GIM7340 - Equalisation reserves: the tax rules: example of apportionment for double taxation relief

Double taxation relief before equalisation reserve movements

Attribution of transfer into the equalisation reserve to each branch

Waiver of part of deduction for equalisation reserves

Determine the tax credits to be set against UK profits

Double taxation relief before equalisation reserve movements

A UK resident company has branch operations in Italy, Spain and France. All of its business is marine, aviation and transport business. The premiums arise from business which falls within the scope of the equalisation reserves rules. Double tax credits and profits (before taking into account movements in the equalisation reserve) are as follows:

£000 UK Italy France Spain Total
Premiums from relevant business 25,000 8,000 12,000 10,000 55,000
Profits 12,000 2,000 4,000 3,000 21,000
Tax credits - 500 300 737 1,537

There is a net transfer into the equalisation reserve of £3m.

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Attribution of transfer into the equalisation reserve to each branch

In order to compute the profits arising from each branch it is necessary to apportion this transfer in between the various territories as described above using the formula in regulation 10(1) to 10(4):

(A x B)/C

In this example

A, the amount transferred into the reserve, is £3m

B, the net premiums of the branch relating to business for which equalisation reserves are maintained, is different for each branch

C, the total net premiums relating to business for which equalisation reserves are maintained, is £55m:

Premiums from relevant business

  • UK £25,000
  • Italy £8,000
  • France £12,000
  • Spain £10,000

It is possible now to calculate how much of the transfer into the equalisation reserve of £3m should be allocated to each branch:

  • UK 3,000,000 x 25,000/55,000 = 1,364,000
  • Italy 3,000,000 x 8,000/55,000 = 436,000
  • France 3,000,000 x 12,000/55,000 = 655,000
  • Spain 3,000,000 x 10,000/55,000 = 545,00

Total 3,000,000

It is now possible to attribute the profits to each branch and determine how much of the various tax credits may be set against UK profits:

£000 UK Italy France Spain Total
Premiums from relevant business 25,000 8,000 12,000 10,000 55,000
Profits 12,000 2,000 4,000 3,000 21,000
Tax credits - 500 300 737 1,537

The tax computation is:

£000 UK Italy France Spain Total
Profits 12,000 2,000 4,000 3,000 21,000
Equalisation reserve deduction (1,364) (436) (655) (545) (3,000)
Net profits 10,636 1,564 3,345 2,455 18,000
CT payable at (say) 30% 3,510 469 1,004 737 5,720
Tax credit available 500 300 737 1,537  
Tax credits used 469 300 737 1,506  
Tax credits unused 31 Nil Nil 31  

Waiver of part of deduction for equalisation reserves

As the company is unable to use all of its Italian tax credits, it may wish to waive part of the equalisation reserves deduction which has been attributed to Italian branch profits. It might want to waive enough of the deduction to generate an extra tax charge of £31,000 corresponding to extra profits of £103,000, and to exercise the right to choose to allocate the whole waived amount to the Italian branch.

The tax computation would be:

£000 UK Italy France Spain Total
Profits 12,000 2,000 4,000 3,000 21,000
Equalisation reserve deduction (1,364) (436) (655) (545) (3,000)
Waiver of deduction - 103 - - -
Net profits 10,636 1,667 3,345 2,455 18,000
CT payable at (say) 30% 3,510 500 1,004 737 5,720
Tax credit available - 500 300 737 1,537
Tax credits used - 500 300 737 1,537
Tax credits unused - Nil Nil Nil Nil

The unused equalisation reserves deduction of £103,000 will be carried forward to be set off against transfers out of the reserve in future years. To illustrate this, suppose that the following year a net transfer out of the equalisation reserve is made of £1,103,000. The profits (before taking equalisation reserves transfers into account), claims relating to equalisation reserves business and tax credits are:

£000 UK Italy France Spain Total
Claims from relevant business 12,500 4,000 6,000 5,000 27,500
Profits 12,000 2,000 4,000 3,000 21,000
Tax credits - 500 300 737 1,537

Before starting the process of apportioning the equalisation reserves addition between branches, the unused relief from the previous year needs to be taken into account:

Transfer out of reserve £1,103,000
Unused equalisation reserves deduction £103,000
Balance to be deducted from profits £1,000,000

In this example

Then, in order to compute the profits arising from each branch the balance needs to be apportioned among the various territories using the formula in regulation 10 of the tax regulations: D x E/F

D, the balance of the amount transferred out of the reserve, is £1m

F, the total net claims branch used in determining whether a transfer out of the equalisation reserve is due, is £27.5m

E, the net claims of the branch used in determining whether a transfer out of the equalisation reserve is due, is different for each branch.

Premiums from relevant business:

  • UK £12,500
  • Italy £4,000
  • France £6,000
  • Spain £5,000

It is possible now to calculate how much of the balance of the transfer out of the equalisation reserve of £1m should be allocated to each branch:

  • UK 1,000,000 x 12,500/27,50 = 455,000
  • Italy 1,000,000 x 4,000/27,500 = 145,000
  • France 1,000,000 x 6,000/27,500 = 218,000
  • Spain 1,000,000 x 5,000/27,500 = 182,000
    Total = 1,000,000

Determine the tax credits to be set against UK profits

£000 UK Italy France Spain Total
Profits 12,000 2,000 4,000 3,000 21,000
Equalisation reserve addition to profits 455 145 218 182 1,000
Net profits 12,455 2,145 4,218 3,182 22,000
CT payable at (say) 30% 3,737 643 1,265 955 6,600
Tax credit available - 500 300 737 1,537
Tax credits used - 500 300 737 1,537
Tax credits unused - Nil Nil Nil Nil

In contrast to a deduction from profits arising from a transfer into an equalisation reserve, there is no element of choice in the allocation of an addition to profits as a result of a transfer out.