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Bob Fraser MBE, MBA, MA, FPFS TEP outlines the tax treatment and considerations for companies investing in Capital Redemption Bonds.

Introduction

Changes made in 2005 to the tax treatment of Capital Redemption Bonds (CRB) owned as investments by companies mean that these may not now be as tax efficient as previously.

There are also tax reporting requirements of which company directors need to be aware. Although this legislation is now 2 years old, there are still many companies with these CRBs who are blissfully unaware of the changes. Hence this article.

Features of a CRB

The original structure of a CRB was that it was a single premium policy under which the proposer made a lump sum contribution to (normally) a Life Office on the understanding that this would be repaid in the future with interest. The technical relationship between the contributor and the Life Office was that of a loan.

The main difference between a CRB and its close cousin, the non-qualifying, whole of life, single premium life assurance bond (“investment bond”) is that a CRB has no lives assured and therefore does not automatically pay out on death. This has made it (previously) a particularly suitable investment option for company investments.

Anti-avoidance

However, over the years some companies have used these policies to generate artificial capital losses. This was possible because previously the encashment of a CRB could be both a disposal for capital gains tax and a chargeable event for income tax.

These tax planning measures were an early casualty of the requirement to report tax avoidance schemes to HM Revenue & Customs and early in 2005 the government announced that action would be taken against these loss generating measures. This was implemented in Revenue Bulletin 22 which stated that: "The following schemes are blocked...(e) Generation of artificial capital losses by companies using capital redemption bonds..." and giving the timeframe that "the changes apply ...(e) from 10 February 2005."

Implications

The actual legislation is contained in Finance (No.2) Act 2005, Schedule 7, paragraph 14, and has the effect of moving CRBs held as company investments into the loan relationships regime.

A consequence of these changes is that CRBs no longer allow corporate investors to benefit from the deferral of tax that was hitherto the case, and which was the main reason why most companies took out these investments.

Tax Situation

The change in legislation not only affects all new CRBs, but also any CRB that has continued since 10 February 2005. As at that date, any continuing company invested CRB will be deemed to have been assigned for consideration as at 10 February 2005. This will thus give rise to a deemed chargeable event. If this results in a deemed gain, then this will be carried forward until the company encashes the CRB. At this point the deemed chargeable event gain will become an actual gain and liable to corporation tax.

In addition, the annual gain or loss in the value of a company-owned CRB is now treated as a profit or loss under the loan relationship rules mentioned above. This is how the previous tax deferral benefit of the CRB.

Options

There are two main options for directors:

1. Leave the CRB within the new regime or, if the tax deferral is key (for example to be able to offset any gain by encashing in a year when the company has (or can create) a loss)

2. Surrender the CRB to move into another investment strategy, such as an offshore life assurance bond. The tax deferral benefit of offshore investment bonds is still available to company investments.