The UK: Blackrock Holdco 5 LLC v HMRC: Unallowable Purpose and Transfer Pricing
On 3 November 2020 The First Tier Tribunal (FTT) published its decision in Blackrock Holdco 5 LLC v HMRC. Brief facts of the case are as follows:
- Blackrock Holdco 5 LLC (5LLC), a UK tax resident US LLC, entered into loans of US$4bn with its parent company to fund the acquisition of the US business of Barclays Global Investors (BGI).
- HMRC challenged the use of a UK borrower (5LLC) in a US chain of businesses under the loan relationship rules for unallowable purposes and transfer pricing legislation.
- HMRC argued that the effect of both sets of provisions was to reduce the UK finance cost deductions to nil.
5LLC was used rather than a UK incorporated company as there was concern, amongst other things, over potential changes to the US check the box election. 5LLC borrowed US$4bn from its parent (also a US LLC) and then contributed the funds in the form of equity to another US LLC which acquired the BGI business. Interest on the loan payable by 5LLC amounted to approximately US$200mn p.a., the issue being whether this was deductible for UK tax purposes.
Whilst HMRC were of the view that the UK’s ‘worldwide debt cap’ provisions did not apply (which would limit interest deductions to 10% of the total amount), they argued that the insertion of 5LLC was done to secure a tax advantage. Blackrock argued that the transaction would have gone ahead irrespective of the tax advantage.
The FTT had to consider the following:
Regarding transfer pricing:
- would the loans have been entered into were the parties independent.
Regarding unallowable purpose:
- whether a main purpose of LLC5 being a party to the loan relationships was to secure a tax advantage for itself or any other person; and
- if the answer was yes, what amount of debit is attributable to that purpose.
HMRC argued that it was necessary to consider the group as a whole and whether it would have structured the transaction differently if acting at arm’s length. The FTT rejected this, preferring the “separate entity approach” and the question of whether 5LLC would have been able to borrow the US$4bn, and if so on what terms.
Experts for both sides agreed that 5LLC would have been able to borrow the US$4bn albeit that additional covenants would have been required. HMRC argued that the need for additional covenants meant that the lending would not have been possible whilst Blackrock argued that the covenants simply affected the cost of the borrowing.
The FTT found in favour of Blackrock – that subject to obtaining the covenants a third party lender would have funded the deal.
The FTT found that one of the main purposes of inserting 5LLC into the arrangements was to secure a tax advantage, but there was also a commercial purpose in making the loan.
Sections 441 and 442 Corporation Taxes Act 2009 prohibit the deduction of interest and other financing costs to the extent that it is, on a just and reasonable apportionment, attributable to the unallowable purpose. Blackrock argued that 5LLC would have issued the loan notes had there been no tax advantage. The FTT accepted this, and that the tax advantage purpose did not increase the interest expense. On a just and reasonable basis therefore, all the interest expense was to be apportioned to the commercial main purpose and was wholly deductible.
The judge held that: ‘Having regard to all the circumstances of the case it is, in my judgment, clear that the securing of a tax advantage is an inevitable and inextricable consequence of the Loan between LLC4 and LLC5.’
Of course the judgment is hugely beneficial to Blackrock, but in the wider context is it right to conclude that because a loan gives rise to a tax deduction (ergo an advantage) there is de facto an unallowable purpose? This aspect of the decision has rightly been widely questioned.
Given the significant sums involved and the far-reaching consequences of the FTT’s decision it is highly likely that HMRC will appeal.