Ken Moody highlights his recent experience of advising on a company voluntary arrangement.
I was recently instructed to advise on the tax consequences of company voluntary arrangements (CVAs), which have continued to increase in popularity in recent times, and the results were quite interesting
The use of CVAs and court sanctioned schemes of arrangement for restructuring the debts of a company in financial difficulties, may lead to better outcomes for the company and its creditors as an alternative to formal insolvency procedures.
Companies and LLPs
As it happens, the ‘company’ in difficulty was a limited liability partnership (LLP) which, of course, is a corporate body under the Companies Act. However, whereas companies are subject to the loan relationship rules in relation to corporate debt, income tax rules apply to an LLP.
One very interesting point which came somewhat out of the blue was that amounts due to members of the LLP had been accounted for as liabilities (under the LLP SORP 2015), and part of the arrangement with the creditors involved writing down amounts due to members in line with the restructuring of other debts. The question arose whether the members could make a capital gains tax relief claim (under TCGA 1992, s 253 - ‘Relief for loans to traders’); I will just leave that one as a ‘cliff hanger’ for now and will come back to it shortly.
Income tax position
The income tax rule is quite simple. The general rule under ITTOIA 2005, s 97 (‘Debts incurred and later released’) is that if a deduction has been allowed for an expense giving rise to a debt, the amount released is treated as a receipt of the trade.
However, an exception is made where the release is part of a ‘statutory insolvency arrangement’ (SIA), defined (in ITTOIA 2005, s 259(1)) as:
- an arrangement under the Insolvency Act 1986 (or Northern Ireland or Scottish equivalent); or
- a court sanctioned scheme of arrangement under CA 2006, Pt 26; or
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similar legislation of a foreign country.
A CVA falls within a) and therefore, the partial release of the amounts owed to creditors was not taxable under ITTOIA 2005, s 97.
Corporation tax implications
For companies, the ‘loan relationships’ rules need to be considered. CTA 2009, s 322 applies, if any of conditions A to E are met:
- Condition A is that the release is part of an SIA (defined by CTA 2009, s 1319 in similar terms to the above).
- Condition C refers, basically, to formal insolvency proceedings.
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Condition E (subject to certain requirements relating to connected companies) applies if without the release it would be ‘reasonable to suppose’ there would be a ‘material risk’ that within the next 12 months, the company would be ‘unable to pay its debts’.
Only the latter expression is defined (by CTA 2009, s 323) as either being unable to pay its debts as they become due or if its assets are less than its liabilities, taking into account contingent or prospective liabilities. The test is based on the evidence a creditor would need to present to a court to begin winding up proceedings (there is further guidance in HMRC’s Corporate Finance manual at CFM33194).
The ‘material risk’ test looks at what the position would be in the absence of the restructuring, posing a significant risk which would be of concern to the company’s directors. The ‘reasonable to assume’ test encompasses various factors, examples of which are given at CFM33193.
Since Condition E requires no formal arrangements or proceedings) and so is largely a matter of judgement), I would suggest taking advice from an insolvency practitioner to confirm that, in their opinion, the tests are met.
Practical tip
I raised the TCGA 1992, s 253 relief issue mentioned earlier in relation to LLP members’ loans, with a rather more well-known practitioner than yours truly, who had co-authored a book on partnership taxation; but, like myself, had never had occasion to consider the point. Since neither of us could find anything in section 253 to indicate otherwise, appropriately disclosed, there appears to be no reason why a claim may not be made.
