bad debt relief

bad debt relief

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Company A  lent Company B cash to help fund property development - 40% of project development cost was funded in return for 40% of the profit/loss. Where the development is loss making can Co A get bad debt relief on its share of the loss?

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By Democratus
03rd Sep 2009 12:55

I'm no expert but

Nick

I'm not sure that there is a loss here, rather a lack of income. How was the investor to get his share of the profit? Unless the actual capital loaned out is at risk of default, and you may need to look at the loan agreement to determine what if anything is referred to here, then what loss has been incurred. 

I'm speaking from an accounting angle here not a tax viewpoint. 

Hopefully other opinions will come in and help you.

 

D  

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By nick farrow
04th Sep 2009 10:59

Many thanks Democratus

Many thanks for your comment Democratus - the investing company received its share of the profit by invoicing for it - however in this case the loan to Company B would be written down by effectively setting off a purchase invoice from company B for it's share of the loss - I was not involved in setting up this arrangement I am not convinced it is correct

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By kenmoody
04th Sep 2009 12:36

Oi you can't do that!
You can't be awarded best reply for responding to your own question! You must return the award immediately.

So, if company A lends £100k and the development makes a profit £100k it gets back £140k, so makes a £40k profit. But if it lends £100k and the development made a £100k loss you are saying company B invoices company A for £40k and repays only £60k.

If the transaction is structured as a loan then I'd have thought that these would be trading loan relationships credits/debits. I am not sure what the alternative would be. I suppose you would have to treat as a joint venture and account for the profits/losses as trading profits or losses, in which case the 'loan' would not appear in the accounts would it? I'm not an accountant mind you so my bookkeeping knowledge is pretty sparse.

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By nick farrow
04th Sep 2009 14:22

sorry Ken - I had no idea how that toggle worked - I do now

I did a good deal of research on this and I believe the correct treatment is that the arrangment is called by HMRC "a slice of the action scheme" and the profit share should not be invoice for but should instead be paid over as a distribution just as if it were a dividend -  I assume any loss on the deal would result in a NTLR deficit

As previous years have been dealt with as trading income then I hoping and relying on symetry that the loss should be treated as a trading loss - the director does get involved in advising on the developments

 

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By kenmoody
04th Sep 2009 16:29

I'm not sure I deserve it either ...
.... but what you say doesn't quite ring true. A company isn't taxable on distributions and so if you treat as a dividend in company A then it won't pay tax on it and company B won't get a deduction. And you can't have a negative distribution so the loss situation doesn't sit well with that treatment. Also I don't see how a company can receive a distribution from a company which it doesn't have shares in, unless you are using the word 'distribution' in a colloquial sense. I can see that you could tax it as a distribution of profit i.e. not a distribution in the dividend sense. In that case yes I suppose a loss would be a NTLRD - provided that the advances are indeed structured as loans which must include some written terms for repayment I'd have thought. I'm not speaking from personal experience here, but I have seen this question a few times on AW and also in Taxation. I have something at the back of my mind about this which may surface over the weekend - or if you have researched then maybe you could provide a link. I'm not sure it matters as long as the profits are treated as trading profits and the losses as trading losses or relievable as NTLRDs, but how you account for I've no idea though, again, I suspect this will come down to the paperwork.

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By nick farrow
04th Sep 2009 17:24

further info

Hi Ken - this is what I got from very helpful person at HMRC:

Much would depend on how the investment was structured.  For example, it would seem possible for the investor to subscribe for a "golden share" that would give the right to a dividend equal to half the profit - in such a case, there would be no doubt that this would be a dividend for tax purposes, both for the company paying it and in the hands of the investor.

 

However, I am assuming here that the investor puts in the money by way of loan, which carries a return (either described in the agreement as "interest" or as a premium on redemption) that is linked to the profits of the property development.

 

It seems fairly clear that in such a case the return (whether badged as interest, discount or premium) would fall within section 209(2)(e)(iii) - securities where the consideration given for use of the principal is dependent on the results of the company's business.  "Security" here has a wide meaning and would include a simple loan.

 

It is indeed possible that the company may have to account for such an instrument as equity rather than as a financial liability, certainly if it has adopted FRS25 or IAS32, but I'm not an accountant and would not want to get drawn on this point.

 

Under section 209(1), this means that the interest must be treated as a distribution for tax purposes, i.e. it is not deductible in computing CT profits.  Where this is so, it does not need to be paid under deduction of tax - see our recent Revenue & Customs Brief on this subject.

 

For an individual investor, the receipt will be dividend income taxable under section 383 ITTOIA 2005.  Section 367(2) ITTOIA gives the charge on dividends (under Chapter 3) priority over any other possible charge, for example as interest or as profits from a deeply discounted security.

 

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By kenmoody
09th Sep 2009 14:30

Interesting
Worth noting for future reference. That just about wraps it up I would think?

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By nick farrow
09th Sep 2009 14:51

I agree with you Ken and I was grateful to HMRC for resolving the issue

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