Foreign Branch Exemption becomes mandatory: What UK businesses need to know

The government has now confirmed in the Autumn Budget 2026 that the Foreign Branch Exemption regime will become mandatory for most UK resident companies for accounting periods beginning on or after 1 January 2027. This follows the policy announcement earlier this year and largely adopts the approach set out in the draft legislation published in July.

The changes will remove the flexibility currently available to UK companies in determining how overseas branch profits and losses are treated for UK corporation tax purposes. For businesses operating through overseas branches, the changes could have a significant impact on their UK corporation tax position, particularly where foreign branch losses have historically been used to offset UK taxable profits.

With the implementation date fast approaching, businesses should now be reviewing their overseas operations and assessing the impact of the new rules.

What is changing in the Foreign Branch Exemption regime?

Under the current rules, UK resident companies can elect into the Foreign Branch Exemption regime, under which profits and losses attributable to overseas branches or permanent establishments are excluded from the calculation of UK taxable profits. Where no election is made, foreign branch profits remain subject to UK corporation tax, although double tax relief is generally available for overseas taxes suffered. Foreign branch losses may also be available to offset against UK taxable profits.

This flexibility has historically allowed companies to obtain UK tax relief on overseas losses, particularly during the early stages of international expansion. However, following confirmation in the 2026 UK Budget, the exemption will become mandatory for accounting periods beginning on or after 1 January 2027. Companies will therefore no longer have the option to elect into the regime.

As a result, foreign branch profits and losses will generally be excluded from UK corporation tax calculations, with overseas losses no longer available to offset against UK taxable profits. The government has stated that the changes are intended to protect the UK tax base by preventing companies from obtaining UK tax relief for overseas losses where the corresponding profits may ultimately fall outside the UK tax net. The legislation also updates the definition of a permanent establishment, bringing it more closely into line with the definition commonly adopted in international tax treaties. Businesses should therefore consider whether their overseas activities fall within the scope of the new regime.

What are the 4 key transitional rules of the changes to the foreign branch exemption regime?

Alongside making the regime mandatory, the government has confirmed a number of transitional rules designed to address the treatment of historic foreign branch losses and other tax attributes. Following consultation, the government has reduced the lookback period from six years to four years. This should reduce the review needed in determining the impact of the transitional loss restrictions, and some of the associated compliance burden, but will still require businesses to carefully assess each period where brought forward losses arose.

1. Historic foreign branch losses

Existing Total Opening Negative Amount (TONA) rules, which can bring exempt foreign branch profits back within the UK tax charge where foreign branch losses have previously benefited from UK tax relief, will be repealed. These rules will be replaced by transitional rules which restrict the use of historic foreign branch losses against future UK taxable profits.

2. Income and capital losses

Brought forward losses, including trading losses, capital losses, non-trading loan relationship deficits and losses arising from intangible fixed assets, may be restricted from offsetting future UK taxable profits or chargeable gains. Companies will need to review their historic foreign branch and UK head office results to determine the extent to which existing losses become restricted under the new regime.

3. Capital allowances

Capital allowances will generally not be available where the expenditure relates to exempt overseas branch activities. Transitional provisions will apply to existing plant and machinery. These are designed to prevent balancing allowances or charges arising solely as a result of adopting the new mandatory regime. Certain exceptions may apply where assets have been used partly outside the overseas branch activities.

4. Anti-avoidance provisions

Targeted anti-avoidance rules will apply to arrangements entered into on or after 13 July 2026 that seek to accelerate the use of foreign branch losses or otherwise secure a tax advantage ahead of implementation. Additional provisions will prevent companies from changing accounting periods to delay the introduction of the mandatory regime.

For companies with historic overseas losses, significant capital expenditure or complex international structures, it will therefore be important to review existing tax positions and understand how these amounts will be treated once the mandatory regime takes effect.

How should UK companies respond to the changes of the foreign branch exemption regime?

With the mandatory regime now confirmed, UK companies with overseas operations should review their existing branch structures and assess the potential impact on their future UK corporation tax position.

Risk assessment

It will also be important to assess overseas activities to determine whether they constitute a permanent establishment under the updated definition within UK tax legislation. For some businesses, this may be the first time a detailed risk assessment of overseas activities has been required, as historic compliance may have relied on assumed availability of double tax relief.

Companies may also wish to reconsider whether operating through overseas branches remains the most appropriate structure, or whether overseas subsidiaries may be a more suitable option from both a tax and commercial perspective.

Tax reporting

The changes may also affect future tax forecasts and deferred tax positions, particularly for businesses expecting to incur losses during the early stages of overseas expansion.

While the move to a mandatory exemption regime simplifies the treatment of foreign branch profits going forward, many businesses may face a significant review exercise before the new rules take effect.

With implementation approaching, now is the time to assess overseas operations, understand the impact of the transitional provisions and determine whether any action is required before 1 January 2027.

If you would like to discuss how the mandatory Foreign Branch Exemption regime could affect your business, including the treatment of historic overseas losses or the impact on your overseas operating structures, please get in touch with Ruth MacNamee, Erica Fitchie, or your usual AAB contact.