EXAMPLE ONE: GIGANTIC PLC
Gigantic plc has an annual turnover of £150m, net assets of £25m
and 100 employees. Its accounting date is 30 June. It takes out an
offshore life assurance bond on 30 Sept, 2008 with a premium of
£200,000.
The ‘fair value’ of the bond at 30 June, 2009, is £220,000 and
at 30 June, 2010, it is £215,000. The company surrenders 50% of
the rights under the bond on 5 Oct, 2010, for £120,000, and the fair
value immediately before the part surrender is £240,000.
As at 30 June, 2011, the fair value of the bond is £127,500. The
bond is held as a long-term investment so gains and losses are
regarded as non-trading credits and non- trading debits, respectively.
��What tax liabilities arise?
Accounting period ended 30 June, 2009:
There is a taxable non-trading credit of £20,000 (£220,000 minus
£200,000).
Accounting period ended 30 June, 2010:
There is a tax relievable non-trading debit of £500 (£215,000
minus £220,000).
Accounting period ended 30 June, 2011:
There is a taxable non-trading credit on the part disposal on
5 Oct, 2010, of £12,500.
This is calculated as the part-surrender proceeds are £120,000
minus the proportion of the fair value of the bond at the end of
the previous accounting period relating to the part disposed of
– that is, 50% x £215,000 = £107,500.
There is also an annual taxable non-trading credit relating to the
movement in value over the accounting period of the part
of contract retained:
Fair value at 30 June, 2011 = £127,500
Less 50% of fair value at 30, June 2010 (£215,000 x 50%) =
£107,500
Taxable amount = £20,000
The total taxable amount is 12,500 + £20,000 = £32,500
Instruments) deals with the
recognition and measurement
of financial instruments
– which would
include bonds held as an
investment – and covers
the concept of fair value (or
mark to market) accounting.
This requires financial
assets to be valued every
year and the resulting profit
or loss ‘recognised’.
What FRS 26 means in
practice is that companies
holding insurance bonds
will have to ‘recognise’ the
annual increase in value of
the bond in their financial
statements and pay corporation
tax on that increase.
This treatment applies
to both onshore and offshore
bonds.
But this is not the end of
the analysis. The ASB appre-
ciates that it is not essential
that the same accounting
standards should apply to
the financial statements of
a large organisation as to a
small family company.
Accordingly, small companies,
as defined in the
Companies Act, can use a
less complicated set of
accounting standards
known as the Financial
Reporting Standard for
Smaller Entities (FRSSE).
HM Revenue & Customs
agrees it is acceptable to
use FRSSE for tax purposes
as it is GAAP-compliant. In
effect, it allows the use of
the ‘historic’ cost principle,
which means assets can be
shown in the company’s
financial statements at the
lower of cost or realisable
value. So those firms that
TECHNICAL BRIEFING COMPANY INVESTMENT IN OFFSHORE BONDS
can and do use the FRSSE
have no need to revalue
assets on an annual basis.
l The mechanism
The profit charged to tax
should be computed in
accordance with UK GAAP.
The UK tax code has
become increasingly prescriptive
as regards use of
accounting standards over
recent years and compliance
with GAAP is now
almost mandatory.
For companies adopting
FRSSE this means that there
is no gain recognised in
the accounts annually, as
the bond is not revalued.
The gain – or, more accurately,
the annual increase
in value – can be deferred
for tax purposes until it
is realised.
Under UK GAAP, where
the company does not
apply FRS 26, the bond
contract may be accounted
for as a fixed asset investment
or a current asset
investment under the historic
cost convention and
normally any profits or
losses on the contract will
only be recognised on disposals
of rights under the
contract. It is also impor-
EXAMPLE TWO: PETITE LTD
Petite Ltd uses historic cost accounting and, because of its status
as a small company, it remains GAAP compliant.
��What tax liabilities arise?
Accounting period ended 30 June, 2009:
Changes in the bond’s value over an accounting period are not
recognised under historic cost accounting and so there are no tax
consequences in this accounting period.
Accounting period ended 30 June, 2010:
Again, changes in the bond’s value over an accounting period are
not recognised under historic cost accounting, so there are no tax
consequences in this accounting period.
Accounting period ended 30 June, 2011:
There has been a part surrender of 50% of the bond. So the gain
is calculated as follows:
Surrender proceeds (50%) = £120,000
Less cost of part surrendered = £100,000
Gain = £20,000
This is taxed as a non-trading credit.
OCTOBER 2008 [www.international-adviser.com] INTERNATIONAL ADVISER
tant to realise that there is
no longer a 5% rule for
company-owned bonds.
l Small firm definition
To be a small company, at
least two of the following
conditions must be met:
���annual turnover must be
£6.5m or less;
��the balance sheet total
must be £3.26m or less;
��the average number of
employees must be 50
or fewer.
These apply to accounting
periods starting on or
after 6 April, 2008.
In example one, Gigantic
plc obviously does not
qualify as a small company.
But Petite Ltd, in example
two, does qualify as a small
company and enters into
the same transactions in the
same amounts and on the
same dates as Gigantic plc.
So the change to the
loan relationship rules still
offers a deferral opportunity
for small companies.
It should also be remembered
that there are transitional
rules for companyowned
bonds held on 31
March, 2008, which have
not been included in these
examples.
Gerry Brown, head of trusts
and taxation, Prudential
“
What FRS 26
means in practice
is that companies
holding insurance
bonds will have
to ‘recognise’ the
annual increase
in value of the bond
in their financial
statements and pay
corporation tax on
that increase
”
43
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