Foreign branch exemption to become mandatory from 2027

What is the foreign branch exemption?

The foreign branch exemption (also known as the foreign permanent establishment exemption) allows UK companies to exclude the profits and losses of their overseas branches from UK corporation tax. This means those profits are taxed only in the country where the branch operates, rather than in the UK.

Introduction to the foreign branch exemption changes

The Government has announced a change that will affect UK companies with overseas operations. From 1 January 2027, most UK companies will no longer be able to choose how their foreign branches are taxed in the UK. Instead, the existing foreign permanent establishment (PE) exemption will apply automatically.

For businesses involved in oil and gas exploration or extraction, this change will take effect from 1 September 2026.

What does the foreign branch exemption change mean in practice?

Under the current rules, UK companies with foreign “permanent establishments” – for example a foreign branch with a fixed place of business such as an office, factory or workshop in that foreign country – can choose whether to bring the profits and losses of their overseas operations into their UK tax calculations.

• If no election is made, foreign profits are taxed in the UK (with relief for any overseas tax paid), and foreign losses can often be used to reduce UK taxable profits.
• Alternatively, a company can elect for the Foreign Permanent Establishment Exemption. In that case, both profits and losses of the overseas permanent establishment are excluded from UK tax, but once the election is made it cannot be revoked.

In practice, companies have often used this flexibility strategically:

• Electing for exemption where a permanent establishment is expected to be profitable, and
• Keeping the permanent establishment taxable in the UK where losses are expected, so those losses can reduce UK tax.

From 2027, that choice disappears. Profits and losses of foreign branches will both be outside the UK tax system.

Why is this changing?

The Government is concerned that the current rules can produce an imbalance. In some cases, companies are able to benefit from UK tax relief on overseas losses without paying UK tax on overseas profits.

This can arise, for example, where:

• Foreign profits are sheltered by double tax relief, or
• A profitable overseas branch is transferred into a non-UK subsidiary before those profits are taxed in the UK.

The Government’s stated aim of the new rules is to prevent overseas losses from reducing UK tax, while still keeping the UK attractive for international business.

Additional changes to the foreign branch exemption regime

A number of additional changes are expected alongside the move to a mandatory regime:

• No use of historic losses: Transitional rules are expected to stop foreign branch losses arising before the change being used against UK profits after the change takes effect
• Repeal of existing rules: The current total opening negative amount (TONA) rules, which can delay the effect of the exemption, are expected to be removed
• Anti-avoidance measures: New rules will be introduced to prevent businesses from accelerating the use of losses or otherwise trying to sidestep the changes

What should businesses do now?

Although draft legislation is still to be published, companies with overseas branches may want to start reviewing their position. In particular:

• Groups currently relying on overseas losses to reduce UK tax may see an increased UK tax liability
• The timing of investment and expansion into overseas branches may become more important
• Existing structures should be reviewed to understand how the new rules will apply from 2027. For oil and gas businesses, this is earlier.