The UK Government has recently issued a policy paper indicating a major change in the taxation of foreign branches (also called Permanent Establishments or ‘PEs’) operated by UK companies. While full details are still awaited, the proposal signals a significant change.

Once the updated legislation has been implemented, profits attributable to foreign branches of UK companies will be fully exempt from UK corporation tax, with no alternative treatment available. This could significantly impact groups or companies that have historically used tax losses arising in foreign branches to shelter UK income from the charge to corporation tax.   

Current position

Under the current regime, UK companies are generally subject to corporation tax on their worldwide profits, including those generated through foreign branches. Relief for any foreign tax suffered is typically provided via double tax relief tax or, if the company chooses, they can make an election to exempt the foreign branch profits from UK corporation tax.

Future position

The policy paper states that HMRC will move to a more comprehensive exemption system, under which all foreign branch profits would be excluded from UK taxation by default. This would align the treatment of branches more closely with that of foreign subsidiaries. The expectation is that this change will be effective for accounting periods beginning on or after 1 January 2027. For companies that conduct activities in relation to oil & gas extraction and exploration through foreign PEs, the measure will apply from 1 September 2026 to prevent any losses arising in foreign PEs after that date from being offset against UK profits.

Key considerations for businesses

While detailed legislation is still to come (draft legislation is expected over summer), based on what we know so far, the key implications to consider are:

• The removal of relief for foreign branch losses against UK profits could impact a company’s future UK tax position and mean a higher UK tax charge. In addition, there are likely to be transitional rules to prevent losses arising before the exemption takes effect from being offset against UK profits of the company arising after the effective date.
• The relative attractiveness of operating through branches versus subsidiaries may change, depending on, for example, profitability profiles and expansion plans, so the structuring for any imminent international expansion may need to be reviewed. Legal advice should of course also be sought when considering the merits of setting up an overseas subsidiary versus a branch.
• As overseas branch profits of UK companies are now going to be exempt from UK taxation, it will be even more important that the profit allocation of the branch is appropriate and in line with transfer pricing rules. A review of profit allocation methods and documentation to support the calculations should be undertaken. It is likely there will be anti-avoidance clauses in the draft legislation relating to how the profits are allocated.
• For those groups that have profitable branches only in high tax jurisdictions, the proposed change will likely have a more limited impact.

How we can help

If your company operates through foreign branches, has historically relied on branch losses to shelter UK profits, or is considering international expansion, we would be happy to discuss how these proposals may impact your current structure and future plans. Please get in touch with me at amanda.collinson@jcca.co.uk.