Newsletter
Spring 2013
Rural
Business
Sale and lease back
With the weather beginning to show signs of returning to a more normal
spring it may be time to take stock of the impact the poor weather
over the last year or so has had - and will have - on the cashflow of the
business. Planning cashflows over the next 12 – 18 months is likely to
be harder this year than most but that just makes identifying pressure
points well in advance more important, particularly if your accountant is
encouraging you to take advantage of the increased Annual Investment
Allowances for machinery purchases!
What’s your machinery
really worth?
We’re sure you know what your machinery
is worth, but you may not know what its
worth for tax purposes? You might find that
it is fully written down and worth nothing!
Over recent years purchasing machinery
has generally been a good way to defer tax
payments by gaining tax relief on the initial
purchase through the Annual Investment
Allowance (AIA), and prior to that through
First Year Allowances (FYA). Whilst the
amount of AIA and the rate of FYA have
fluctuated you may well have gained full tax
relief on any machinery purchases, with the
result that you have a fixed asset pool of
little or no value for tax purposes.
The implication is that selling a piece
of machinery now is likely to create a
“Balancing Charge” or taxable profit on
sale. For example if you sell a tractor for
£30,000 on which you had previously
claimed full AIA your taxable profit (in the
absence of any replacement purchase) will
increase by £30,000.
If you’re trading in a piece of machinery via
a part exchange the overall effect is likely to
be that you only get AIA tax relief now on
the net spend.
However, there are instances where we
see machinery sold and not traded in, such
as where a farm has decided to change
direction and sells the combine or forage
harvester. In recent years machines have
retained their value well and all too easily
the selling of equipment can give rise to a
substantial and unexpected tax bill.
A similar issue that we are becoming
increasingly aware of is farmers entering
into sale and lease back agreements,
whereby they relinquish ownership of
some machinery to a finance company
who then leases it back to them over
time at a price!
On the face of it, when cash flow is tight,
this might seem to be an opportunity
to release some capital, and take the
cash to tide you over or pay off some
other bills.
The point here is that whilst the specific
piece of machinery might never leave
the farm you have disposed of it, and
potentially with a tax written down value
of £nil (as explained above) releasing
capital can create a balancing charge.
In the example of the £30,000 tractor
sale – all other things being equal - a
sole trader who is a basic rate tax payer
could expect to add £6,000 to their
income tax bill, and a further £2,700
to their Class 4 National Insurance
contributions; whilst a higher rate tax
payer could add upwards of £12,000 to
their tax and National Insurance bill
(and potentially also lose any Child
Benefit that they are entitled to).
These offers can be very appealing
for some - and others may see it as
their only option - but we implore you
to contact us, or your own advisor, to
consider all of the implications before
signing on the dotted line.
Tax Tribunal
Decision leaves
Holiday Cottage
Owners Facing IHT Bills
A recent Upper Tier Tax Tribunal decision in the
case of Pawson v HMRC has left the family of the
late Mrs Pawson facing an Inheritance Tax (IHT)
charge on her share of the family’s holiday cottage.
IHT is generally charged at a rate of
40% on that part of a person’s estate
which exceeds the nil rate band of
£325,000. However there are reliefs
available for business and agricultural
assets (at either 50% or 100%) which
in many cases serve to reduce or
eliminate the tax bill.
Most people running a holiday cottage
are adamant that they are running
a business and will find it difficult
to understand why they are not
entitled to Business Property Relief
(BPR). The answer lies in part of the
IHT legislation which states that if a
business consists “wholly or mainly of
holding investments” then BPR is not
due. Thus it is possible to be running
a business which is deemed to be
an investment business rather than a
trading business, with the result that
no BPR is due.
In most cases it is obvious whether a
business is a trading business or an
investment business – the proprietor
of a livestock farm or a hotel is clearly
running a trading business, whereas
the owner of an office building who
rents it out on a long lease is running
an investment business.
For many years HMRC seemed
happy to accept that holiday cottages
qualified for BPR. However in 2008
they announced that they had
changed their mind and that in future
it would depend on the level and type
of services provided to guests. There
was no change in the IHT legislation
- it was merely HMRC’s interpretation
that had changed. It is ultimately up to
the courts to decide whether HMRC’s
view is correct or not, and the case
concerning the late Mrs Pawson
was the first one to be heard on this
point. Mrs Pawson owned a share in
a holiday cottage on the Suffolk coast
and in this case the services provided
were fairly basic – weekly linen
change, television, telephone, etc.
The First Tier Tax Tribunal ruled in
favour of the taxpayer as the judge
considered that a ‘reasonably
intelligent person’ would consider the
letting of the cottage to be a business
not an investment. This was because
the letting of a holiday cottage involved
more time and input from the owners
than the normal letting of property and
land.
However HMRC appealed against
this decision and the case was heard
by the Upper Tier Tribunal (UTT), who
ruled in favour of HMRC. The judge in
that case stated that obtaining income
from land is generally regarded as an
investment activity and the existence
of active management of a property
does not mean that the property
loses its investment status. In addition
the UTT concluded that a large part
of the ‘services’ provided were actually
inherent with investment activity
(such as collecting rents, finding
occupants, maintaining the garden
and house). The additional services of
changing bed linen, providing utilities
and cleaning services were business
activities, but were not sufficient to
prevent the overall ownership of the
cottage being an investment.
So where does that leave holiday
property owners? It may still be
possible to get BPR but the level of
services provided will need to be more
like those in a hotel – daily cleaning,
provision of meals, etc. Even then
there is no guarantee that a claim
for BPR will be accepted by HMRC,
although a cottage that is part of a
larger farming business may be able to
obtain relief. Thus all holiday property
owners need to review their IHT
position in the light of this case.
This is not the only instance of HMRC
changing their interpretation of parts
of the IHT legislation – we have seen
something similar with farmhouses
in recent years. As a result the need
to take specialist advice in order to
minimise your IHT liability has never
been more important.
Inheritance tax (IHT)
relief on loans
In his latest budget George Osborne announced the
introduction of legislation to prevent the claiming of IHT
relief on some loans.
Currently where a loan is secured
against an asset (e.g. a let cottage)
it reduces the value of that asset for
IHT purposes. However it seems that
the new legislation will look to deduct
the loan from the value of the asset
that it was used to purchase. So if
the loan that is secured against the
cottage was in fact taken out to buy
farmland, the new legislation is likely to
result in the amount of the loan having
to be deducted from the value of the
farmland for IHT purposes instead of
being deducted from the value of
the cottage.
On the face of it this may not seem to
matter, but if the whole value of the
farmland is in any event free of IHT by
virtue of Agricultural Property Relief
then the loan will not have “saved” any
Do you have jointly
owned property?
We understand that HMRC is currently looking at arrangements
for joint ownership of rental property by married couples.
The legislation has clear rules
concerning cases where a rental
property is jointly owned by a husband
and wife and how the rent should be
apportioned. The default position is
that rents are split on a 50:50 basis
irrespective of the actual beneficial
ownership ratio. However it is possible
to split rental income in other ratios
providing certain conditions are met.
First, the property must be held by
the couple as “tenants in common”
and not as “beneficial joint tenants”.
This means the co-owners each
have a specific share of the property,
which on death can be bequeathed
by means of their wills to whomsoever
they wish.
Second, the allocation of rental
income must mirror the actual
beneficial ownership proportions.
So, for example, if the rental income
is being split 90% to one spouse
and 10% to the other there must
be documentation to support the
fact that one beneficially owns 90%
of the property and the other 10%.
This can usually be done by a simple
Declaration of Trust (incidentally, a
Declaration of Trust can also be used
to record the proportions where a
property is purchased by two
people contributing different
amounts of money, which can
help avoid future disputes).
It is also necessary to
complete a “Declaration of
Beneficial Interest” for HMRC
(using their Form 17), which
must be accompanied by
evidence of the beneficial
interests declared.
IHT, and by contrast the full value of
the let cottage will be liable to IHT.
Details on how this works in practice
will become clearer as the draft
legislation passes through Parliament,
but clients should be aware that they
may need to review their IHT position
in the light of these new rules.
By way of comparison, where couples
hold property as beneficial joint
tenants it will pass to the survivor
automatically on the first death and
neither joint owner can leave their
share of the property to anyone else
by Will or otherwise. Any rental income
from property held in this way must
be allocated equally. However holding
a property as joint tenants can mean
that it is not necessary to go through
probate for the surviving spouse to
obtain full control after the first death.
In summary, it is important to check
out how any jointly owned property is
held to ensure that it corresponds with
how you would like your share to be
distributed on your death, and that it
ties in with how you are declaring the
rental income.
PARTNERSHIPS
AND TAX
AVOIDANCE?
The Chancellor announced in his Budget statement in
March that a consultation will take place with a view to
bringing in legislation next year to deal with a perceived
avoidance of tax through the use of partnerships, and
in particular the manipulation of profits/losses allocated
between partners (and corporate partners) to secure a
tax advantage.
There are many aggressive tax schemes
on the market involving partnerships
where the activity and profit sharing
arrangements are not commercial. It is likely
that these schemes will be targeted by the
consultation. However, there is a concern
that any new legislation might be more wide
ranging and affect more businesses than
intended, such as farms which tend to use a
partnership as its choice of business
Please visit our website for your
local office expert
Francis Clark has seven offices in
the South West:
francisclark.co.uk
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Plymouth
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Truro
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structure partly because of the flexibility
these offer in the allocation of profits.
It is also relatively common tax planning
to appoint corporate members to a
partnership and, subject to the partnership
agreement and certain anti-avoidance
legislation, the profits/losses of the
partnership can be shared as agreed
between those partners from year to year.
However all trading structures do need
to have a commercial basis and rationale
to them and we do recommend that
profit sharing arrangements are kept
under review.
Francis Clark LLP is a limited liability partnership, registered
in England and Wales with registered number OC349116.
The registered office is Sigma House, Oak View Close,
Edginswell Park, Torquay TQ2 7FF where a list of members
is available for inspection and at www.francisclark.co.uk.
The term ‘Partner’ is used to refer to a member of Francis
Clark LLP or to an employee or consultant with equivalent
standing and qualification.
This publication is produced by Francis Clark LLP for
general information only and is not intended to constitute
professional advice. Specific professional advice should
be obtained before acting on any of the information
contained herein. Whilst Francis Clark LLP is confident of
the accuracy of the information in this publication (as at
the date of publication), no duty of care is assumed to any
direct or indirect recipient of this publication and no liability
is accepted for any omission or inaccuracy.