HMRC publish guidance on ‘associated companies’ definition
New guidance on ‘associated companies’ test for determining applicable corporation tax rate and payment deadlines.
Impacts CT rate and QIP thresholds from April 23
From 1 April 2023, the main rate of corporation tax increases to 25 percent, but companies with sufficiently small profits will continue to pay only 19 percent. Where a company has a number of ‘associated companies’, however, the relevant thresholds for applying the main rate are reduced, effectively splitting the potential benefit between them. New guidance published in December 2022 explains how HMRC intend to apply these rules. This guidance is also potentially relevant to larger businesses not expecting to pay the lower rate, as, for accounting periods beginning on or after 1 April 2023, the existence of ‘associated companies’ will also be taken into account in determining when a company needs to pay corporation tax by instalments as a ‘large’ or ‘very large’ company. This approach is more complex than the current ‘related 51 percent companies’ rule and may accelerate tax payment deadlines in some cases - particularly where groups are already close to the relevant thresholds.
Prior to its abolition by FA 2014, a ‘small profits rate’ of corporation tax existed in addition to the main rate. It is essentially this system that is being reintroduced with effect from 1 April 2023, with the relevant legislation being modelled on that previously in force.
Under the new rules the small profits rate of 19 percent will apply if a company’s relevant profits (referred to as its ‘augmented profits’) are below £50,000, the main rate of 25 percent will apply if those profits are over £250,000, and ‘marginal relief’ will be available to give an intermediate overall effective rate if the profits are between these limits. The new HMRC guidance at CTM03900 onwards sets out when the small profits rate of 19 percent applies and how to undertake the calculation of marginal relief using a prescribed formula. HMRC have also separately launched a new online marginal relief calculator to assist companies with this.
Key to both the earlier regime and the new rules is the concept of ‘associated companies’. If a company has one or more ‘associated companies’ then the thresholds for determining the applicable tax rate and any marginal relief are divided by the total number of associated companies. In broad terms, a company is an associated company of another company if one has control of the other, or both are under the control of the same person or persons. This includes non-UK resident companies but excludes dormant and some ‘passive’ entities.
The rules adopt a wide definition of control – which can mean, for example, that companies not in the same group may still be ‘associated’. More generally, the combination of this broad definition with the exclusions for dormant and ‘passive’ entities means that in many cases the number of ‘associated companies’ a given entity has will not straightforwardly equate to the number of companies in its group.
Additional complexity can arise in certain situations, where the relevant rules require an assessment of whether there is ‘substantial commercial interdependence’ between two companies rather than simply applying mechanical tests.
Most of the new guidance covers when companies are ‘associated’. The rules here again largely follow those which existed prior to the repeals made by FA 2014 and the guidance is also, unsurprisingly, similar to that provided in relation to the earlier regime, even cross-referencing this at various points. There are therefore few surprises in the new guidance (a fact which in itself is likely to be viewed as reassuring), but its appearance does act as a prompt for companies to begin to tackle the task of identifying associated companies. Importantly this task – and hence the guidance – is not only relevant to companies hoping to benefit from the lower rate.
Companies regarded as ‘large’ and ‘very large’ are required to pay their corporation tax in instalments, with the timing of those instalments being dependent on which category the company falls into. Pre-FA 2014 these thresholds were similarly divided by the number of associated companies, but when the small profits rate was repealed a simpler ‘related 51 percent companies’ test was introduced. The reintroduction of the small profits rate has resulted in that change being reversed.
Although similar in some respects, the ‘associated companies’ test is broader and so the practical impact of this turning back of the tax policy clock (aside from increased complexity) is that the relevant thresholds will typically end up being the same or lower. For companies already close to the thresholds, it is therefore more likely that these will be breached and tax need to be paid earlier.
Accordingly these companies – as well as those hoping to escape (to some extent) the impact of the rate rise – will need to take account of the guidance as they consider budgets and cash flow forecasts for the year ahead.