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Court of Appeal upholds £675m claims for foreign exchange losses

Smith & Nephew Overseas Ltd (and others) v HMRC [2020] EWCA Civ 299

Members of the Smith & Nephew PLC group, a leading FTSE 100 medical technology multinational (the “taxpayers”), have succeeded before the Court of Appeal in claims to deduct c£675 million of foreign exchange losses for tax purposes. 

The exchange losses arose as a result of the taxpayers changing functional currencies from sterling to US dollars following a group restructuring.  Certain very substantial inter-company debts were denominated in sterling but had to be converted into dollars upon the change in functional currency.  Because of a fall in the value of sterling against the dollar, the taxpayers recognised c£675 million of exchange differences in their accounts.  They filed their returns on the basis that these exchange differences constituted exchange losses giving rise to allowable loan relationship debits for corporation tax purposes.

HMRC denied the taxpayers’ claims, contending that the exchange differences recognised in the accounts could not be treated as allowable corporation tax debits.  Before the Court of Appeal, HMRC argued that the exchange differences did not “fairly represent” losses arising to the taxpayers from their loan relationships (and so were not allowable debits, applying section 84(1)(a) Finance Act 1996).

The Court of Appeal (upholding the First-tier Tribunal and the Upper Tribunal) has rejected HMRC’s contentions.  It concluded that the exchange differences did indeed give rise to allowable debits for corporation tax purposes.  Rose LJ, who gave the leading judgment, held that:

(a) Secondary legislation (namely regulation 13 of the Exchange Gains and Losses (Bringing Into Account Gains or Losses) Regulations 2002) mandated the bringing into account of the exchange differences as debits for corporation tax purposes (with the result that the “fairly represents” test in section 84(1)(a) was not applicable); and

(b) Further, and in any event, if the fairly represents test could apply in principle (contrary to her primary conclusion), that test would have been satisfied on the facts: the debits which the taxpayers had sought to make did indeed “fairly represent” the exchange losses arising from their loan relationships (and so would have satisfied section 84(1)(a)). 

Julian Ghosh QC and Jonathan Bremner QC, instructed by Johnson & Allen Tax, acted for the Smith & Nephew taxpayer companies.  You can view the full Judgment here.