A loan between two companies under common control is a loan relationship, but special connected company rules apply. Interest is taxed and relieved on an amortised cost basis; if the loan is written off or released, the lender normally gets no deduction and the borrower is normally not taxed, so the write off is tax neutral. An interest free loan may still be taxed as if interest were charged under transfer pricing, unless the group is a small or medium sized enterprise.

When are two companies connected for these rules?

Section 466 of the Corporation Tax Act 2009 (CTA 2009) says there is a connection between two companies for an accounting period if, at any time in that period, one controls the other or both are controlled by the same person. Control, under section 472, means the power to secure that the company’s affairs are conducted in accordance with a person’s wishes, through shares or voting power or through powers in the articles. The same person can be an individual: two companies owned by the same shareholder are connected even though neither owns the other.

Section 348 makes a loan a connected companies relationship if the lender and borrower are connected, including where the connection runs indirectly through a series of loans, and treats it as connected for the whole accounting period if it is connected at any time in it. This test is narrower than the general definition of connected persons used elsewhere in tax (see connected persons), so check it on its own terms.

The loan must also be a real loan. HMRC’s guidance at CFM31040 points out that intercompany balances for goods and services supplied are trade debts, not loan relationships, and that payments made by one company on behalf of another may not be a loan without evidence, such as an agreement, that they were intended to be one.

How is interest on an intercompany loan taxed?

The general loan relationships rules apply (see loan relationships), with one change: section 349 requires credits and debits on a connected companies relationship to be computed on an amortised cost basis. If a company uses fair value in its accounts for an intercompany loan, it must adjust for tax. In practice the borrower deducts interest as it accrues and the lender is taxed on it as it accrues.

Three related points:

  • No Income Tax deduction between UK companies. The duty to deduct Income Tax from yearly interest does not apply where the company paying reasonably believes the person beneficially entitled to the interest is a UK resident company (sections 930 and 933 of the Income Tax Act 2007).
  • Late payment between UK group companies is not a problem. The late paid interest rule no longer applies where the only link is control, and a company lender is only within it if it is in a non qualifying territory; see late paid interest.
  • Large groups with more than £2 million of net interest expense must also apply the corporate interest restriction.

What if the loan is interest free or at a low rate?

This is a transfer pricing question. Section 147 of the Taxation (International and Other Provisions) Act 2010 (TIOPA 2010) applies where provision between two persons under common participation differs from what independent enterprises would have agreed and confers a potential advantage in relation to UK tax. The profits of the advantaged person are then calculated as if the arm’s length provision had been made.

On an interest free loan from one UK company to another, the lender is the one with lower taxable income, so the lender can be taxed on an arm’s length rate of interest it never received. Section 174 then lets the borrower, as the disadvantaged person within the charge to Corporation Tax, claim a compensating adjustment so that it computes its own profits on the same arm’s length basis and deducts the same interest.

The small and medium sized enterprise exemption

Section 166 switches off these transfer pricing adjustments for a small or medium sized enterprise. Section 172 uses the European Commission Recommendation 2003/361/EC with some modifications, and HMRC sets out the limits at INTM412080:

Category Staff headcount ceiling Turnover Balance sheet total
Small 50 €10 million €10 million
Medium 250 €50 million €43 million

An enterprise must be within the staff ceiling and at least one of the financial limits, measured across the whole group and any associated enterprises. The exemption does not apply where the other party is resident in a non qualifying territory (section 167(3)), a company can make an irrevocable election to stay within transfer pricing (section 167(2)), and HMRC can issue a transfer pricing notice to a medium sized enterprise (INTM412070). For most owner managed groups trading only in the UK, the exemption means an interest free intercompany loan has no transfer pricing consequence.

What happens when an intercompany loan is written off?

HMRC explains at CFM35310 that the connected company rules exist to stop a group claiming relief twice for the same economic loss, for example group relief for the subsidiary’s losses and a deduction for writing off the loan that funded them, and to stop groups getting relief for funding a company with debt rather than shares. The rules work on both sides.

The lender

Section 354 denies any impairment loss or release debit on a creditor relationship to which the amortised cost rule in section 349 applies. CFM35370 lists the two exceptions: where the debt is released in exchange for shares in the debtor (a debt for equity swap) and where the creditor is insolvent. HMRC adds at CFM35320 that if a company later reverses a disallowed impairment, the reversal is not taxed. Exchange gains and losses on the debt are still brought into account.

The borrower

Under section 358, a debtor whose connected creditor releases the debt is not required to bring a credit into account, unless the release is a deemed release. CFM35420 confirms the same result when the debtor goes into insolvent liquidation, whether or not the insolvency breaks the connection.

HMRC’s example at CFM35330 shows the symmetry. A parent lends £30,000 to its wholly owned subsidiary at 5%, receives the first year’s interest, then cannot collect the second year’s £1,500 and formally releases half the loan. The parent is taxed on the second year’s interest credit but gets no deduction for the impairment or the £15,000 release; the subsidiary deducts the interest but is not taxed on the £15,000 release.

What is a deemed release?

The neutral treatment could be exploited by buying a group company’s debt cheaply from a third party. Section 361 stops this: where a company acquires the rights under a loan from an unconnected person for less than its carrying value in the debtor’s accounts and is connected with the debtor immediately afterwards, it is treated as releasing the difference on acquisition, and the debtor is taxed on that deemed release. Section 362 has a similar rule where the creditor and debtor become connected while the debt is impaired. There are exceptions, including where the acquisition is in exchange for shares in the debtor and where the debt is released shortly after acquisition as part of a corporate rescue.

How does this work in a worked example?

Illustration only. Holdco Ltd owns 100% of Opco Ltd. Holdco lends Opco £100,000 interest free to fund a new branch. The branch fails and three years later Holdco writes the loan off.

  • If the group is within the small or medium sized enterprise exemption: no interest is imputed. On the write off, Holdco gets no deduction under section 354 and Opco has no taxable credit under section 358. The loss is relieved only through Opco’s own trading losses, which could be surrendered to Holdco as group relief.
  • If the group is large: transfer pricing applies. If an arm’s length rate were, say, 6%, Holdco would be taxed on £6,000 a year of interest it never received, and Opco could claim a compensating adjustment to deduct the same amount. The write off is still neutral.

What are the common mistakes?

  • Claiming a deduction for writing off a loan to a subsidiary. Unless an exception applies, section 354 prevents it.
  • Taxing the borrower on a release from a group company. Section 358 normally excludes the credit, even though it appears in the accounts.
  • Relying on the SME exemption with an offshore counterparty. It does not apply where the other party is in a non qualifying territory.
  • Calling trade balances loans. Unpaid recharges for goods or services are trade debts, with different rules.
  • Ignoring the legal side. A write off or guarantee within a group raises company law questions as well as tax ones; see intra group guarantees and corporate benefit.

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Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 8 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.