What exception does section 642 of ITTOIA 2005 provide for loans from a connected body corporate to a settlor?

Section 642 exempts a loan paid by a connected body corporate to a settlor from the income charge under section 641, provided the loan is repaid in full within 12 months (Condition A) and the total time amounts are outstanding on relevant loans does not exceed 12 months in any rolling five-year period (Condition B).

What is Condition B in section 642 and how does it prevent abuse through repeated short-term borrowing?

Condition B is a broader anti-avoidance measure that examines all relevant loans over any five-year period. It requires that the total time for which amounts are outstanding on relevant loans does not exceed 12 months within that period. This prevents settlors from repeatedly taking short-term loans to maintain a rolling balance without triggering the income charge.

What counts as a relevant loan for the purposes of Condition B under section 642?

Relevant loans include loans flowing in either direction — from the connected body corporate to the settlor and from the settlor to the connected body corporate or any other body corporate connected with the settlement. This two-way definition captures the full picture of lending activity between the settlor and all connected companies.

What happens if a settlor fails to meet either Condition A or Condition B under section 642?

If either condition is not satisfied, the exception under section 642 does not apply. The full capital sum falls back within the scope of section 641 and is treated as the settlor's income for United Kingdom income tax purposes. Both conditions must be met simultaneously for the loan exemption to apply.

Income Tax (Trading and Other Income) Act 2005 section 642

Exception for certain loans or repayments of loans

Section 642 provides an exception from the charge on capital sums paid to a settlor by a body corporate connected with a settlement, where the sums take the form of loans or loan repayments that meet strict time limits for repayment and outstanding balances.

A loan paid to the settlor by a connected body corporate is exempt from the income charge under section 641 if two conditions are both satisfied.
Condition A requires that the entire loan is repaid within 12 months of the date it was made.
Condition B requires that, across any rolling five-year period, the total time for which amounts are outstanding on relevant loans does not exceed 12 months.
Relevant loans include loans in either direction — from the connected body corporate to the settlor, or from the settlor to the connected body corporate (or any other body corporate connected with the settlement).

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