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HMRC have published Brief 10/08, which highlights changes in the tax rules where companies use derivatives or borrowing to hedge foreign exchange exposure arising from holding shares in an overseas subsidiary, or similar assets.

A company that has invested in an overseas business (or a UK business that operates in a different currency) will be exposed to foreign exchange movements. It will often borrow in foreign currency, or use currency derivatives, to hedge that exposure. Statutory Instrument 2004/3256 (the 'Disregard Regulations'), contains provisions allowing certain foreign exchange gains or losses on such hedging instruments to be disregarded for corporation tax purposes, to allow the tax position to replicate the commercial effect of the hedging. This process is often referred to as 'forex matching'.

These rules were amended by regulations (SI 2007/3431) laid in December 2007. The main change is that companies holding shares that give rise to a foreign exchange exposure - in most cases, shares in an overseas subsidiary, are no longer restricted to using the accounts value of the shares – which will normally be their cost – to determine how much of a hedging instrument is 'matched'.

If the company so elects, it can match the 'underlying net asset value' of the shares, if that is more than the accounts value. In broad terms, 'underlying net asset value' means the value of the foreign currency assets, less the foreign currency liabilities, held by the subsidiary concerned or its sub-subsidiaries.

For most companies, the time limit for the election is the later of:

• 31 March 2008; or
• 30 days from the start of the company’s first accounting period beginning on or after 1 January 2008.

This means that a company preparing accounts to 31 December each year will need to make an election by 31 March 2008. There is provision for companies to make a later election if they do not hold any 'matched' shares at the start of their first accounting period beginning on or after 1 January 2008. The election is irrevocable.

New guidance will shortly be published in HMRC’s Corporate Finance Manual on forex matching under the Disregard Regulations, including the effect of the changes made last December. An advance copy of this guidance is available on the HMRC website (see link below).

Link

HMRC Brief 10/08