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This is a quick guide for advisers. Subscribers, click here for your detailed guide.

Loan stock: QCBs or non-QCBs?

Loan notes may be structured as qualifying corporate bonds (QCBs) or non-qualifying corporate bonds (non-QCBs).

QCBs

Non-QCBs


Loan note summary

Tax feature

QCBs

Non-QCBs

Gain deferred until redemption

Yes

Yes

Loss relief for bad debt

No

Yes

Entrepreneurs’ Relief on disposal of loan note

No, but may elect to crystallise earlier

No, but may elect to crystallise earlier

Roll-over on subsequent take-over

No

Yes


As buyer may wish to avoid QCBs because of the lack of bad debt relief. The most common method of making loan notes into non-QCBs is to include a clause affecting redemption conditions. Any changes made to a loan note after issue (i.e. removing a foreign currency redemption provision or allowing conversion into share capital) is counted as a conversion, and this will crystalise any gain at that point. This practice is not regarded by HMRC as abusive (GAAR guidance D - 2013).

Earn out example: Company Ltd is valued at £10 million by Mr Buyer, he offers Mr Seller £8 million cash up front, and the balance to be satisified by an earn out.
Mr Seller insists that the earn out is supported by the issue of £2 million in convertible loan notes in order to provide him with some security and comfort. The parties agree terms of conversion so that 50% will be convertible in one years' time if a certain level of sales is achieved, and the balance is convertible one year later if a second sales event is achieved. 

Conversely, the earn out could be structured in just cash terms without loan notes, or by substituting convertible shares instead. It all depends on the attitude of the parties, the advice given and what they agree.

Small print:

Section 116(10) TCGA 1992 - Reorganisations, conversions and reconstructions

Sect 169R TCGA 1992 (as amended by Finance (no 2) Act 2010 reorganisations involving acquisitions of QCBs