Such restructurings are often achieved by a third-party lender releasing or materially amending all or part of its debt, which would result in taxable income arising to a UK corporate borrower unless a relevant exemption applies.

One of the most helpful tax exemptions for stressed/distressed companies in this context is known as the “corporate rescue exemption” (CRE). In short, the exemption applies where it is reasonable to assume that, without the debt release (and related arrangements), there would be a “material risk” that the borrower would be “unable to pay its debts” within the next 12 months. This exemption applies in a similar way to substantial modification credits.

There are a few conditions and key points to keep in mind if looking to rely on the CRE.

• Unable to pay its debts: This means that, without the release (and related arrangements), within the next 12 months the borrower either would not be able to pay its debts as they fall due (i.e. it would be cash-flow insolvent) or that the value of its assets would be less than its liabilities (i.e. it would be balance sheet insolvent). However, it is not enough for there to be temporary cash-flow issues or a snapshot of the balance sheet at a given point in time showing liabilities exceeding assets. Instead, directors will need to show that, looking at the borrower’s assets and making proper allowance for its prospective and contingent liabilities, the borrower cannot be reasonably expected to meet those liabilities.
• Related arrangements: A debt restructuring is often part of a wider set of negotiations and actions aimed at ensuring the company can continue to operate. HMRC acknowledge, therefore, that when considering whether it is reasonable to assume that without the debt waiver there would be a material risk that the company would be unable to pay its debts within the next 12 months, it is not necessary to consider the impact of the debt waiver in isolation but rather the wider restructuring steps may be taken into account too.
• Material risk: The "material risk" threshold is lower than the "no reasonable prospect" threshold required for the offence of wrongful trading under insolvency law, so relying on this exemption should not (of itself) mean that directors have breached company law obligations by continuing to trade.
• Evidence: It is crucial for borrowers to retain evidence demonstrating that there was a material risk of insolvency within 12 months at the time of the debt waiver (e.g. correspondence on its financial position, evidence of likely breaches of financial covenants, management accounts etc.), which will be needed to support the “reasonable assumption” of the risk of insolvency in the event of a future HMRC enquiry. To help with this, directors should state clearly in the relevant board minutes that, in their view, the CRE conditions are met.
• Amortised cost basis of accounting: The borrower must be using the amortised cost basis of accounting in the accounting period in which the release takes place. This is a tax definition and, while it will be true in most cases, should be confirmed by the borrower’s accountants.
• Is a long-term rescue required? There is a question as to whether or not the CRE can be relied on merely to avoid an insolvent liquidation of the company, whilst intending to liquidate the company after the debt release on a solvent basis. This uncertainty arises because of the perception that the policy motive behind the CRE is to secure “corporate rescues”, suggesting that the exemption exists to help businesses to survive and to continue to trade as a going concern. However, we have heard informally from HMRC that the CRE can still be relied on in situations where a solvent liquidation of the company is the end-goal and there is no intention to carry on the business. Moreover, there is nothing on the face of the legislation suggesting that any intention to continue to trade post-CRE reliance is needed so, in our view, there should be no issue with relying on the CRE in these circumstances.

We would be very happy to discuss the CRE, or any other points you may be considering on restructurings, with you in further detail.