and these are included in its deferred tax calculations: these losses therefore meet the definition of Deferred Tax Relief. It then transpires that the activity of the Company had changed to such an extent in the three years prior to Completion that these losses are no longer available, under the provisions of Section 768, ICTA.
3.2 In the four years after Completion the Company makes taxable profits of £5,000, £10,000, £25,000 and £30,000 respectively. Assuming a tax rate of 30%, the liabilities for the first three years are £1,500, £3,000 and £7,500. These amounts are therefore payable by the Covenantors five days before the tax is actually payable to HMRC. In year four the taxable profits would have been £20,000 rather than £30,000, if the losses had been available. The Covenantors are therefore liable to pay tax on the difference, that is £10,000 at 30%, which is £3,000, again five days prior to the tax becoming due. 3.3 There may be a concern with this approach that any part of those tax losses not utilised within the 7 year period of the standard tax covenant may not then be recovered. This need not act as a block to being paid further amounts if the date of loss is properly construed as the point when the tax losses are disallowed. However, if this is a concern, and there is a desire to see all matters settled within 6 to 7 years of Completion, then a long-stop clause can be included to the effect that the profits in year six will be deemed to be sufficient to utilise any remaining Deferred Tax Relief, and the amount owing by the Covenantors computed on that basis. 3.4 There are tax covenants which deal with this matter differently: they define the timing of the Tax payment as being based on the assumption that the whole of the Deferred Tax Relief could have been used in the first accounting period after Completion. This can then provide the Buyer with a cash flow benefit, as the above example of Badwell Ash Software Limited demonstrates. This is moving away from the cash flow approach of the classic tax covenant towards a measurement approach based on the reduction of the net assets of the Company. It is difficult to justify this treatment unless the tax covenant moves away from a cash flow basis to a net assets basis in it entirety.
4Loss or Reduction of Accounts Relief
(c) in a case that falls within paragraph (ii) of the definition of Tax Liability (use or loss of Accounts Relief ) five Business Days prior to the date upon which the repayment of Tax was due or was considered to have been due from the relevant Tax Authority; or 4.1 This is an unexceptional clause and is not likely to be resisted: the Company was due to receive a tax repayment but this has been used, in whole or in part, to cover a Tax Liability.
4.2 An example of the use of such a clause would be the reduction of a VAT quarterly repayment as there has been an error before completion in the computation of the VAT
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