INTM559310 - Hybrids: imported mismatches (Chapter 11): apportioning the relevant mismatch

Mismatch payment

If there is more than one relevant payment in relation to the relevant mismatch, then the UK company is subject to a counteraction based on its share of the relevant mismatch.

The share of the relevant mismatch is determined by apportioning the relevant mismatch between every payer in relation to the relevant payment on a just and reasonable basis, having regard to the extent to which the imported mismatch payment made by the UK company and the other relevant payments fund (directly or indirectly) the mismatch payment.

It is presumed that, to determine a ‘just and reasonable’ allocation, the mechanical allocation rules from the OECD 2015 Final Report are used as a starting position.

For the purposes of determining the appropriate apportionment of the relevant mismatch, the imported mismatch payment is to be taken to fund a mismatch payment, unless it can be shown that the mismatch payment has instead been funded (directly or indirectly) by one or more relevant payments.

S259KC(8) places the onus on the UK company payer of the imported mismatch payment to identify and justify other relevant payments.

A simple example might be where the relevant mismatch is in relation to a hybrid financial instrument whereby the receipt was effectively 50% undertaxed. If a portion of the funds (say 40%) obtained under this instrument was on-lent to the UK under a plain vanilla debt (under which interest payments (the imported mismatch payments) were made, and the balance (say 60%) was on-lent to a company in a non-UK territory, then a just and reasonable apportionment of the relevant mismatch might be 40% of it.

Excessive PE deduction

In the case of an excessive PE deduction where a payment is actually made, and there is more than one relevant payment that can be considered as funding the relevant mismatch, then the recognition of the relevant share of the mismatch borne by the UK company follows the same test as for the mismatch payment. The share of the relevant mismatch is determined by apportionment on a just and reasonable basis, having regard to the extent to which the imported mismatch payment made by the UK company and the other relevant payments fund the mismatch transfer of money or money’s worth.

Where there is an excessive PE deduction that is in substance treated as being made for tax purposes, but no payment is actually made, then it is necessary to consider on a just and reasonable basis to what extent the imported mismatch payment made by the UK company and the other relevant payments would have funded the mismatch transfer if it had actually been made.

Again, s259KC(5) and (6) place the onus on the company to show that the relevant mismatch was funded by other relevant payments, with a de-facto presumption (in the absence of evidence to the contrary) that it was funded by the UK’s imported mismatch payment.

Limit on reduction under section 259KC

The Finance Act 2021 introduced a limit to the counteraction applied by Chapter 11, in addition to the proportionate adjustment described above where there is more than one payer.

Section 259KE caps the amount of any counteraction made as a result of a relevant mismatch at the amount which the relevant mismatch would have been had the mismatch payment been equal to the amount of the imported mismatch payment (paid by the UK payer).

For example, UK payer P pays 100 (the imported mismatch payment) to company A in jurisdiction A, and company A makes a mismatch payment of 200 to company B in jurisdiction B. The mismatch payment creates a relevant mismatch of 80. In these circumstances had the mismatch payment been 100 rather than 200, it is reasonable to assume that the relevant mismatch would have been 40, rather than 80, and so the counteraction is limited to 40. As a result, the counteraction is limited to the element of the mismatch deriving from the proportion of the mismatch payment which can be said to have been funded by the payment by P.

As with other changes to Chapter 11 in Finance Act 2021 s259KE applies to payments made after 10 June 2021, the date of Royal Assent of the Finance Act 2021, or in the case of quasi-payments, to payment periods beginning after that date.

Interaction with Transfer Pricing

Finance Act 2021 introduced s259KF into Chapter 11 which is relevant to cases that are also within Part 4 of TIOPA 2010. If there has been a reduction in the deduction allowed for the imported mismatch payment under s147(3) or (5) of TIOPA, then s259KF applies a proportionate reduction to the calculation of the relevant mismatch, and so to the counteraction under Chapter 11.

Where the payer, P, of an imported mismatch payment is required to reduce the deduction claimed in calculating taxable profits or losses under s147(3) or (5) TIOPA 2010 (tax calculations based on arm’s length, not actual, provision), s259KE provides for the relevant mismatch to be determined as if the mismatch payment were reduced by the same proportion.

For example, if company A makes a payment (the imported mismatch payment) of 100 to company B, and company B makes a payment of 100 (the mismatch payment) that creates a relevant mismatch of 100, assuming no other payments were made that were relevant to the mismatch, company A would ordinarily impose a counteraction of 100. However, if the payment made by A was reduced on an arm’s length basis to 50, then under s259KE, we assume that the mismatch payment from Company B is also reduced to 50, and therefore the counteraction is similarly reduced.

As with other changes to Chapter 11 in Finance Act 2021 s259KF applies to payments made after 10 June 2021, the date of Royal Assent of the Finance Act 2021, or in the case of quasi-payments, to payment periods beginning after that date.