Corporation tax: the disregard and recognition of profits and losses on derivative contracts covering the acquisition and disposal of shares (Regulation 2022)

Who is likely to be affected

Companies that use derivative contracts to hedge foreign exchange risks related to the acquisition or disposal of significant holdings.

General description of the measure

Currently, companies that have an equity investment can use a derivative contract (hedging instrument) to hedge the currency risk of that investment. Any foreign exchange gain or loss on the hedging instrument is initially ignored for tax purposes.

This aligns the tax treatment of the gains and losses of the instrument, which are otherwise generally treated as items of income, with the treatment of the capital of the shares. Other rules may then reduce to tax the foreign exchange gains or losses on the hedging instrument when the company subsequently disposes of the shares.

Derivative contracts, such as contingent forward contracts, which are used to hedge foreign exchange risks when acquiring and disposing of (as opposed to holding) significant equity interests do not fall under the non-compliance rules and existing consideration. To solve this problem, new regulations will be established to integrate the derivative contracts used in these scenarios into the existing rules.

Political objective

The measure was identified as part of the consultation on the UK funds regime to consider reforms that could improve the UK’s competitiveness as a location for asset management and investment funds.

Gains and losses on derivative instruments used to hedge the exchange risk during acquisitions and disposals of holdings are recognized in profit or loss over the life of the instrument. This results in a mismatch with the tax treatment of shares, which may not be taxed or exempt until the shares are finally disposed of, or may be exempt. This means that hedges are not effective in eliminating exchange rate volatilities, as tax liabilities are always exposed to exchange rate fluctuations. This is a source of uncertainty for businesses.

This measure aims to remove this discrepancy for all companies and not just for portfolio management companies or investment funds.

Context of the measure

In the 2020 budget, the government announced that it would carry out a review of the UK regime for the funds, covering taxation and relevant regulatory areas. The review began with a consultation on the tax treatment of holding companies (AHC) in Alternative Fund Structures, also released as part of Budget 2020.

The government responded to this consultation in December 2020 by launching a second stage consultation on the detailed design features of a new AHC. The government’s response to this consultation was published on July 20, 2021.

In this response, the government committed to explore the possibility of introducing legislation on the hedging instruments used to cover the exchange rate risk when acquiring and disposing of large shareholdings. This measure introduces the necessary changes.

Detailed proposal

Effective date

This measure will apply to companies that enter into derivative contracts from April 1, 2022.

Current law

Current law is contained in derived law. SI 2004/3256 Lending Relationships and Derivative Contracts (Non-Compliance and Recognition of Profit and Loss) Regulations (the “Non-Compliance Regulations”) were introduced in 2004 and allow companies to equalize the tax treatment of fair value changes in the derivative contract to the hedged item. If the rules apply, exchange gains or losses are not taken into account.

The Foreign Exchange Gains and Losses (Recognition of Gains or Losses) Regulations 2002 SI 2002/1970 (“EGLBAGL Regulations”) may take into account the foreign exchange gain or loss arising from derivative instruments used to hedge exchange rate when there is a transfer of the asset. However, capital gains and losses on disposal of shares are often exempt due to the substantial holdings exemption in Schedule 7AC of the Taxation of Taxable Gains Act of 1992 (TCGA ).

The new qualifying asset holding company regime also contains a capital gains and losses exemption for most share disposals in paragraph 53 of Schedule 2 of the Finance Act 2022.

Proposed revisions

Secondary legislation will introduce a new 5ZA regulation to expand the non-compliance regulations to cover scenarios where companies use a derivative contract to hedge currency risk on:

  • acquisition cost of the shares, as well as ancillary acquisition costs
  • the proceeds of the disposal of shares, or any relevant dividend paid in connection with the disposal, or
  • subscription for shares or entry into a creditor loan relationship with another company with a view to financing, directly or indirectly, an acquisition of shares

The new regulations:

  • include all derivative contracts in scope and allow for foreign exchange gains and losses to be disregarded; for option futures and options, all gains and losses of the hedging instrument will be ignored
  • only apply where the hedged item relates to the acquisition or disposal of an interest which constitutes a substantial interest in accordance with paragraph 8 of Appendix 7AC of TCGA 1992; or is a qualifying equity holding where the company is a qualifying asset holding company under Schedule 2 of the Finance Act 2022

The statutory instrument will also include amendments to the EGLBAGL regulation to reinstate previously ignored amounts in cases where a taxable gain or loss is taken into account on the disposal of shares. In most cases, no amount will be reflected where the derivative covers a relevant dividend or creditor loan relationship in respect of an anticipated transaction.

Summary of impacts

Treasury impact (£million)

2021 to 2022 2022 to 2023 2023 to 2024 2024 to 2025 2025 to 2026 2026 to 2027

The Office for Budget Responsibility will include the impact of this measure in its spring 2022 forecast.

Economic impact

This measure should not have significant economic impacts.

Impact on individuals, households and families

There is no impact on individuals since this measure only concerns businesses. The measure should not affect the formation, stability or breakdown of the family.

Equalities impacts

It is not expected that there will be any impacts for people in groups that share protected characteristics.

Impact on businesses, including civil society organizations

The measure benefits companies by removing the tax volatilities of foreign exchange gains and losses associated with these transactions.

This measure is expected to have a negligible impact on costs for the approximately 100 large companies that complete these transactions each year. One-time costs will include becoming familiar with the changes and updating the software to reflect the change in tax treatment. There should be no ongoing charges.

The customer experience should stay the same overall, as the administration needed to comply with these changes shouldn’t be cumbersome.

This measure should have no impact on civil society organisations.

Operational impact (£million) (HMRC or other)

This change will have no operational impact for HMRC.

Other impacts

Other impacts were taken into account and none were identified.

Monitoring and evaluation

The measure will be reviewed through communications with affected stakeholders.

Additional tips

If you have any questions about this change, please contact the Financial Products Team by email: [email protected]


The Rt Hon Lucy Frazer QC MP, Financial Secretary to the Treasury has read this Tax Information and Impact Note and is satisfied that, given the evidence available, it represents a reasonable view of the likely costs, benefits and impacts of the measure.

Luisa D. Fuller