The CFC regime is one of the more impenetrable parts of the tax legislation (see box "Background on CFCs"). As only interim reforms were to be included in the Bill, there was little option but to graft new exemptions onto the existing legislation. This approach is understandable, as it produces a measure of relief from a regime that is not fit for purpose, while providing further time for the programme of full reform of the CFC rules to be completed. However, in the meantime, we are left with a temporary regime which remains overly complex. It is hoped that the Finance Bill 2012 will take a more radical approach, and that the draftsman resists the temptation simply to add yet more pages of legislation to the existing regime.

The interim reforms to the CFC regime largely follow the draft legislation. There have been some changes: for example, the new exemptions will apply to accounting periods beginning on or after 1 January 2011 (that is, three months earlier than originally proposed). Other notable changes include:

Limited UK connection exemption. The first new exemption is for CFCs that are trading companies with only a limited connection to the UK. The list of activities that can prevent a CFC from relying on this exemption has been extended to include holding or managing any shares, and managing any securities, if either forms a substantial part of the CFC's activities.

It was to be a condition that no more than 10% (50% for certain CFCs) of the CFC's total business expenditure (other than capital expenditure) be UK connected. This has been amended (the threshold has been increased to 50% for all CFCs), and will now only need to be satisfied if the CFC has been involved in a scheme with a main purpose of reducing corporation tax. Also, the class of UK connected business expenditure which is to be tested has been narrowed to apply to only business expenditure which gives rise to UK taxable income of a related party.

The requirement that no more than 5% of the CFC's gross income be finance income or "relevant IP income" should be easier to satisfy as the definition of "relevant IP income" has been narrowed to include only royalties and receipts of a similar nature arising from intellectual property (IP).

IP exemption. The new exemption for CFCs that exploit IP with only a limited connection to the UK was originally intended to apply just to CFCs whose main business consisted of the exploitation of IP that does not have any "relevant UK connection". It will now also be available to CFCs that exploit IP with such a connection if that is only an insignificant part of the CFC's main business.

The test of a "relevant UK connection" is as originally proposed, except that IP that was previously held by a UK resident will now only be automatically treated as having such a connection if it was so held at any point in, or in the six years before, the accounting period in question. Under the original proposals, this period was ten years. Both dates are arbitrary.

Certain restrictions on the sources of funding for the CFC's main business had originally been proposed, but these have been dropped. However, the CFC will still have to satisfy other requirements to demonstrate that it does not have a significant connection with the UK; for example, its income from exploiting IP should not derive from UK taxpayers.

De minimis exemption. The original proposal was to increase the de minimis exemption from £50,000 of chargeable profits to £200,000, but only for any CFC that is a member of a large group. Accounting profits (disregarding capital gains and losses) would be used to determine whether either threshold was exceeded, avoiding the need to convert accounting profits into the tax measure of profits.

Instead, the existing £50,000 exemption is to remain in its current form for all CFCs, but supplemented by a second de minimis exemption: any CFC whose profits do not exceed £200,000 will not be subject to a CFC apportionment. This threshold will be tested by reference to accounting profits, after deducting any exempt distributions, capital gains and capital losses, and including certain trust and partnership income.

Statutory period of grace. CFCs which were previously under the control of UK residents will not be automatically barred from qualifying for the period of grace; this allows a multinational which returns to the UK up to three years to address its CFC issues. The extension will only apply to companies that become a CFC after 23 March 2011, and whose ultimate controller is a UK resident company. In addition, the CFC cannot have been under the control of UK residents at any point during the accounting period in which it becomes a CFC, and no "disqualifying relevant transaction" can occur when the company becomes a CFC.

Stepping back, many of these changes reflect some of the comments made during the consultation period since December 2010. What remains is still very complex. Most group tax managers will therefore prefer to concentrate on the long-term reforms and seek to ensure that these are clear and manageable.

The right to elect that the profits of a foreign branch (that is, a permanent establishment) be exempted from corporation tax is another of the reforms intended to give the UK a more competitive corporate tax regime (and would align the tax treatment of foreign branches with that of foreign subsidiaries of UK companies, the dividends of which are generally exempt from UK corporation tax). Here, the draftsman did have a blank canvas to work with, but the draft legislation left significant portions incomplete. These gaps are now filled in part and we will have to work through the detail to see if the new regime is now attractive.

There remains a concern that the legislation is so complicated that taxpayers will hesitate from electing, because of the need to clarify the effect of the election (and the fact that the deadline for revoking it has been accelerated). In addition, taxpayers will have to be satisfied as to the impact of complicated transitional provisions.

The provisions which give effect to the exemption have been redrafted, so that the profits of a company's foreign permanent establishments are exempted from corporation tax by making appropriate "exemption adjustments" to its total profits. This is a less prescriptive approach than that set out in the draft legislation, and will provide a limited degree of flexibility.

The provisions that delay the operation of the exemption for companies that have previously claimed tax relief for losses have also been rewritten. However, this rewrite does little to clarify these provisions, and readers not familiar with the purpose of these rules may find them as difficult to follow as the draft legislation. Nevertheless, there are some helpful changes, such as the ability to segregate profits of different branches. This will ensure that losses made by a permanent establishment in one territory do not delay the exemption from being available for profits of permanent establishments in other territories. These improvements have been achieved at the cost of some fairly complex drafting.