Regulatory Capital Requirements: UK Enacts Tax Regime for New Additional Tier 1 and Tier 2 Regulatory Capital Instruments

Sullivan & Cromwell LLP - 6 January 2014

The UK Parliament has approved regulations setting out the tax treatment of Additional Tier 1 and Tier 2 regulatory capital securities issued by UK financial institutions to reinforce their regulatory capital base under Basel III.

Long-anticipated, the regulations offer welcome clarity and certainty for issuers of Basel III-compliant capital instruments in particular, and evidence the UK’s willingness to create a benign corporate tax environment for issuers of regulatory capital instruments in general.

The most important features are these:

  • coupons payable in respect of such regulatory capital securities (but not dividends on share capital) will be deductible as interest;
  • income tax will not be required to be withheld from payments on regulatory capital securities;
  • transfers of regulatory capital securities will be exempt from stamp duties; and
  • no tax will be crystallised for issuers as a result of the writing-down or writing-up of regulatory capital securities.

Changes from the previous draft include:

  • filling in several cracks which could have allowed regulatory capital securities to fall out of the regime after starting off inside it; and
  • allowing corporate creditors not related to the issuer to recognise a tax loss on the write-down or conversion of regulatory capital securities.