The 2016 Budget announced, and the UK government is currently consulting on, the biggest change in UK tax this century. Up until 1st April 2017, a tax deduction for interest costs of up to 100% of UK profits is (very broadly) available provided it can be shown that some third party lender would be prepared to lend that loan. For example, if a third party lender would be prepared to advance senior and mezzanine loans on a 1:1 interest cover ratio, all taxable UK profits could be washed away and no UK tax would be payable.
From 1st April 2017, an artificial limit is to be introduced so that tax deductions for interest will be capped at 30% of earnings. If interest costs exceed 30% of earnings, additional UK tax will now be payable. This applies to all existing and future loans to UK businesses without grandfathering/transitional rules.
The only dispensation is that if the worldwide group interest expense from third party lenders is already above 30% of worldwide earnings (i.e. the group is already highly geared) then this higher percentage may be applied instead, which might save some clients. A £2 million de minimis and public benefit project exclusion also apply, the latter being narrowly drawn and expected to be of little benefit in practice.
Interest rates for loans still need to be determined as arm's length in order to comply with transfer pricing and other requirements (including access to treaty benefits), as these existing requirements will be applied in priority.