INTM503120 - Cash pooling: Legal and commercial arrangements

There are two main types of cash pooling arrangement:

  1. Notional cash pooling – this allows the group to net off the balances of different accounts across jurisdictions, without physically moving the cash to a header account. This is in essence an interest rate adjustment, and the ownership of the cash does not change.
  2. Zero balancing (also known as cash concentration or physical cash sweeping) – where the group physically sweep excess cash out of the individual bank accounts to a header account on a daily basis, or target balancing – where a predetermined amount is left in the company. In this arrangement, the ownership of the cash changes: the relationship moves from a deposit with a third party bank to a loan to the cash pool header (a related party).

Arrangements vary, and may include elements of notional and physical pooling. For example, there may be a physical sweep where all the companies in one jurisdiction move their cash into one master account, which is then notionally pooled with master accounts from other jurisdictions. The legal documentation should be reviewed carefully, as there may be variations in the legal arrangements governing each cash pooling arrangement, depending on the specific circumstances and requirements of the group. However, common features are as follows:

  • A master agreement between the third party bank and the cash pool header, setting out the type of cash pooling arrangement being entered into and the terms and conditions of the arrangement.

  • Although the third party bank may well directly credit/debit individual accounts with interest receivable/interest payable, how the aggregate interest debit or credit (in fact nil in the illustration above) is allocated between depositors and borrowers in the cash pool will likely be by reference to “arm’s length interest rates”. Whether these are initially set by reference to the bank’s internal interest rates or by the group themselves, the responsibility to use an arm’s length rate remains with the group.

    Whilst it may seem that in Example 1 given above, there would be no credits/debits to put through, this would not lead to an arm’s length result. If this was the case, the borrowers would save £750k plus £250k = £1 million in interest expense, and the depositor (C Sarl, above) would be £200k worse off than if he had deposited his funds outside the cash pool, with no reward to the cash pool header. Therefore, internal deposit/borrowing rates need to be set to provide an arm’s length allocation of the benefit (see INTM503130).

The interest debits/credits may sometimes be disclosed as “external interest” in the tax returns/statutory accounts, which can make it difficult to pick up a potential TP risk unless further information is obtained.

  • The legal agreement will often refer to the arrangement being for “short-term” cash surpluses/borrowing requirements, which we would interpret in the first instance to mean less than 12 months. This is normally supported by the fact that the external bank’s deposit/borrowing rates applied will be based on e.g. overnight or 1 month LIBOR.
  • There is likely to be a template agreement included in a schedule of the master agreement, which will be for use between the cash pool header company and each individual participant company, and on the basis of which group companies enter into the cash pooling arrangement as pool participants.
  • Within the legal documentation, it is normal for each of the pool participants to provide a cross guarantee (or similar legal security), in respect of other participants’ borrowing from the cash pool. This protects the bank’s interests in the case of a pool participant being unable to repay its borrowings. This may considerably increase the risk of a depositor not getting their cash back, over and above the default risk it would normally have with a third party bank as a counterparty.