CFM72480 | Other tax rules on corporate finance: securitisation: periods beginning on or after 1 January 2007: the regulations: ‘retained profit’

SI2006/3296: regulation 10

Meaning of ‘retained profit’

Regulation 4(3) requires that a securitisation company must have a retained profit. Regulation 10 defines “retained profit”. This is both a requirement that each company in the securitisation chain must satisfy, and a component part of the basis on which the Corporation Tax charge is imposed on a securitisation company under regulation 14 (CFM72580).

Retained profit does not take its normal accountancy meaning of ‘profit after tax and dividends’. It is the amount ‘required by the capital market arrangement or a related transaction, or ‘warehouse arrangement’ (CFM72450) to be retained, made available to be retained, or designated as profits of the securitisation company (however described)’. The legal documents setting up the securitisation (see CFM72510) will commonly include a priority of payments, applicable to the company’s income receipts, which will specify the amount to be retained (normally on a periodic basis) by the company by way of profit as one of the items in the priority of payments. This may in practice be either a small margin (expressed as a percentage of asset value, amount of funding or annual income) or a specific amount.

In certain scenarios the potential for unexpected surplus profit may arise, such as a reduction in the value of an assets held by the SPV, not being as large as expected. Whilst this surplus profit will unlikely be a requirement of the capital market arrangement, it will arise from a ‘related transaction’ and therefore be designated as profits of the securitisation company (however described). Therefore if all note holders have been settled and surplus profits remain, these profits will be subject to the retained profit calculation and chargeable to Corporation Tax as and when they arise.

In other cases, there may be no specific provision for the company to retain a profit, but the relevant provision may take the form of (for example) a margin between the different rates of interest receivable and payable by an intermediate borrowing company on its loan to an asset-holding company and its borrowings from a note-issuing company. In any of the preceding cases, the provision for margin or other retention will satisfy the retained profit requirement.

The requirement is for the terms of the capital market arrangement or a related transaction to include provision for the company to have a retained profit, not that it actually has a cash surplus in each accounting period. Nor is there any tax requirement for any particular minimum amount of retained profit that will be regarded as being acceptable for the purposes of the regulations. This is purely a matter for the directors of the company.

The requirement will not be satisfied if, having regard to all the circumstances, there was no real possibility at the outset that the company would have sufficient cash to retain the amount of profit provided for after meeting all prior-ranking liabilities. However, this is likely to occur only in an extreme case.

The amount of the retained profit must be apportioned on a just and reasonable basis between different accounting periods to which it relates (where applicable). However, there is no requirement for an amount of profit to be retained for each accounting period of the company.

If the company has insufficient funds to meet the retained profit required, the retained profit is the amount of the cash profit actually retained (and the company will be liable to tax only on the amount retained (subject to any adjustments under the charging provisions in regulation 14). If this happens, the terms of the relevant documentation will in some cases provide for a ‘make up’ retention in a later period, to compensate for the shortfall in the earlier period. Any such make up retention which is actually made in a later period will be included in the retained profit for the later period. This ensures that no amount actually falls out of charge as a consequence of the profit retention being deferred.