Revenue Note for Guidance
CHAPTER 2
Additional matters to be treated as distributions, charges to tax in respect of certain loans and surcharges on certain undistributed income
Overview
Chapter 2 of Part 13 contains a number of anti-avoidance measures aimed at ensuring that closely held companies are not used to either shelter income which would be taxable at the higher rate if distributed to participators or to withdraw profits from such companies in a tax efficient manner.
Sections 436 and 437 extend the meaning of “distribution” to ensure that certain benefits provided to participators of close companies are taxable and that profits withdrawn from companies by certain parties in the guise of interest are treated as the distribution of profits. Section 436A counters attempts to transfer funds from close companies on a tax-free basis to shareholders or family members using trusts and other such settlements.
The withdrawal of profits from close companies in the guise of loans is countered by imposing an income tax charge on the company at the standard rate on the grossed up equivalent of the loan (section 438). Where a company releases or writes off such a loan, the amount written off is be taken into account in calculating the total income of the person who benefits from the write off for the purposes of charging that income to the higher rate (section 439). Finally, to counter the tax avoidance device of accumulating profits in close companies rather than distributing them to shareholders in whose hands they would attract income tax at the higher rate, the Chapter imposes a surcharge of 20 per cent on undistributed investment and estate income of close companies (section 440) and a surcharge of 15 per cent on 50 per cent of undistributed professional and service income and a surcharge of 20 per cent on the undistributed investment and estate income, of service companies (section 441).
436 Certain expenses for participators and associates
Summary
This section extends for close companies the meaning of “distribution”. The purpose of the section is to secure that expenses incurred by a close company in providing certain benefits for participators are to be regarded as distributions where these benefits are not chargeable under Chapter 3 of Part 5 (that is, the provisions relating to the taxation of benefits in kind). The section does not apply to expenses incurred in providing pensions and death and retirement benefits.
So far as the paying company is concerned, this section does not materially alter its tax liability. Expenses which are distributions are prohibited as deductions in computing income for corporation tax by section 76(5)(a).
This section does, however, affect the position of the person who benefits by the expenditure. Where this person is a company, then, unless one company is a subsidiary of the other or both are subsidiaries of a third company and the benefit is the passing of assets or liabilities between the companies, the amount of the expenditure is a distribution and carries a tax credit. The aggregate of the distribution and the tax credit thus, for example, ranks as “franked investment income” for set-off of losses, or is included in “distributable income” for the purpose of a surcharge on undistributed income. Where the person is an individual, his/her income tax liability may be affected by the section, either favourable or unfavourably depending on the individual’s tax position. He/she may be entitled to claim payment of the tax credit or, on the other hand, he/she may be liable to higher rate tax on the aggregate of the distribution and its tax credit.
Details
(1) In the case of a close company, the meaning of “distribution” is extended to include the amounts so treated by this section.
(2) A reference to a participator includes a reference to an associate of that participator. Also a participator in a company which controls another company is regarded as a participator in that other company.
(3)(a) Where a close company incurs expense in providing benefits or facilities for a participator, the company is regarded as having made a distribution to the participator of an amount equal to the amount of the expense, to the extent that the company is not reimbursed by the participator.
(3)(b) Excluded from this rule is an expense incurred by a close company in the provision of benefits or facilities for a person who is chargeable to income tax under Schedule E in respect of the expense. Also excluded is an expense incurred in providing pensions, annuities, lump sums, gratuities or other similar benefits for dependants on the death or retirement of directors or employees.
(4) A proper apportionment is to be made of expense incurred by a close company partly in the provision of benefits or facilities caught by this section and partly for other purposes. The valuation provisions of section 119 are applied to a benefit or facility to which this section applies.
(5) This section does not apply where the company and a participator also being a company are both resident in the State, and one is a subsidiary of the other or both are subsidiaries of a third resident company. This exclusion, however, does not apply unless the benefit consists of the transfer of assets or liabilities between the company and the participator.
(6) A company is regarded as a subsidiary of another company if it is a 51 per cent subsidiary (see section 9), that is, if the parent company owns, directly or indirectly, more than 50 per cent of the ordinary share capital of the other company. However, this is not to be the case where the shares are held as trading stock or where the shares are shares of a non-resident company and, accordingly, the section applies in such a case.
(7) Provision is made to counter the possibility of 2 or more closed companies entering into an arrangement to make payments to one another’s participators in order to avoid an item being treated as a distribution under this section.
Relevant Date: Finance Act 2019