SolvedCFM96870 | Interest restriction: joint ventures: group ratio (blended) election: example
From HM Revenue & Customs · Corporate Finance Manual
If there is third party and related party interest in the example shown in CFM96860 the effect of a blended group ratio can be demonstrated.
For visual illustration view diagram showing the effect of a blended group ratio on a joint venture
The diagram shows the effect of applying a blended group ratio to a joint venture (JV) under section 399. The JV has four investors. Three are related parties with group ratios of A 70%, B 32% and C 60%, holding interests of 40%, 25% and 25%. One investor D is not a related party, with a group ratio of 80% and a 10% interest. These interests give the JV a blended group ratio of 35%. The JV has operating profit of 100, with interest expense of 35 paid to a third party and 30 paid to a related party.
Election not made
| Accounts | JV |
|---|---|
| Operating profit | 100 |
| Third party interest expense (QNGIE) | - 35 |
| Related party interest | - 30 |
| Profit before tax | 35 |
| Calculation of adjusted net group-interest expense | JV |
|---|---|
| Third party interest expense | 35 |
| Related party interest expense | 30 |
| Adjusted net group-interest expense | 65 |
| Calculation of group ratio | JV |
|---|---|
| Qualifying net group-interest expense | 35 |
| PBT for the JV | 35 |
| Add back adjusted net group-interest expense | 65 |
| Group-EBITDA | 100 |
| Group Ratio | 35% |
| Interest allowance | JV |
|---|---|
| Tax-EBITDA | 100 |
| X plc group ratio | 35% |
| Interest allowance | 35 |
| Net tax-interest expense | 65 |
| Less interest allowance | - 35 |
| Restriction | 30 |
When the election is not made the group ratio of the JV is calculated under TIOPA10/s399 which works out at 35%. As the related party interest does not contribute to the group ratio there is a restriction of 30 in the JV
Blended group ratio election made
| Accounts | JV |
|---|---|
| Operating profit | 100 |
| 3rd party interest expense (QNGIE) | - 35 |
| Related party interest | - 30 |
| Profit before tax | 35 |
| Calculation of adjusted net group-interest expense | JV |
|---|---|
| Third party interest expense | 35 |
| Related party interest | 30 |
| Adjusted net group interest expense | 65 |
Blended Group Ratio from example in CFM96860 - 55%
| Interest allowance | JV |
|---|---|
| Tax-EBITDA | 100 |
| Blended group ratio | 55% |
| Interest allowance | 55 |
| Net tax-interest expense | 65 |
| Less interest allowance | - 55 |
| Restriction | 10 |
If this situation is compared to the circumstance where no election is made the restriction is reduced to 10. Therefore, in this circumstance it is advantageous to make a group ratio (blended) election.