What is an Associated Company?

So, what is an associated company anyways? You might have heard this term because of the new way Corporation Tax is being calculated, or perhaps you’ve heard it mentioned by your accountant, but don’t know what it means. Fret not, we have you covered.

Below you’ll find an overview of the impact of associated companies and how to identify them, as getting this wrong can have significant implications on your Corporation tax calculation.

Just a side note (but an important one): the topic of associated companies is quite complicated (we wouldn’t expect anything less when it comes to the government and taxes), so this guidance doesn’t cover every detail or scenario. If you’re unsure exactly how this impacts you, please get in touch, we’d be happy to help!

 

Corporation tax rates

From 1st April 2023, the rates of Corporation tax are:

  • 19% (the Small Rate) – if taxable profits are less than £50,000 (lower limit)
  • 25% (the Main Rate) – if taxable profits are more than £250,000 (upper limit)

Companies with taxable profits between £50,000 and £250,000 will have their Corporation tax calculated at the main rate, reduced by a ‘Marginal Relief’. This provides a gradual increase in the effective Corporation Tax rate.

Confused yet? Don’t worry, this chart will help break it down more simply…



The Marginal Relief calculation might not make much sense to someone who’s not an accountant, so HMRC have created a handy calculator that will help you estimate your own Corporation Tax (view it here: Marginal Relief Calculator).

In a nutshell, the simplest way to calculate Corporation Tax is to apply 19% to the first £50,000 in taxable profit, and 26.5% to anything between £50,000 and £250,000.

As an example, a company with a taxable profit of £100,000 will have a Corporation Tax liability of £22,750 (at an effective rate of 22.75%) calculated as follows:

  1. £50,000 x 19% = £9,500
  2. £50,000 x 26.5% = £13,250
  3. Total due = £22,750

The graph above illustrates the effective Corporation Tax rate for companies with profits between £50,000 and £250,000 over a 12-month accounting period. If the accounting period is less than 12 months, the lower and upper limits are reduced by time apportionment. For example, for a 9-month accounting period they will be £37,500 and £187,500.

The impact of associated companies on the Corporation Tax liability

Now that the rate of Corporation Tax is determined by the amount of taxable profit, an owner-manager’s first thought might be to set up multiple Limited companies. However, this does not work due to legislation in the Finance Act covering associated companies.

Alternatively, there may already be associated companies due to existing business structures, involvements and personal connections.

Where companies meet the definition of being associated, for the purposes of the Corporation Tax calculation, the lower limit of £50,000 and upper limit of £250,000 are reduced by dividing them by the number of associated companies. The number of associated companies will be reported to HMRC on the Company Tax Return (CT600) and the Corporation Tax Computation.

We know, it’s a lot to take in… here’s an example:

If an individual controls two Limited companies, this means there are two associated companies. If each company has taxable profits of £50,000, each company will now have a lower limit of £25,000 and an upper limit of £125,000 meaning they will be taxed at the main Corporation tax rate with a reduction for Marginal Relief. Each company will have a Corporation tax liability of £11,375 (at an effective rate of 22.75%) calculated as follows:

  1. £25,000 x 19% = £4,750
  2. £25,000 x 26.5% = £6,625
  3. Total due = £11,375

With each company paying Corporation Tax of £11,375, it is a total of £22,750, which is the same as if one company without any associates makes a taxable profit of £100,000.

The graph below illustrates the effective Corporation Tax rate for two associated companies, each with profits between £50,000 and £250,000 over a 12-month accounting period.

 

The impact on Corporation tax payments

A large company with taxable profits of at least £1.5 million is required to make quarterly Corporation Tax payments. This profit threshold is divided by the number of associated companies at the end of the last accounting period.

For example, if there are three associated companies, this threshold is reduced meaning quarterly Corporation Tax payments are made once annual taxable profits exceed £500,000.

 

The impact on the Annual Investment Allowance

The Annual Investment Allowance (AIA) enables businesses to deduct, for items that qualify, the full value of an item that has been capitalised from profits before tax. Note that the AIA cannot be used against cars.

The amount of AIA is up to £1 million per accounting period and this is time apportioned if the accounting period is less than 12 months.

Where there are associated companies, they can only claim one AIA between them per accounting period but they can choose how this is allocated.

For example, there might be four associated companies but you may choose to allocate the full £1 million to one company, if that company is heavily investing in plant and machinery.

 

Identifying Associated Companies

Broadly, a company is associated with another company if:

  1. One of the companies has control of the other; or
  2. Both companies are controlled by the same person or group of persons

Please note:

  • Non-UK resident companies are included when counting associated companies
  • An associated company is counted even if it is an associated company for only part of an accounting period
  • An associated company which has not carried on any trade or business at any time during the accounting period is disregarded. If that company is an associated company for only part of the accounting period and has not carried on any trade or business at any time during that part of the accounting period, it is also disregarded.
  • Holding companies are included and can only be excluded if they are passive. Passive means they receive dividends and then pay these dividends in full to their shareholders i.e. the holding company cannot retain cash
  • Dormant companies can be excluded

The control will often be in the form of ownership of shares but it can also include voting rights, rights to dividends and rights to assets on winding up. This also includes the right to acquire ownership in the future.

Looking at some simple examples.

Example 1:

Company A (the parent) owns 100% of the share capital in Company B (the subsidiary) – these two companies are associated because Company A controls Company B.

Example 2:

Mrs Bloggs owns 100% of the share capital in Company Y and Mrs Bloggs also owns 100% of the share capital in Company Z – these two companies are associated because Mrs Bloggs controls both Company Y and Company Z.

In reality, company structures will be more complicated and include multiple entities and persons.

Example 3:

Company C has a shareholding of Mr Blue 35%, Mrs White 35% and Ms Green 30% – none of the individuals are connected to one another

Company D has a shareholding of Mr Blue 15%, Mr Pink 45% and Ms Green 40% – none of the individuals are connected to one another

Even though no one person has control of either Company C or Company D on their own, Company C and Company D are associated as they have a common minimum controlling combination, as together, Mr Blue and Ms Green can control both Company C and Company D.

The ‘minimum controlling combinations’ are groups of people who have control, but would not have if we excluded any one person. If two companies have an identical minimum controlling combination, they will be associated.

In example 3, because the individuals are unconnected, we only need to consider their individual rights and powers to determine whether the companies are associated. 

Where there is ‘substantial commercial interdependence’ between two companies, we also need to consider the rights and powers of each shareholder’s ‘associates’ when determining whether the companies are under common control.

‘Associates’ for this purpose means spouses and civil partners, blood relatives (parents, grandparents, children, grandchildren, siblings), partners and some trustees and settlors.

Substantial commercial interdependence can be any of the following:

  1. Financial – one company financially supports the other, or each has a financial interest in the affairs of the same business. 
  2. Economic – the companies have the same economic objective, common customers or the activities of one benefit the other. 
  3. Organisational – the companies have common management, employees, premises or equipment.

If any of the above apply, we must also consider the rights of the associates.

Example 4:

Mrs Apple operates a management consultancy company, Company F of which she owns 100% of the shares. Her husband, Mr Apple, operates a hair salon, Company G, of which he owns 100% of the shares. The companies do not trade with one another or share funds. They have different premises and different customers. 

These two companies are not associated because there is no substantial commercial interdependence.

Example 5:

Mr Plum operates a pub, Company P, of which he owns 100% of the shares. His wife, Mrs Plum, operates a catering business, Company Q, of which she owns 100% of the shares. The catering company provides the food in the pub, who is their main customer. 

These two companies are associated because there is substantial commercial interdependence between Company P and Company Q – the catering company is financial dependent on the pub and they have the same customers so the activities of one benefit the other.

What does this mean for your year end accounts and Company Tax Return?

  1. Based on the information we have, we will make an assessment of the number of associated companies, if any
  2. We include this on the draft Company Tax Return (CT600) provided to you for review and signing
  3. We will explain to you how we have determined the number of associated companies 
  4. We ask that you consider this carefully, taking into account:
    1. All of your worldwide business interests
    2. Any companies that Clic Accounting do not act for and may be unaware of
    3. Family connections – is there substantial commercial interdependence between companies?
    4. How you wish the Annual Investment Allowance to be allocated if the spend exceeds £1 million across the associated companies
  5. Your signature on the Company Tax Return (CT600) and Letter of Representation to Clic Accounting will confirm your agreement to the number of associated companies reported to HMRC

 

If you have any questions or concerns regarding the number of associated companies, please get in touch!

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