Unallowable purpose rules – why have an update now?

The Unallowable Purpose rule has been established for some time (originally enacted in Finance Act 1996), and are summarised below. However, HMRC Guidance has been updated in May 2025 to reflect recent Court of Appeal decisions in BlackRock v HMRC, Kwik-Fit v HMRC and JTI Acquisitions v HMRC. This new guidance sets out HMRC’s current views in this area and gives some practical updates and examples for how HMRC will typically look to apply the rules.

What is an Unallowable purpose?

Under the UK loan relationship rules (rules that apply to ‘money debts’ and the lending of money), there are certain anti-avoidance provisions within the legislation that are known as the ‘unallowable purpose’. These broadly apply to disallow (on a just and reasonable basis) not only interest deductions but exchange gains and losses on a loan relationship or related transaction where there is an ‘unallowable purpose’ at times in an accounting period. Generally, this will be where the purpose, or one of the main purposes of the loan relationship or related transaction is to secure a tax advantage (a main tax avoidance purpose).

HMRC see much of the application of the unallowable purpose as a question of fact, and therefore will seek to establish the full context to understand and assess the evidence on a case-by-case basis. However, the guidance does give some practical examples and HMRC’s views on whether the unallowable purpose rules would or would not apply, some common scenarios have been set out below.

It should be noted that HMRC will always look to the specific facts and circumstances of a particular transaction, when determining the application of the rules. The starting point will typically be to assess ‘why’ a company is party to a loan relationship. This will consider both potential UK and non-UK (wider group benefits) of the UK taking on additional debt, although the existence of a wider group benefit will not necessarily constitute an unallowable purpose (securing a ‘tax advantage’ under the rules, means a UK tax advantage).

Examples where the Unallowable Purpose rule should normally not apply

• Funding for UK commercial opportunities, from either external or related party financing (even where the Directors deciding factor for debt over equity financing is the availability of tax deductions, or there is a wider global tax benefit)
• Funding the acquisition of an asset for use as part of a UK commercial opportunity, unallowable purpose should not apply even where investment decision may not have been made were it not for the availability of capital allowances and/or interest deductions
• Borrowing to pay dividends to shareholders if there are market expectations to meet, this would also apply to borrowing to repurchase shares, in order to meet market expectations on returns

Examples where the Unallowable Purpose rule may apply

• Related party funding for a UK special purchase vehicle established to acquire a non-UK business, even where there may be commercial benefits to the wider non-UK group from the acquisition.
• A close company A Ltd lends money to B Ltd which is owned 100% by another family member. The businesses of A and B Ltd are not linked. Subsequently, the loan is written off.

The key point with the above examples is that HMRC tend to not consider the unallowable purpose to apply where funding is for a UK-based commercial opportunity, versus perhaps an opportunity that whilst it may benefit the wider group, there is no obvious commercial benefit for the UK.

Summary – Unallowable Purpose Rule

Tadhg, our Corporate Tax Director, added “Broadly speaking the updated guidance means that for companies looking to finance their business activities, there has never been a greater requirement to carefully consider the commercial rationale for potentially taking on debt-funding. HMRC have provided more practical examples in how they approach the unallowable purpose which is positive for businesses trying to navigate these rules, albeit the guidance is generally just emphasising where HMRC have had an approach agreed by the courts. In particular, it makes it clear that the onus is on the business to demonstrate what the funding is for, how it benefits the UK company taking on the debt and to ensure these considerations are documented appropriately”.

If you would like to talk to a member of our Tax team regarding Unallowable Purpose rules, or indeed any area of Corporate Tax, you can contact us on 020 7870 9050 or email us at hello@rpgcc.co.uk where a member of our team is waiting to help.