tax liability which relates to an overlap between it and each of the 3 other items.

To determine the amounts of the individual earlier charges under section 554Z11C(9)(a), it is necessary to consider how much of the liability for each year relates to the overlap. On the facts here, the liability would be the earnings charge on the contribution/allocation of the £100 in 2008, 2009 and 2010 which was lent out, for example, the £40, £40 and £50. As these overlap 100% with the loan charge, the ‘earlier charge’ would be the same.

Under section 554Z11C(9)(b) the £135 needs to be justly and reasonably apportioned between the earlier charges of £40, £40, and £50. This does not necessarily require the amount to be allocated on a straight line split of £45, £45 and £45, leaving an additional £5 due on the 2010 liability. The amount should be allocated £40, £40 and £55. This clears all the previous charges and allows the £5 overpaid on the 2010 liability to be set against any late payment interest arising on that charge.