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A company may make an ICTA88/S242 claim for an accounting period beginning before 2 July 1997 which straddled a change in the rate of tax credit.

The statute does not say which franked investment income (FII) should cover franked payments (FP).  A company will want to set off FII in the most beneficial way, that is, to maximise the ICTA88/S242 payment.

If the company made no FP, HMRC viewed the ICTA88/S242 claim as being primarily in respect of FII carrying the higher rate of tax credit.

If the company has made FP, the individual return periods had to be reviewed to see which FII could be identified as the subject of the claim.

Example

For the year ended 31 December 1993 a company's forms CT61Z showed the following.

Return period	FII	FP
ended 31 March 1993	£100,000	Nil
ended 30 June 1993	£20,000 (all after 5 April 1993)	£30,000 (all after 5 April 1993)
ended 30 September 1993	Nil	£10,000
ended 31 December 1993	£20,000	Nil

The total surplus FII for the accounting period was £100,000. The company made an ICTA88/S242 claim in respect of this.  The rate of tax credit changed on 6 April 1993.

For the return period ended 30 June 1993, the company could view the FP of £30,000 as covered first by the £20,000 FII of the same return period.  The remaining £10,000 of the FP is then viewed as covered by surplus FII brought forward from the previous return period.

For the return period ended 30 September 1993, all the FP of £10,000 had to be viewed as covered by FII brought forward from an earlier return period.

As a result the surplus FII of £100,000 for the accounting period comprised:

• £80,000 arising before 6 April 1993,and

and

• £20,000 arising after 5 April 1993.

The view taken by the company of which FII is used to cover franked payments affects both the amount of the payment of tax credit to the company, and the amount of loss and so forth used, where FII of 1993-94 is involved, see CTM20535.

In the example above, HMRC viewed the surplus FII of £100,000 as comprising £80,000 arising before 6 April 1993 and £20,000 from that date.  The tax credit in the £80,000 FII was £20,000.

The surplus FII of £20,000 represents a distribution received of £15,500.  If FA93/S78 (3) had applied, the tax credit would be £3,875.  So the loss and so forth used under S242 against this surplus FII is £19,375, and the total relief used in the S242 claim was £99,375 (FA93/S77 (8)).  The tax credit paid was £23,875.

Because FA93/S78 (8) applies, FA93/S78 (9) requires a reduction to FII carried forward of £625 (being the tax credit of £4,500 less the tax credit of £3,875).

Alternatively, the company might view the franked payments in the June and September return periods as covered by FII of the March return period.  The surplus FII of £100,000 then comprised £60,000 arising before 6 April 1993 and £40,000 from that date. The tax credit in the £60,000 was £15,000.

The surplus FII of £40,000 represents a distribution received of £31,000.  If FA93/S78 (3) had applied, the tax credit would be £7,750.  So the relief used under section 242 against this surplus FII was £38,750, and the total loss used in the S242 claim was £98,750 (FA93/S77 (8)).  The tax credit paid is £22,750.

Because S78 (8) applied, S78 (9) required a reduction to FII carried forward of £1,250 (being the tax credit of £9,000 less the tax credit of £7,750).

Because of the operation of FA93/S78 (8), in neither case is a loss of £100,000 used to cover the surplus.