BlackRock Unallowable Purpose & Transfer Pricing Case: Tribunal finds for taxpayer

BlackRock Unallowable Purpose & Transfer Pricing Case

The First-tier Tribunal finds for the taxpayer where HMRC challenged tax relief for interest on intra-group loans borrowed by a UK company.

Daniel Head

Partner, National Head of Transfer Pricing

KPMG in the UK


In 2009, a US-headed group agreed to purchase a US-headed target company from a third party. As part of the acquisition structure, a US incorporated / UK tax resident company borrowed from a US group company and subscribed for preference shares in a US tax resident company, which then acquired the target.

HMRC sought to disallow UK tax deductions for all of the interest costs on the loans under the transfer pricing rules or the unallowable purpose rule.  The First-tier Tribunal (FTT) rejected HMRC’s arguments and found for the taxpayer.  The decision will be of interest to corporate groups putting in place new UK debt funding, as well as groups involved in discussions with HMRC regarding historic returns.  It remains to be seen if HMRC will appeal the decision.

Transfer Pricing Issue

The expert witnesses engaged by the parties agreed that an independent lender would have been prepared to lend the UK company the same principal amount at similar interest rates, so long as additional covenants were provided (to ensure that amounts would be paid up on the preference shares to fund interest payments on the loans).

However, HMRC argued that: 

  • In reality, the group would never have implemented a structure under which the UK company borrowed from an independent lender (with the additional covenants);
  • The ‘arm’s length provision’ in this case should therefore be ’no provision’; and
  • All interest debits on the loans should therefore be disallowed by the transfer pricing rules.

The FTT Judge noted that HMRC’s arguments were by reference to what the group ‘as a whole’ may or may not have done at arm’s length, whereas the transfer pricing rules require one to ask what arm’s length provision would have been implemented if the UK company were a ‘separate enterprise’, independent of the group.

The FTT Judge therefore rejected HMRC’s approach and agreed with the taxpayer that no transfer pricing adjustment fell to be made.

Unallowable Purpose Issue

The taxpayer argued that the UK company’s sole purpose in entering into the loan was the commercial purpose of funding the acquisition of the preference shares.

HMRC argued that the UK company entered into the loans with a main purpose of securing a tax advantage, to which all the interest debits were attributable and hence should be disallowed.

The FTT Judge adopted a different approach to either party, holding that:

  • The UK company had both a commercial main purpose of entering into the loans (being the furtherance of the commercial purpose of its business of making and managing passive investments, the preference shares) and a tax advantage main purpose (of securing relief for the interest debits); and
  • As evidence was presented that the UK company would have entered into the loans even if there had been no tax advantage:
    • The tax advantage purpose did not increase the debits;
    • All of the debits should therefore be apportioned to the commercial purpose on a just and reasonable basis; and
    • Therefore, none of the debits fell to be disallowed.

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