Watson Buckle Blog

Associated companies – the new rules

On April 1, the associated companies rules for corporation tax were amended by the 2011 Finance Act.

The Finance Act re-writes and extends the rules attributing ownership and establishing if a company has associates for the purpose of attaining small companies’ corporation tax relief.

When companies are associated, their profits are taxed as if they are a single entity and each company’s profit band for corporation tax purposes is reduced by dividing it by the number of associates plus one.

HMRC declares that a company is “associated” if one company has control over the other, or both are owned or run by the same person/s.

The tests for whether a person has control of a company are if he or she possesses, or is entitled to acquire the greater part of:

  • The share capital or issued share capital
  • The voting power
  • The income distributed to shareholders, assuming that all income was so distributed
  • The assets distributed in the event of winding up: this test often results in a loan creditor having control of a company

Previously control was determined by considering both “indirect” as well as direct control. Indirect control considered an individual’s associates and attributing them to him – this included blood relatives and business partners.

For example Mr A and Mrs A set up companies – Mr A’s company A-Co produces “Waggles”, and Mrs A’s company B-Co produces “Woggles”.

Under the old rules, because Mrs A is Mr A’s spouse – B-Co company was automatically considered an associated company of A-Co – despite the fact there was no financial cross-over, or control and they were producing different things.

Now, although the direct control test remains, it is not necessary to attribute the rights of an individual’s associates unless one company has a relationship of “substantial commercial interdependence” with another company.

To determine whether two companies are “substantially commercially interdependent”, HMRC will take into account the degree to with the companies are financially interdependent, economically interdependent, or organisationally interdependent.

A company is financially interdependent where one gives financial support (directly or indirectly) to the other, or each has a financial interest in the affairs of the same business.

Economic interdependence is where the companies seek to realise the same economic objective, the activities of one benefit the other, or the companies have common customers.

The test of organisational interdependence is where the companies share common management, employees, premises; or equipment.

In a nut shell, if there is no substantial commercial interdependence between companies, you only need to consider direct control – there is no need to attribute the rights of an individual’s associates.

If there is a substantial commercial interdependence then you must apply the indirect control test (attribution).

Thankfully, the old exemptions for relatives or business partners are removed, allowing A-Co and B-Co to operate separately without being lumped together as “associated companies” for the purpose of corporation tax.

The new rules should be welcomed, as the majority of businesses will benefit under them, however it also allows for treatment for those who do not.

John Kinsella
Tax Partner