Richard Jones summarises recent developments in relation to the loan relationships unallowable purpose rule and considers what to look out for when analysing whether the rule applies.
The loan relationship rules at Pt 5, Corporation Tax Act 2009 set out the tax treatment of ‘debits’ and ‘credits’ from loans and other money debts arising from a transaction for the lending of money. Broadly speaking, credits are taxable and debits are deductible.
Part 5 includes anti-avoidance rules that deny the deductibility of debits in particular circumstances. One of these is where the loan relationship has an “unallowable purpose” for the accounting period concerned. But what constitutes an unallowable purpose under these rules?
A loan relationship has an unallowable purpose if the purposes for which the company is a party to the relationship include a purpose “which is not amongst the business or other commercial purposes of the company” (s442, CTA 2009). If a company has a tax avoidance purpose for being a party to a loan relationship, and this is the main or one of the main purposes of being in the relationship, this will be treated as an unallowable purpose.
Recent case law
The unallowable purpose rule is an example of the ‘purposive’ type of anti-avoidance legislation that has become popular with tax law drafters in the past 20 years. The appeal of this form of legislation is that it can be applied to a wide variety of avoidance activity. The downside is that it can be difficult to interpret because it is so widely drafted.
HMRC did not test its application in the courts for several years after the rule was introduced, but that began to change around 10 years ago with the case of Fidex Ltd v HMRC [2016] EWCA Civ 385. This was followed in 2018 by Travel Document Service & Ladbroke Group International v HMRC [2018] EWCA Civ 549 and more recently by three cases heard last year at the Court of Appeal. HMRC provides brief details of these cases at CFM38167, including the judgement in each case.
The unallowable purpose rule is an example of the ‘purposive’ type of anti-avoidance legislation that has become popular with tax law drafters in the past 20 years
All three of the recent cases consider the meaning of “tax avoidance purpose”. Two of those cases involved the insertion of a UK company into a structure. Loans were issued to the UK company that then used the resulting funds to purchase an interest in an overseas entity or group. These cases are BlackRock Hold Co 5, LLC v HMRC [2024] EWCA Civ 330 and JTI Acquisition Company (2011) Ltd v HMRC [2024] EWCA Civ 652 (JTI).
In both cases that involved the insertion of a UK company into the structure, the Court of Appeal considered that the UK companies had a commercial purpose for their loans as they used the funds to purchase interests in other entities. However, it also found that the reason for these companies being included in the overall corporate structure could also be considered in determining the purposes for which they were party to the loan relationship. Given that this was to generate corporation tax deductions, it therefore followed that this could be considered in determining whether the company had a tax avoidance purpose. As there appeared to be no other commercial purpose for the loan, the Court of Appeal held in both cases that it therefore had an unallowable purpose.
By contrast, the arrangements in the third case, Kwik-Fit Group Ltd and other companies v HMRC [2024] EWCA Civ 434, involved a restructuring of intra-group debt. The group’s intermediate holding company, Speedy 1 Ltd, had built up a significant amount of non-trading loan relationship deficits that, at the time, could only be relieved against future loan relationship credits (the carried forward loss relief rules have since been reformed). Interest rates on existing intra-group loans from Speedy 1 Ltd were increased to inflate the company’s interest income, allowing it to use up its brought forward losses, while its fellow group companies claimed deductions for the enhanced interest payments.
Although the interest rates had been increased to an arm’s length rate, the Court of Appeal found there had been a subjective purpose of the borrowers to accede to a higher borrowing cost to provide an overall tax benefit to the group. Hence, in determining the tax treatment, the interest payments could be apportioned, with the increase disallowed, on the basis that the loan had both allowable and unallowable purposes.
HMRC’s next steps
In June 2025, HMRC wrote to a number of companies into which it had opened enquiries, alleging that the unallowable purpose rule applied to loan relationships they were a party to. The letter invites the recipient to consider its position in the light of the recent Court of Appeal decisions and to discuss this with HMRC to explore whether agreement can be reached to resolve the enquiry. A further batch of letters may be sent in relation to other enquiries later this year.
HMRC has also updated its guidance at CFM38100 onwards to reflect the outcome of these cases. It is clear from this that HMRC will be taking action going forward against arrangements where it believes that the facts and circumstances are on all fours with those of the recent court cases.
What have we learned?
The impact of these cases should only really be felt by those involved in contrived avoidance arrangements (which may be caught anyway by the general anti-abuse rule (GAAR) or applying a purposive interpretation of the tax legislation). Nonetheless, some useful principles have been established and summarised at paragraph 51 of the JTI decision:
- Having other reasons for entering into a loan relationship does not preclude a company from having a “tax avoidance purpose”.
- It is not necessary to adopt “a ‘tunnel-visioned’ approach looking simply at how the company was proposing to use the money it was borrowing” in determining whether a tax avoidance purpose is present.
- For example, where a company is incorporated to further a wider scheme, the context and purposes of the wider scheme may, depending on the facts, be borne in mind in determining the company’s purposes for entering into the relationship.
- The company will have a tax avoidance purpose if it agrees to participate in “a scheme which, to the knowledge of the relevant decision-makers, was designed to secure a tax advantage”, regardless of whether the company appreciates that the scheme was designed to secure a tax advantage.
CFM38170 also includes a list of tax-related factors to consider including:
- the extent to which the tax advantage is known or expected or taken into account, and the degree of attention paid to securing the tax advantage;
- the size of the tax advantages in comparison to the size of the commercial (excluding UK tax) benefits;
- whether or not the arrangements would have happened, or would have happened in a different way, ‘but for’ the tax advantage; and
- whether the borrowing funds activities or investments which are not expected to generate UK tax, either immediately or at all.
Going forward
The Court of Appeal decisions are final as the Supreme Court has refused permission to appeal. It is important that attention is paid to the principles established in these cases, and to HMRC’s updated guidance, when advising on the tax treatment of loan relationships. Companies would be wise to keep contemporaneous records (eg, board minutes, discussions between key personnel) to demonstrate the commercial intentions of the relevant decision makers so that it can show that the purpose of any loan relationship is allowable.
Richard Jones, Senior Technical Manager, ICAEW
