HMRC has published a technical note concerning proposals to restrict the use of the compensating adjustments mechanism in the transfer pricing legislation where an income tax advantage is generated.

This is specifically in response to situations where such adjustments are claimed by individuals for transactions entered into with connected companies subject to a lower corporate tax rate.

HMRC cite two main arrangements which in their opinion exploit the rules in order to generate the tax advantage:

1. Interest receipts that arise to individuals from debt in excessively leveraged companies and/or excessive rates of interest.
2. Companies that are under remunerated by partnerships for the services that they provide.

It is proposed that the compensating adjustments mechanism will be removed for taxpayers within the charge to income tax where the counter party to the transaction is a company. This would apply in relation to amounts arising on or after the date the legislation takes effect.

Additional detail on the transfer pricing rules the compensating adjustment mechanism and the detail of the proposed changes are outlined within this technical summary.