The difference between the main rate of corporation tax and the small companies’ rate is narrowing over time, and the rates will eventually be 23% and 20% respectively under Government proposals. Nevertheless, entitlement to the small companies’ rate of corporation tax is an important issue for many business owners.
A ‘Close Investment Holding Company’ (CIHC) is not entitled to the small companies’ rate, or to marginal small companies’ relief (CTA 2010 ss 18(b), 19(i) (b)). What is a CIHC? The legislation states that a close company will be a CIHC unless it exists wholly or mainly for certain ‘permitted purposes’ throughout an accounting period (CTA 2010, s 34). Those purposes include trading on a commercial basis or investing in land which is (or is intended to be) let commercially. In some cases, it may be difficult to demonstrate that this purpose test is satisfied, particularly if it depends on the future intentions or plans for the company.
In Herts Photographic Bureau Ltd v CRC  UKFTT 629 (TC), the company acquired a property in 1962 for the purposes of its photography trade. The trade ceased in 1996, and the property was subsequently let out for seven years. In 2003, the property was leased to a new tenant on a 10 year lease. In 2006, it was decided that the company would sell the property to the tenant, and the sale was completed in June 2007. The company’s director, Mr Giffen, said he intended that the company would reinvest the sale proceeds in other properties for the purpose of renting them out, but that due to the unpredictability of the property market following the global financial crisis, he decided to wait until the market recovered. In the meantime, the property sale proceeds were put in an interest bearing bank deposit account. Mr Giffen argued that throughout the accounting period ended 31 May 2008, the company existed wholly or mainly for the purpose of investing in land for letting to third parties.
HMRC argued that there was no documentary evidence of any attempt being made by the company to purchase new properties. The tribunal noted that the legislation on CIHCs (ICTA 1988, s 13A as it then was) looks at the company’s purpose, which is not necessarily the same as its activities (although its activities may shed light on the purpose for which the company exists).
The tribunal accepted Mr Giffen’s evidence that he intended to reinvest the property proceeds in residential properties as a rental investment throughout the accounting period ended 31 May 2008. The tribunal considered that the absence of documentary evidence about the company’s purpose did not require it to disregard Mr Giffen’s evidence. The company’s appeal was allowed.
Some points are worthy of note in determining if a company is a CIHC:
- As pointed out by the tribunal, it is the company’s purpose which is relevant. Thus if the company exists for the purpose of letting land commercially, it is excluded from being a CIHC (CTA 2010, s 34(2)(b)).
- The purpose test is a ‘wholly or mainly’ one, i.e. the company must exist wholly or mainly for a permitted purpose to prevent it from being a CIHC.
- The company must exist wholly or mainly for a permitted purpose throughout its entire accounting period (s 34(1)).
With regard to the purpose test, HMRC guidance acknowledges that “a company may exist for the purposes of carrying on a trade, even though in a particular accounting period it does not receive any trading income, or indeed, actually carry on a trade.” However, HMRC describes such circumstances as “exceptional” and adds: “It will be a matter of fact whether or not it exists for a particular purpose, and what a company actually does will be a significant indicator of its purpose” (CTM 60720).
The appellant company in the Herts Photographic Bureau Ltd case was perhaps fortunate in that the tribunal accepted the verbal evidence given by its sole director, Mr Giffen. However, in practice it would be advisable for the company’s owners to document the company’s purpose on a regular basis (e.g. through company board minutes), particularly if the company’s present activities are not congruent with its purpose.
The above article is reproduced from ‘Practice Update’ (March/April 2011), a tax Newsletter produced by Mark McLaughlin Associates Ltd. To download current and past editions of Practice Update, see the Newsletters section.