Tax

When a company is on the brink of entering into insolvency proceedings the tax impact, understandably, may not be at the forefront of everyone’s mind and so may be overlooked. However, entry into liquidation or administration or the appointment of a receiver can have an adverse impact on, and sever, UK tax groups. This can result in (unexpected) tax leakage and further depletion of assets, adding greater pressure to the distressed situation.

Following our recent post on the impact of insolvency on VAT groups, we have prepared the following “101 summary” on the key impact of liquidations, administrations and receiverships on certain UK tax group relationships.

Liquidation

It is a settled point of English case law that entry into liquidation generally results in a company losing the beneficial ownership of its assets (including any subsidiaries held by it). Therefore, the “downward” relationship between the company in liquidation and any subsidiary it holds is generally regarded as being broken on entry into liquidation. There may also be implications on the “upward” relationship. The UK tax grouping tests that may be impacted include the following:

• Group relief
  • “Downward” Relationships: As beneficial ownership of assets is lost, the company in liquidation and any subsidiaries it holds would no longer be in the same group for group relief purposes. As a result it would no longer be possible for losses to be transferred by way of group relief between the company in liquidation and its subsidiaries (and vice versa). Neither would it be possible for losses to be transferred between any sister companies held by the company in liquidation, which relied upon the company in liquidation to create the group relationship.
  • “Upward” Relationships: In the event that the shareholder(s) loses control of the company in liquidation and/or arrangements are put in place such that a third party could obtain control of the company in liquidation, the “upward” relationship between the company in liquidation and its shareholder(s) could be severed. This would further limit the ability to transfer losses by way of group relief.
• Stamp duty (including stamp duty land tax (“SDLT”))
  • The principles which apply to group relief apply in a similar way to stamp duty / SDLT (and equivalent taxes in Scotland and Wales).
  • The effect of this is that stamp duty / SDLT may be payable on future share or land transfers where it may previously not have been.
  • In addition, in the case of SDLT, a de-grouping clawback event may be triggered in respect of prior intra-group land transfers.
• Certain corporation tax groups
  • For the purposes of capital assets, loan relationships, derivatives and intangibles, the group relationship is defined by reference to a “principal company” and its so-called “75% subsidiaries” (which looks to beneficial ownership of assets and entitlement to profits and assets available for distribution).
  • Although the grouping test looks to, amongst other things, beneficial ownership of assets (and so you may expect the same outcome as under the “group relief” or “stamp duty / SDLT” headings) a statutory override has the effect of ensuring that entry into liquidation does not break a group for these purposes. Of course, if there is a subsequent third party sale this may result in a breaking of the group and a de-grouping clawback event in respect of prior intra-group asset transfers.

Administration and receivership

Unlike entry into liquidation, entry into administration or the appointment of a receiver should not generally, in and of itself, result in the company losing the beneficial ownership of its assets (including any subsidiaries held by it), although this will depend on the precise circumstances. Nevertheless, entry into administration or the appointment of a receiver may still have an impact on UK tax groupings in a number of scenarios:

• Group relief
  • “Upward” Relationships: Where the shareholder(s) loses control of the company upon entry into administration / appointment of the receiver, the “upward” relationship between the company in administration / receivership and its shareholder(s) could be severed for group relief purposes. This principle has been affirmed by the Court of Appeal in the context of a receivership.
  • “Downward” Relationships: Arrangements put in place such that a third party could obtain control of a subsidiary of the company in administration / receivership could have the effect of severing the “downward” relationship between that company and its subsidiaries.
  • In each case, the entry into administration and the appointment of a receiver could have an impact on the ability to surrender losses between the company in administration / receivership and its shareholder(s), it subsidiaries and its sister subsidiaries.
• Stamp duty / SDLT
  • The principles which apply to group relief apply in a similar way to stamp duty / SDLT (and equivalent taxes in Scotland and Wales).
  • The effect of this is that stamp duty / SDLT may be payable on future share or land transfers where it may previously not have been.
  • However, it is understood that HMRC does not consider entry into administration or appointment of a receiver to trigger a de-grouping clawback event in and of itself (although a de-grouping clawback event may arise, for instance, on a subsequent third party sale).
• Certain corporation tax groups
  • Given that the capital asset, loan relationship, derivative and intangible group tests focus on beneficial ownership and entitlement, as stated by HMRC in its published guidance, the entry into administration and appointment of a receiver should not, in and of itself, have any effect on grouping for these purposes.
  • Of course, if there is a subsequent third party sale this may result in a breaking of the group and a de-grouping clawback event in respect of prior intra-group asset transfers.

Other tax grouping related points

The above sets out an overview of some of the key UK tax grouping-related points to consider in a liquidation, administration or receivership.

However, the above issues are not exhaustive and, depending on the specific fact pattern, other tax arrangements could be impacted by the insolvency proceeding. For instance, there will often be some form of debt rationalisation as part of an insolvency proceeding. The release of any debt as part of the debt rationalisation may lead to taxable income in the hands of the debtor company. With respect to intra-group debts, such debts may generally be released with no UK tax cost on the basis that the companies are “connected” for UK tax purposes – it is a question of fact (i) whether that connection will be broken by the insolvency arrangement in question, and (ii) the point in time at which any such connection is broken. Where the “connected companies” exemption is not available to mitigate taxable income arising on the debt rationalisation, consideration would need to be given to whether there are any other available exemptions available. Equally, with respect to debt, the impact of insolvency proceedings on tax groupings that look to accounting consolidation (for instance, the corporate interest restriction) needs to be considered. The impact of insolvency proceedings in relation to the recently introduced “Pillar 2” legislation is also something which is starting to crop up, including whether the various exemptions mentioned above could have an adverse impact on the Pillar 2 effective tax rate calculation and the impact on tax groupings.

Aside from the formal liquidations, administrations and receiverships focused on in this piece, of course, there are a number of other UK and non-UK mechanisms that may be used in distressed scenarios. These could include, for instance, UK schemes of arrangement and restructuring plans, Dutch WHOAs or US Chapter 11 proceedings. In each case, the effect of such mechanisms on any UK tax groups and the timing of any breaks would need to be considered based on the facts and circumstances of the particular case.

Key points

To summarise some of the key points to consider upon entry into insolvency proceedings from a UK tax perspective:

• What is the legal form of the proceeding?
• Has the company lost beneficial ownership of its assets?
• Have the shareholders retained control of the company? Has there been a change of control and, if so, who has obtained control?
• Are there any arrangements in place (or expected to be put in place) for a third party to obtain control of the company or any of its subsidiaries?
• If the tax group has been broken, when did the group break occur for tax purposes? Can any steps be taken to maintain the tax group or mitigate any adverse impact resulting from the breaking of the tax group?
• What is the expected cash tax impact of breaking the tax group? Are any losses available to shelter the tax cost?
• Is any break of the group critical for tax purposes? For instance, has there historically been a surrender of losses between companies in the group which may no longer be possible following the breaking of the group?
• Does the insolvency proceeding give rise to a de-grouping event for tax purposes resulting in the clawback of any prior relief claimed?
• Are any intra-group transfers anticipated? Will those transfers be possible on a tax neutral basis post-entry into proceedings?
• Is any debt rationalisation anticipated? If so, are any exemptions available to mitigate any taxable income?