CIOT presses HMRC on BIM45700 interest-relief uncertainties

The Chartered Institute of Taxation has written to HMRC seeking clarification of uncertaintiesTAX arising from HMRC's July change to the guidance at BIM45700TAX on deduction of interest costs and the withdrawal of capital from a business. The CIOT's page tracks the specific changes to the manual page and puts clarificatory questions to HMRC, covering property and trading businesses including partnerships and, to the extent the change alters practice, the treatment of returns already completed in reliance on the pre-July guidanceTAX.

The current BIM45700 page, which applies for Income Tax to trade profits and property income, states that a proprietor may withdraw business profits and introduced capital even though subsequent funding may then have to come from interest-bearing loansGOV. It then draws the line: simply exchanging existing capital for loan finance does not on its own satisfy the wholly and exclusively test in section 34 of the Income Tax (Trading and Other Income) Act 2005GOV. Interest on borrowing is deductible where the borrowing funds business expenditure or the acquisition of assets used in the businessGOV.

The worked examples carry the practical weight. A proprietor who borrows against business assets and spends part of the advance privately gets relief only on the identifiable business proportion, as with the overdraft used partly for stock and partly for a private car. Where the whole advance buys a private asset there is no relief at all: the remortgage of a let London property used to buy a private home in Paris gives no deduction in the property business. The capital-withdrawal example is the sharpest: a manufacturer who borrows £150,000 against an unencumbered factory, spends £75,000 expanding product lines and withdraws £75,000 for a Spanish holiday home must expect questions about an interest restrictionGOV, with the purpose at the time of borrowing and the amounts capable of withdrawal absent the loan both in point, and further advice signposted at BIM45705.

The companion guidance at BIM45690 reinforces the use-of-funds analysis: borrowed money funds real cash spending at a point in time, so later depreciation, write-downs or upward revaluations do not change what the loan funded. Its Example 3, replacement of capital, denies relief where a proprietor who started the business from private funds later borrows to facilitate personal drawings spent on a private holiday, because the purpose of obtaining the funds was personal. The CIOT page frames the uncertainties as including, to the extent the change alters practice, the treatment of returns already completed in reliance on the pre-July guidanceTAX, and says the CIOT puts clarificatory questions to HMRC.

The legal basis is section 34 of the Income Tax (Trading and Other Income) Act 2005 with HMRC's Business Income Manual guidance at BIM45690 and BIM45700.