This Practice Note explains what embedded Derivatives are, and their relevance and treatment within the derivative contracts taxing regime. As with many things derivatives-related, it is difficult to understand the tax Rules concerning embedded derivatives without having at least a basic understanding of relevant accounting rules and principles. For that reason, this Practice Note deals with how certain instruments are accounted for before looking at the relevant tax rules. For a more general background to the accounting framework and key accounting principles relevant to the taxation of financial instruments, including derivative contracts, see Practice Note: Loan relationships—accounting framework and principles.

This Practice Note does not constitute accounting advice and is not intended to be exhaustive in relation to relevant accounting principles. It seeks only to provide a broad and basic overview of relevant accounting principles in order to assist an understanding of the derivative contracts corporation tax rules and to enable further investigation where necessary. In no circumstances should it be used as a substitute for obtaining accounting advice. This Practice Note does not discuss the recognition and measurement