SAIM4140 | Accrued Income Scheme: payments on transfers with accrued interest

Payments on transfer with accrued interest

The majority of transfers are made with accrued interest (‘cum div’), that is, on the basis that the transferee will receive the next payment of interest. These are taxable in accordance with the rules in ITA07/S632. The transferee is treated as making a payment to the transferor in the interest period in which the settlement day falls. The payment is the amount of the gross interest accruing to the settlement day, which in most cases is shown separately from the consideration for the securities, under the arrangement (that is, the contract note) by which the transferee accounts to the transferor. This is commonly known as the ‘clean price’ basis.

In exceptional cases - for example, sales off market, gifts, settlements, and deemed transfers - there will be no contract note and it will it be necessary to compute the amount of the payment. Where this is done, the formula

I x A/B

is used.

I is the interest payable on the securities on the first interest day after the settlement day (‘the payment day’).

A is the number of days in the period up to and including the settlement day.

B is the number of days in the period ending with the payment day.

Example

Harriet sells corporate bonds to Howard on 15 March 2015. Interest is paid on the bonds on 31 March, 30 June, 30 September and 31 December. Howard will receive the interest coupon due on 31 March 2015, that is, the sale is cum div. The interest Howard receives is £200.

If Harriet agrees to sell the bond to Howard for a ‘clean price’ of £10,000 plus an additional £165 for accrued interest, she is taxable on accrued income profits of £165 in 2014-15. Howard will reduce his accrued income profits by £165.

Suppose that, instead, Harriet simply agrees to sell the bond to Howard for £10,165. The relevant interest period is 1 January to 31 March 2015, so B is 90 days. The number of days up to and including 15 March (A) is 74. So the ‘accrued amount’ is £200 x 74/90 = £164.44. Again, Harriet’s taxable accrued income will be £164, and Howard’s reduced by £165 (following the principle of rounding in the taxpayer’s favour).

See SAIM4160 for more examples.