Companies will often incur significant professional fees in the run-up to the sale of a subsidiary: corporate finance costs, vendor and financial due diligence reports, data rooms, and even legal fees. The Supreme Court decision in C v HMRC [2024] UKSC 25 has confirmed when those expenses will and will not be deductible for holding companies as a revenue expense for corporation tax purposes.
The distinction between revenue deductibility and creating a capital deduction is important for businesses as the timing of the liability will affect their cashflow. It also has wider implications on whether the costs can be group relieved or used only in the limited circumstances of capital losses.
The starting point is section 1219 CTA 2009, which provides that in calculating the corporation tax (CT) to which a company with investment business is liable for an accounting period, expenses of management of the company’s investment business which are referable to that period are allowed as a deduction from the company’s total profits. However, no CT deduction is allowed for management expenses of a capital nature. In this recent case, the Supreme Court was tasked with determining whether the expenses of management associated with the sale of a subsidiary were revenue or capital for CT deduction purposes.
The seller was an intermediate holding company in a wider group. At the relevant time, it owned the entire issued share capital of a holding company (the Target), which in turn had subsidiaries. In June/ July 2009, it was decided to sell the Target Group. Eventually in March 2011, the seller sold shares in one of the subsidiaries together with assets to a third party.
Between July 2009 and February 2011, third-party professional fees were incurred in respect of structuring advice and preparing the details of the eventual transaction. The selling company claimed a deduction for revenue expenses for these costs, on the basis they were for the management of its investment business under section 1219 CTA 2009. HMRC disallowed the deduction on the basis that these were not management expenses and, in any case, they were capital in nature. Following extensive debate before the lower courts, it was agreed by HMRC that all of the costs were expenses of management. It was up to the Supreme Court to determine if the expenses were capital in nature.
The Supreme Court held in HMRC’s favour: once the decision to sell had been made in June 2009 all the costs incurred were management expenses of a capital nature and not revenue deductible for CT purposes. Deduction would only be possible on the eventual sale in determining the chargeable gain – in this case over a year after the initial decision was made.
The management costs incurred prior to that decision to sell were not capital in nature though and were capable of being deducted from revenue.
Abortive expenditure on a sale process will also be capital in nature since these costs take on the nature of the asset which it was intended should be disposed. Unless the costs could somehow be tied to the later sale (for example a structure or vendor due diligence report that is reused) the expenses would not form part of the capital gain calculation on the later sale of the business. Often abortive expenses will therefore result in a pure cost, with no CT deduction being available at any time.
It’s important to note that the concept of a “company with investment business” is very broad. It will capture a holding company (whether the parent of a corporate group or an intermediate holding company) which holds shares in its subsidiaries, typically arranging the affairs of those subsidiaries and receiving dividends as a result of managing those subsidiaries as capital assets. Various pieces of tax legislation apply to trading companies and the holding companies of trading subsidiaries, but here there is a distinction drawn between those holding companies and the trading companies. The decision therefore has wide-reaching application for any company which is considering selling a subsidiary.
Companies should take care whether and when a decision is made to make a disposal of a subsidiary, and be alive to the timing when, and if, a deduction may be made in respect of related management expenses.