Commentary on Sections Overview Chapter 2: Contracts to which this Part applies Section 591: Conditions A to E mentioned in section 589(5)
1579.This section provides the conditions mentioned in section 589(5)(a) which govern whether shares in a company or rights of a unit holder under a unit trust scheme are excluded property under that section. It is based on paragraphs 4(2A) to (2D) and 12(1) and (11A) of Schedule 26 to FA 2002.
1580.Condition A applies to certain relevant contracts entered into or acquired by life insurers that are an “approved derivative” within the meaning of Rule 3.2.5 of the Insurance Prudential Sourcebook issued by the Financial Services Authority on 25 October 2006 or, in the case of an overseas life insurance company which is a European Economic Area firm or a “treaty firm”, are derivative instruments falling within article 23.3 of the EC Consolidated Life Directive (EC/2002/83).
1581.Rule 3.2.5 of the Insurance Prudential Sourcebook sets out a number of conditions to do with the purposes for which the derivative is held, how the risk under the derivative is managed and the circumstances in which it is entered into or acquired. See the definition of “Insurance Prudential Sourcebook” in section 431(2) of ICTA.
1582.Condition A does not apply to a relevant contract that meets the condition in section 579(1)(b) (one that is treated by accounting standards as a financial asset or liability, but is not treated as a derivative by accounting standards because of the size of the initial outlay).
1583.The source legislation for condition A applies only to cases where the contract is “entered into” by the company. But the source legislation for conditions B to D in this section applies if the company enters into or acquires the contract. This condition has been brought into line with those conditions. See Change 64 in Annex 1.
1584.See also section 592 which extends the application of condition A to certain rights and liabilities that are treated as a relevant contract by section 584.
1585.Condition B applies if the company is not a party to the relevant contract for the purposes of its trade and there is a “hedging relationship” (defined in section 707) between the relevant contract and either (a) shares or rights of a unit holder in a unit trust scheme or (b) the company’s share capital or related liability.
1586.Condition B does not apply if the relevant contract is one treated as such by section 585 (that is, it is an embedded derivative in a loan relationship).
1587.Condition C applies if the company is not a party to the relevant contract for the purposes of its trade and the contract is a quoted option to subscribe for shares.
1588.Condition D deals with a relevant contract that relates to the acquisition by company A of a major investment in the share capital of company B other than for the purposes of core activities of company A’s trade. The reference to “activities forming an integral part of a trade” ensures that the condition is not disapplied in the case of, say, a financial trader. For a financial trader, the particular contract may be relevant to its structural assets, which might be regarded as held in the course of its trade, but may not actually be relevant to its core trading activities. The contract must be an option or future for the acquisition or delivery of shares. As with condition B, condition D does not apply if the relevant contract is one treated as such by section 585.
1589.Condition E applies if there is a hedging relationship between the relevant contract and an asset or liability representing a loan relationship to which section 585 applies. The second leg of condition E is that each of the relevant contracts to which the company is treated as a party under that section is a derivative contract to which one of the provisions specified in paragraph (b) of subsection (6) applies. Under the provisions listed in subsection (7), credits and debits are brought into account in calculating chargeable gains rather than as income. Part 10 of Schedule 2 extends that list in respect of certain rules in that Part.
1590.The section does not rewrite those parts of paragraph 4(2B)(a), (2C)(a) and (2CA)(a) of Schedule 26 to FA 2002 that refer to the trading activities of an insurance company or mutual trading company. They are redundant following changes in the source legislation for sections 633 and 634.