AC3600
Tax and Commercial Property
2011-12
Some notes on the tax issues that may arise
when a business acquires new premises
(particularly where this happens in an
examination question) including
 VAT
 Business Rates
 Legal expenses
 Lease Premiums – income tax
 Lease Premiums – capital gains
 Capital allowances – fixtures and integral
features
 Stamp Duty Land Tax (SDLT)
Health Warning
The notes in this booklet are designed to summarise some of the basic
rules in respect of the taxes relevant to the sale and rental of business
properties. They are largely condensed versions of HMRC guidance.
They cover the material you need to understand for the purposes of an
Undergraduate tax examination but, in real life the rules can be much
more complex and the relevant facts harder to establish. Once you’ve
finished the Module, don’t rely on what’s written here, go back to the
original sources and take advice from an experienced colleague.
AC3600
Tax and Commercial Property
2011-12
VAT and property
This is an extract from Chapter 26 Property of Andrew Needham’s Value Added Tax
2011-12 (one of a series of Core Tax Manuals published by Bloomsbury Professional).
“The VAT law applying to land and property is very complex and depending on the transaction it
can be standard-rated, lower-rated, zero-rated or exempt….
“To cover all the rules on property, in detail, would take an entire book in itself. The
purpose of this chapter, therefore, is to demonstrate, by outlining the rules and
explaining the more straightforward traps for the unwary, and why property
transactions are the quickest way of losing a really large sum of VAT.
“Property is an important minefield. It is important because every business occupies
property either as owner or as tenant. It is a minefield because there is a wide range of
possible transactions; there are several sets of rules in different parts of the law; and
those rules are very complex.
“If a business does not know VAT law on property thoroughly, it should get advice from a
professional adviser. In order to get good advice, a business will need to give a detailed
explanation of the facts of a proposed transaction properly. A business can’t do that if it
does not have any idea of the rules which might apply, and, therefore, the facts which
might be relevant. Thus, anyone with senior accounting responsibilities needs to have
some idea of the key rules on property, so that they can spot situations on which they
need advice.”
There isn’t space in this Module to cover, in any detail, the finer points of VAT. Do please take
heed of Andrew’s warnings here should you ever be responsible for advising on property
transactions once you graduate.
For the purposes of AC3600, the only aspects of VAT and property that you need to remember
are:




The general rule is that transfers of land and the grant of leases are exempt from VAT
(Group 1 of Schedule 9, VATA1994)
A landlord can elect to waive the exemption. This is commonly known as the “option to
tax”.
The option to tax converts an exempt sale or rent of property into a standard-rated
output. The advantage of this is that related input tax is then recoverable.
A property owner will usually only opt to tax if the tenants are VAT registered and can
reclaim any VAT charged to them.
AC3600
Tax and Commercial Property
2011-12
Business Rates
See the Valuation Office Agency leaflet Business rates – an introduction
Available at:
http://www.voa.gov.uk/corporate/Publications/businessRatesAnIntro.html
The site also gives the following short explanation of business rates:
“Non-domestic rates are a means by which businesses and other occupiers of non-domestic property
indirectly contribute towards the costs of the services provided by local authorities.
This fact sheet provides an introduction to some of the issues that may affect you if you occupy nondomestic (business) premises. This includes properties occupied by organisations who do not operate in
order to make a profit. The income from all non-domestic rates is paid into a national pool and
redistributed between local authorities in proportion to their adult population. Domestic properties are
subject to council tax.”
AC3600
Tax and Commercial Property
2011-12
Legal expenses
The costs associated with acquiring an interest in land are regarded as capital in nature (unless the person
involved is actually trading in land). However, HMRC allow the expenses involved in the simple renewal of
a lease to be treated as revenue expenditure.
The first two extracts below explain HMRC’s view of what may be allowable from the tenant’s point of
view (in the Business Income Manual) and the landlord’s (in the Property Income Manual). The final
extracts are taken from the Capital Gains Manual and explain when you can allow legal expenses as a
deduction in the CG calculations
EXTRACT 1
From HMRC’s Business Income Manual
http://www.hmrc.gov.uk/manuals/bimmanual/BIM46420.htm
BIM46420 - Specific deductions: professional fees: renewal of leases
Practical approach
Professional fees incurred on the renewal of a short lease with the owner's consent are capital but are
likely to be small; in which event you may allow them on de minimis grounds. Circumstances where the
amounts may be material and where you should contend, in appropriate cases, that the expenditure is of
a capital nature include those where:


the new lease is for a long term (say, a period which exceeds, or may at the lessee's option
exceed, 50 years), or
there are provisions in the lease for the payment of a premium (or for equivalent capital outlay
by the lessee). In practice the disallowance may be limited to a proportion of the expenses of
renewal appropriate to the premium etc.
As regards the cost to the lessor of granting a lease, see PIM2205 [see below]
Fees in connection with proceedings under the Landlord and Tenant Act 1954 may include:



the costs of resisting ejection from the premises,
obtaining a new lease in face of opposition by the landlord, or
securing compensation under the Act.
Such expenses stem from the landlord's refusal to renew the lease and you should not regard them as an
admissible deduction.
AC3600
Tax and Commercial Property
2011-12
EXTRACT 2
From HMRC’s Property Income Manual http://www.hmrc.gov.uk/manuals/pimmanual/PIM2205.htm
PIM2205 - Deductions: specific items: legal & professional costs
Overview
Expenditure on professional fees of a revenue nature is deductible if they are incurred for the purposes of
the rental business. Professional fees are not allowable if they are capital or they are not incurred wholly
and exclusively for the purposes of the rental business. Generally, the fees are capital if they relate to a
capital matter, such as the purchase of property.
The expenses incurred in connection with the first letting or subletting of a property for more than one
year are capital expenditure and therefore not allowable. The expenses include, for example, legal
expenses (such as the cost of drawing up the lease), agent’s and surveyor’s fees and commission.
Expenses for a let of a year or less can be deducted.
The normal legal and professional fees incurred on the renewal of a lease are also allowable if the lease is
for less than 50 years. But any proportion of the legal etc costs that relate to the payment of a premium
on the renewal of a lease are not deductible.
Where a replacement lease follows closely on a previous one, and is in broadly similar terms, a change of
tenant will not normally make the associated legal and professional costs disallowable. Any proportion of
the legal or other costs that relate to the payment of a premium on the renewal of a lease will, of course,
remain disallowable.
If, however, the property concerned is put to some substantial use other than letting, such as occupation
by the owner between lets, or where, say, a long lease replaces a short lease, the legal and other costs
will be capital expenditure. In such circumstances, the expenditure is analogous to a physical alteration or
improvement to the landlord's capital asset.
Other examples of allowable legal and professional costs that may be incurred include:





costs of obtaining a valuation for insurance purposes,
the normal accountancy expenses incurred in preparing rental business accounts and agreeing
taxation liabilities (see below),
subscriptions to associations representing the interests of landlords,
the cost of arbitration to determine the rent of a holding,
the cost of evicting an unsatisfactory tenant in order to relet the property.
Other examples of non-allowable legal and professional expenses include:



legal costs incurred in acquiring, or adding to, a property,
costs in connection with negotiations under the Town and Country Planning Acts,
fees pursuing debts of a capital nature, for example the proceeds due on the sale of the property.
Capital expenses may be allowable in computing any capital gain or loss on the disposal of the
property. See the CG manual. [Emphasis added – see below]
AC3600
Tax and Commercial Property
2011-12
Cost of taxation accounts and negotiations
Fees incurred on preparing accounts for commercial reasons and on many other accountancy services will
meet the ‘wholly and exclusively’ test. Hence the cost can be deducted in computing rental business
profits.
Strictly, any additional fees incurred for computing and agreeing the tax liability on rental business profits
are not deductible. But, under a long-standing practice, normal recurring legal and accountancy fees
incurred in preparing accounts or agreeing the rental business tax liability can be deducted.
This practice does not extend to other personal fees; for example, fees incurred on preparing a tax return
or working out CGT due.
Further guidance
For detailed guidance on the deduction of professional fees see BIM46400 onwards.
EXTRACTS 3 and 4
From HMRC’s Capital Gains Manual http://www.hmrc.gov.uk/manuals/cgmanual/CG15160.htm and
http://www.hmrc.gov.uk/manuals/cgmanual/cg15251.htm
CG15160 - Expenditure: categories of allowable expenditure
TCGA92/S38 (1)
Except where there is specific provision to the contrary, allowable expenditure is restricted to the amount
or value of the consideration in money or money's worth given by the taxpayer wholly and exclusively for
 acquiring the asset
 creating the asset
 enhancing its value
 establishing, preserving or defending title to or rights over the asset
 incidental costs of acquisition and disposal
CG15251 - Expenditure: incidental costs of acquisition and disposal
Allowable incidental costs are limited to




fees, commission or remuneration paid for the professional services of any
o surveyor, valuer or auctioneer
o accountant or agent
o legal adviser
costs of transfer or conveyance (including Stamp Duty)
costs of advertising to find a buyer or seller
costs reasonably incurred in making any valuation or apportionment required for the purposes of
the Capital Gains Tax computation.
AC3600
Tax and Commercial Property
2011-12
Premiums: what is a premium and why do we tax them?
Tax on premiums
Lump sums received upfront for the grant of a lease of 50 years or less are liable to tax on a special basis.
Such receipts are generally called ‘premiums’, (ITTOIA05/S277 and CTA09/S217).
Difference between a premium and rent
A distinction is made between:


a premium paid for the grant of a lease, and
rent due under the lease.
What is a premium?
A lease is sometimes granted on terms that require the payment of both:


a premium - a lump sum, and
rent - regular payments.
In other instances, the lease may require only the payment of rent.
A premium is a sum paid on the creation of an interest in property. As such it is capital on normal
principles. This led to landlords seeking premiums instead of rent to avoid IT. To counter this, the antiavoidance legislation (now ITTOIA05, Part 3, Chapter 4 for IT payers and CTA09, Part4, Chapter 4 for CT
payers) was introduced.
Premiums are more common in some parts of the country than others and you may meet them more
often in respect of large commercial and industrial properties.
In Scotland, any provision relating to a premium also includes a grassum.
Why special rules for premiums are needed
A premium paid for a very long lease is clearly a capital sum. If it is paid for a shorter lease it has a
character more like rent paid in a lump sum rather than periodically. It is more akin to income, and the
shorter the lease, the more like income it is.
The Taxes Acts charge a proportion of a premium to tax as income. The proportion to be charged as
income depends on the length of the lease. The shorter the lease, the greater the proportion to be
charged. If the lease is for more than 50 years then none of the premium is treated as income. As well as
charging IT on the recipient of leases, the Act gives relief in some circumstances to the payer.
There may be CGT consequences on both the assignment of a lease and the grant of a sub-lease.
AC3600
Tax and Commercial Property
2011-12
Premiums: how the charge is calculated
Taxation of premiums received - details
Premiums and similar receipts related to the grant of a lease are taxable wholly or partly as income where
the taxpayer gets them for granting a lease of fifty years or less. The part of the premium taxable as
income is treated as a receipt of the rental business for the year of assessment in which the lease is
granted. If the taxpayer receives a lump sum for selling their existing lease these special rules don’t apply.
The amount, which is a receipt of the rental business, is calculated on a sliding scale that depends on the
length of the lease for which the taxpayer got the payment. The longer the lease, the smaller the amount
charged as property income but the larger the amount potentially chargeable as trading income (in a
property dealing trade) or, if there is no trade, as capital gains, (ITTOIA05/S277 and CTA09/S217).
The rule is that the amount taxable as income of the rental business is reduced by 2% of the premium for
each complete year of the lease after the first. Thus:






the full amount of a premium is taxable as income where the lease is for less than two years,
98% of the premium is taxable as income if the lease is for two years or more but less than three
years,
96% of the premium is taxable as income if the lease is for three years or more but less than four
years,
and so on until the lease is for 49 years or more but less than 50 years; here 4% of the premium is
taxable as income; the deduction from the taxable premium is 49 complete years less one year =
48 years x 2% = 96%, thus, for example, 4% is taxable if the lease is for 49 years and one month or
49 years and 11 months,
when the lease is for exactly 50 years 2% of the premium is taxable as income; the deduction is
50 complete years less one year = 49 years x 2% = 98%,
none of the premium is taxable as income when the lease is for over 50 years; for example,
where the lease is for 50 years and one day.
The legislation expresses this is a more formal way. The method of calculation is prescribed in
ITTOIA05/S277 (4) and CTA2009/S217(4). The amount taxable as income is given by the formula
P ×
Where:-
(50 − Y)
50
P = the premium, and
Y = the number of complete years in the term of the lease apart from the first.
AC3600
Tax and Commercial Property
2011-12
Example illustrating basic premium case
Paul grants a 25-year lease to Peter on 5 June 2004. The lease agreement requires Peter to pay Paul a
premium of £30,000 on 30 June 2004 in addition to rent of £400 a month. Paul must include in his rental
business accounts for 2004-05 both the rent due for the period from 5 June 2004 (when the lease started)
to 5 April 2005 and the taxable amount of the premium. That is, the premium is taxed in the year in which
the lease is granted. The amount which Paul is treated as receiving as part of his rental business is
calculated as follows:
Premium receivable
Less: (2% of £30,000) x 24 years
£30,000
£14,400
£15,600
Plus: rent for period 5/6/04 - 5/4/05* £ 4,000
Amount to include in rental business £19,600
*This is ten months at £400 a month.
Premiums: how the relief is calculated
If the payer of a premium uses the property for the purposes of a trade, profession or vocation or sublets
it as part of their own rental business, then they may be able to treat part of the premium as an allowable
revenue expense.
Relief is given by spreading the chargeable amount over the period of the lease and treating it as if it
were rent due (in addition to any actual rent). There are two stages to working out how much relief is
due.
1) Work out the chargeable amount of the premium
The chargeable amount of the premium must be calculated - that is the amount of the premium on which
the recipient of the premium is taxed (or would be if he were chargeable). You need to know the amount
of the premium and the length of the lease. (See the example above.)
2) Spread the chargeable amount over the period of the lease
The chargeable amount is treated as if it were rent for the property (in addition to any actual rent) which
becomes due from day to day throughout the period of the lease. This will be a deduction in computing
the taxable profits.
If, in the example above, Peter uses the property wholly for his trade, he will be able to claim an annual
deduction of £5,424 calculated as follows:
£ 4,800
rent (£400 x 12 months)
£ 624 taxable premium (£15,600 ÷ 25 years)
£ 5,424
AC3600
Tax and Commercial Property
2011-12
Premiums: difference between granting and assigning a lease
A distinction is made between:


a premium paid for the grant of a lease, and
a capital sum paid on the sale of a lease.
A sale (or assignment) is a CGT matter (unless the taxpayer is carrying on a property dealing trade).
The difference between granting and assigning a lease
A person holding property freehold (a landlord) may grant a lease under which another person (the
tenant) occupies the property for a certain time. When the lease expires, the property reverts to the
landlord. The tenant might in turn grant a sub-lease under which he allows another person (a sub-tenant)
to occupy the property for part of the term of the lease. At the end of the sub-lease the property reverts
to the intermediate landlord (the head tenant) until the original lease (the head lease) expires. If the subtenant pays a lump sum to the intermediate landlord, that is a lease premium.
Alternatively, the head tenant might find someone to take over the head lease in his place. If he does, he
does not grant a sub-lease, he assigns his lease. If he receives a lump sum payment for the assignment,
that is not a lease premium.
It may not always be clear whether a lease has been assigned or whether a sub-lease has been granted. It
is only an assignment of the lease if all the lessee's interest in the lease for the whole of the rest of the
term is transferred. Where a sub-lease is granted it is usual for it to expire not later than one day before
the head lease comes to an end. Where a transfer purports to be an assignment, but is for a period of less
than the remainder of the term, even if only one day less, it is not an assignment but a sub-lease.
Be careful when clients refer to 'selling' a lease or leasehold property as this word may be used loosely.
You should check the written contract to see whether the lease has been assigned for the remainder of
its term or whether a sub-lease has been granted.
Example distinguishing a premium from sale proceeds
Jeremy pays a premium of £10,000 to his landlord to obtain the grant of a lease of 21 years at a rent of
£5,000 a year. The £10,000 is within the premium rules. Ten years later Jeremy sells the remaining eleven
years of his lease to Robert for £8,000. That £8,000 is not a premium for the grant of a lease but the sale
price of the lease and any gain or loss is dealt with under the CGT rules (unless Jeremy is a property
dealer).
AC3600
Tax and Commercial Property
2011-12
Capital gains: assigning a short lease
A lease is an asset for CG purposes. The disposal of a lease may give rise to a chargeable gain or an
allowable loss.
Where a short lease is assigned the amount originally paid for it must be restricted.
A short lease of land is a wasting asset, but its value does not waste uniformly over its term.
At first, the rate of decline in value is relatively slow but it becomes very rapid during the last few years of
the term of the lease. Hence, the straight-line method of wasting expenditure contained is not
appropriate and is disapplied. Instead, the allowable expenditure is wasted in accordance with the table
in TCGA92/SCH8/PARA1 and the formulae in paragraph 1(4). These rules state the following adjustments
must be made to the actual expenditure:
Exclude from the acquisition expenditure a fraction equal to


𝑃(1)−𝑃(3)
, where
𝑃(1)
P(1) = percentage for the duration of lease at beginning of ownership
P(3) = percentage for the duration of lease at the time of disposal
Exclude from any enhancement expenditure a fraction equal to


𝑃(2)−𝑃(3)
, where
𝑃(2)
P(2) = percentage for the duration of lease at time of any allowable enhancement expenditure
P(3) = percentage for the duration of lease at the time of disposal
Years
50 or more
49
48
47
46
45
44
43
42
41
40
39
38
37
36
35
34
Percentage
100
99.657
99.289
98.902
98.490
98.059
97.595
97.107
96.593
96.041
95.457
94.842
94.189
93.497
92.761
91.981
91.156
Years
33
32
31
30
29
28
27
26
25
24
23
22
21
20
19
18
17
Percentage
90.280
89.354
88.371
87.330
86.226
85.053
83.816
82.496
81.100
79.622
78.055
76.399
74.635
72.770
70.791
68.697
66.470
Years
16
15
14
13
12
11
10
9
8
7
6
5
4
3
2
1
0
Percentage
64.116
61.617
58.971
56.167
53.191
50.038
46.695
43.154
39.399
35.414
31.195
26.722
21.983
16.959
11.629
5.983
0
If the duration of the lease is not an exact number of years the percentage to be derived from the Table
above shall be the percentage for the whole number of years plus one-twelfth of the difference between
that percentage and the percentage for the next higher number of years for each odd month counting an
odd 14 days or more as one month.
AC3600
Tax and Commercial Property
2011-12
Examples – assignment of a short lease
On 30 June 2004, Mr B paid a premium of £50,000 to acquire a 25 year lease over a property. On 30 June
2012, he disposed of that lease by assignment.
At the date of disposal, the lease had 17 years to run and therefore the rules in TCGA92/SCH8/PARA1
apply.
Mr B's allowable acquisition expenditure is calculated as follows.
Actual expenditure
Amount to be excluded
P(1) - P(3) x £ 50,000 =
P(1)
£ 50,000
81.100 - 66.470 X £50,000 =
81.100
£ 9,019
Expenditure allowable
£50,000 - £9,019
= £40,981
This example assumes that no income tax relief was due to Mr B (which he might have been able to claim
if he had used the property in his business) Where this is the case, the allowable expenditure is reduced
by the amount of the relief actually given to Mr B. This reduction is made before the reduction required
by TCGA92/SCH8/PARA1 (4).How this rule works in practice is illustrated by the following example.
Mr W acquired a 31 year lease of a property on 31 January 2006. He paid a premium of £20,000. On 31
January 2012, he disposed of the lease for £25,000. Between January 2006 and January 2012, he used the
property for the purposes of his trade of motor mechanic. He was given relief under ICTA88/S87 of
£1,550.
Mr W's gain on the disposal of the lease is calculated as follows.
Allowable expenditure:
Cost of lease:
Less: relief given against trading profits:
£20,000
£ 1,550
£18,450
Less: amount to be excluded, TCGA92/SCH8/PARA1 (4):
P(1) - P(3) x £18,450 = 88.371 - 81,100 x £18,450 =
P(1)
88.371
£ 1,518
£16,932
Computation of gain:
Disposal proceeds
£ 25,000
Allowable expenditure: £ 16,932
Chargeable gain
£ 8,068
AC3600
Tax and Commercial Property
2011-12
Capital gains: granting a long lease out of a freehold
The grant of a long lease, that is a lease with a term of over 50 years, out of a freehold or long lease is the
simplest scenario involving the grant of a lease. The normal rules apply to the computation of the gain.
The whole of any premium received is brought into account as consideration for the grant of the lease
and the part disposal formula in TCGA92/S42.
However, in these circumstances, when applying the part disposal formula A/A+B:


A is the premium received;
B is the value of the remaining interest (that is the interest in the land retained by the landlord)
plus the value of the right to receive the rent due under the lease.
Example
On 30 June 2008, Mr J bought the freehold of a property for £150,000.
On 30 June 2011, he granted a 75 year lease of the property to Mr L. A premium of £100,000 was paid by
Mr L and rent of £5,000 per year was due under the lease. Mr J incurred legal fees of £3,000 on the grant
of the lease.
A professional valuer has reported that, at 30 June 2011, the value of the freehold reversion was £30,000
and the value of the right to receive the rent was £70,000.
i) Mr J's allowable acquisition expenditure is calculated as follows:
£150,000 (cost of property) x A / (A+B)
£150,000 x
100,000
= £75,000
100,000 + (30,000 + 70,000)
ii) The gain accruing to Mr J is then calculated as follows.
£
Premium received
less Apportioned cost (as above)
Legal fees
75,000
3,000
Chargeable gain
£
100,000
78,000
22,000
AC3600
Tax and Commercial Property
2011-12
Capital gains: granting a long lease out of a freehold
Where a short lease, that is a lease with a term not exceeding 50 years, is granted out of a freehold or
long lease, there are two particular rules which must be applied.
1.
Part of any premium paid will be chargeable as property income, and this part must be deducted
in arriving at the consideration to be brought into the Capital Gains computation.
2.
In the A/A+B formula used for determining the allowable expenditure, the A in the numerator is
not the same as the A in the denominator. As with the grant of any lease, the grant of a short
lease out of a freehold or long lease is a part disposal. However, in applying the A/A+B part
disposal formula in TCGA92/S42, a special rule must be observed:


The A in the numerator (the top part of the fraction) is the amount of the premium not
chargeable as property income
The A in the denominator (the bottom part of the fraction) is the full amount of the
premium.
The amount chargeable to Schedule A is not deducted in arriving at the A factor in the
denominator since the denominator must represent the value of the whole interest held by the
landlord before the grant of the lease.
The following example illustrates these two rules.
On 6 April 2005, Miss S bought a freehold property for £45,000 including expenses of purchase. On 6 April
2012 she granted a 46 year lease for a premium of £35,000 and a rent of £2,000 per year. The value of
the reversionary interest in the property was £30,000 and the value of the right to receive the rent over
the term of the lease was £20,000.
The computation of the gain is as follows.
i) Amount chargeable as property income
Premium received
Less amount chargeable as property income:
35,000 X
(50 - 45)
50
=
Consideration for CGT purposes
ii) Allowable expenditure
Applying the part disposal formula:
45,000 x
35,000
3,500
31,500
31,500
=
35k + (30k + 20k)
Note: The A factor in the numerator is the consideration for CGT purposes; the A factor in the
denominator is the entire premium.
iii) Chargeable gain
Disposal proceeds
less Allowable expenditure
Chargeable Gain
31,500
16,677
14,823
16,677
AC3600
Tax and Commercial Property
2011-12
Fixtures
From HMRC Capital Allowances manual (CA26025)
A fixture is an asset that is installed or otherwise fixed in or to a building or land so as to become part of
that building or land in law. This means that fixture has the same meaning in the fixtures legislation as in
property law. Any boiler or water filled radiator installed in a building as part of a space or water heating
system is also a fixture for the purposes of the fixtures legislation.
Property law distinguishes between chattels and fixtures. A chattel is an asset, which is tangible and
moveable. A chattel may become a fixture if it is fixed to a building or land. For example, before it is
installed in a building as part of a central heating system, a central heating radiator is a chattel. Once
installed, it becomes a fixture.
The courts have developed two tests for determining whether an asset is a fixture or a chattel:


the method and degree of annexation,
the object and purpose of annexation.
The first test is not conclusive. Some degree of physical affixation is required before a chattel becomes a
fixture. If the asset cannot be removed without serious damage to, or destruction of, the building or land,
that is strong evidence that it is a fixture. But it is neither a necessary nor a sufficient condition.
The second test is now accorded greater significance by the courts than the first. The courts look at the
purpose and intention of the asset and its affixation. If, when viewed objectively, it is intended to be
permanent and effect a lasting improvement to the property, the asset is a fixture. If the attachment is
temporary and is no more than is necessary for the asset to be used and enjoyed, the asset remains a
chattel.
Where a property is leased, property law distinguishes between tenant's fixtures and landlord's fixtures. A
tenant's fixture is one installed by the tenant that may be removed by the tenant during or at the end of
the lease. For example shop fittings are frequently installed on this basis. This distinction is not relevant for
the fixtures legislation. The rules on fixtures apply to both tenant's and landlord's fixtures.
Normally a person has to satisfy an ownership condition in order to be able to claim Plant & Machinery
allowances (PMAs) on an asset. In law, a fixture belongs to the freeholder of the land. This means that only
the freeholder can satisfy the ownership condition and claim PMAs. For example, a leaseholder who incurs
capital expenditure on a fixture is not the owner of the fixture and so cannot claim PMAs. The case of
Stokes v Costain Property Investments, 57TC688, confirmed this. Costain had a 99- year lease over a
property and incurred expenditure installing lifts and central heating that were landlord's fixtures. The
Courts held that Costain had no entitlement to capital allowances because the word belonging (now
ownership) in the plant and machinery legislation meant absolute ownership and Costain did not own the
lifts.
Special legislation for fixtures was introduced in 1985. It is in Chapter 14 Part 2 CAA01. Broadly, it lets
allowances go to a person who incurs expenditure on the provision of a fixture, either on installation or by
acquiring an interest in the building or land to which the fixture is attached, provided that allowances do
not go to more than one person at the same time. It treats a person who incurs capital expenditure on a
fixture as the owner (the "virtual" owner) of the fixture. It prevents anybody else, even the real owner,
being treated as the owner of the fixture for PMA purposes. Actual ownership is irrelevant. A freeholder
can only claim PMAs on a fixture if the fixtures legislation treats that person as the owner of the fixture.
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Fixtures: Apportioning expenditure on a building, etc (CA26250)
Where a person acquires for a capital sum an existing interest in land (for example, freehold or
leasehold), which includes a fixture, the person is treated as owning the fixture as a result of incurring the
part of the sum that relates to the fixture.
The part of the capital sum that relates to the fixture is found by apportioning the capital sum between
the fixture and the rest of the land.
The apportionment is made under CAA01/S562 (this requires the apportionment to be made on a just
and reasonable apportionment of the total sum paid and the help of a building surveyor or other
professional valuer may be needed.)
Alternatively the purchaser and vendor make a joint election under CAA01/S198 to determine the
amount apportioned to the fixture (Within certain limits, the two parties can agree to adopt whatever
value they wish for tax purposes.)
Fixtures: Restriction where previous PMA claim (CA26400)
CAA01/S185
Broadly this legislation limits the allowances given overall on a fixture to original cost. When a person (the
current owner) is treated as owning a fixture that another person (the past owner) has previously been
treated as owning the expenditure of the current owner that qualifies for PMA is restricted to the past
owner's disposal value.
Note
You will recall the basic rule that when you bring in a disposal value for capital allowance purposes it is
limited to the cost of the asset included in the pool.
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Integral Features (adapted from CA22310 onwards)
Outline
FA2008 introduced a new classification of integral features of a building or structure, expenditure
on the provision or replacement of which qualifies for WDAs at the 10% special rate. The new
classification applies to qualifying expenditure incurred on or after 1 April 2008 (CT) or 6 April 2008
(IT).
Background
The introduction of this new classification was part of the wider ‘Business Tax Reform’ package,
introduced by FA2008.
It included changes intended to simplify and reduce the distortive impact of capital allowances,
including the introduction of a simplified structure with two general P&M pools, one with the rate
of WDAs set at the main 20% rate, and the other with the rate set at the ‘special rate’ of 10%.
Against this background, the new classification of ‘integral features’ was intended to re-draw the
boundary between buildings, including their main features, and other equipment, so that the main
features that are normally integral to a modern building (such as electrical, cold and hot water
systems etc.) would attract WDAs at the lower 10% rate. This rate was considered to be more
appropriate, given the longer average economic life of the defined assets, compared with the
generality of other P&M.
Following a period of public consultation, a simple list approach was taken to defining the new
classification (rather than, for example, an approach that might have tried to import some sort of
“purposive” or “trade specific” element into the definition). The simple list approach was preferred
because this was considered likely to provide a more certain, consistent and fairer set of rules when
applied to expenditure by all businesses.
Definition
The new rules on integral features apply where a person carrying on a qualifying activity incurs
expenditure on the provision or replacement of an integral feature for the purposes of that
qualifying activity. Each of the following is an integral feature of a building or structure a. an electrical system (including a lighting system),
b. a cold water system,
c. a space or water heating system, a powered system of ventilation, air cooling or air
purification, and any floor or ceiling comprised in such a system,
d. a lift, an escalator or a moving walkway,
e. external solar shading
Only assets that are on the list are integral features for PMA purposes; if an asset is not one of
those included in the list, the integral features rules are not in point.
The rules also specifically clarify that the new definition does not extend to any asset whose
principal purpose is to insulate or enclose the interior of a building, or to provide interior walls,
floors or ceilings which are intended to remain permanently in place. So if, for example, a business
installs a new, permanent false ceiling in its premises, in order to conceal new wiring and service
pipes, expenditure on that ceiling would not qualify for PMAs.
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2011-12
On the other hand, if a business installs in its premises a plenum floor or plenum ceiling, the
principal purpose of which is to function as an integral part of the heating or air conditioning
system (for example, the plenum floor or plenum ceiling may form the fourth side of a duct or
channel through which stale air is extracted and treated air is discharged), that expenditure would
qualify for PMAs as part of an ‘integral feature’ of the building or structure
Special 10% rate of WDAs
FA08 introduced a new Chapter 10A to CAA01, which contains the rules governing ‘special rate
expenditure’, which must be allocated to the ‘special rate pool’ and in respect of which the person
incurring the expenditure may be entitled to WDAs at the ‘special rate’ of 10% p.a. Expenditure on
the provision or replacement of integral features is one type of special rate expenditure. Other
types are expenditure on thermal insulation and expenditure on long-life assets.
Annual Investment Allowance (AIA)
A person may claim AIA on special rate expenditure including on his or her expenditure on integral
features. In general, businesses are free to allocate their AIA to AIA qualifying expenditure in any
way they see fit. They are therefore free to set their AIA against expenditure qualifying for the
lower 10%, special rate of WDA, before using any balance against their main rate, 20% P&M
expenditure. In this way, the AIA may act as a sort of de minimis provision, allowing modest
amounts of annual expenditure on integral features to be completely covered by the new 100%
allowance. This is likely to be of particular assistance to smaller businesses and may relieve some
businesses from the need to make annual special rate pool calculations.
Replacement of integral features
If the expenditure on the repairing an integral feature represents the whole, or more than 50% of
the cost of replacing an integral feature, either all at once, or within any period of 12 months,
such expenditure is to be treated as capital expenditure on the replacement of an integral feature
for capital allowances purposes. And the person incurring the expenditure is to be deemed to own
the P&M as a result of incurring the expenditure.
No double deduction
If the expenditure is so deemed to be capital expenditure, the same expenditure may not also be
deducted as a revenue expense in calculating the income from the qualifying activity.
Policy aim: a simple, pragmatic approach
The broad policy purpose underlying these rules is to ensure that both new and replacement
expenditure on an ‘integral feature’ is afforded the same tax treatment.
“Replacement” expenditure is defined and brought within these new capital allowances rules to
prevent some businesses from seeking to claim that they have really incurred a revenue expense on
a repair to a larger asset such as the building itself, in other words, that they have not incurred
capital expenditure.
The test of “replacement”, by reference to expenditure on replacing more than 50% of the integral
feature within 12 months, is intended to discourage any attempts to avoid the application of the
replacement rules by businesses, say, splitting replacement expenditure over two or more
chargeable periods.
In most cases, however, it is expected that businesses will simply replace a particular integral
feature and so will know that the new rules apply. Even where the business does not replace the
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feature all at once, it will know whether or not a specific integral feature has worn out, and
whether or not it plans to replace the whole, or the bulk of it, within the next year. Likewise, it is
expected that in most cases, it should be apparent to HMRC whether it is reasonable to accept the
taxpayer’s advice that expenditure on an integral feature does, or does not, constitute
“replacement” expenditure.
So it is not anticipated that, for example, detailed running totals of expenditure will routinely be
required, or that the replacement rules will give rise to any need for special or attempted “precise”
valuations. Although the usual principles of reasonable care apply, it should be remembered that
there is no statutory obligation on the taxpayer to, for example, obtain more than one quote or
estimate. In the main, the policy intention is to adopt a “light touch” approach, so that any
additional administrative burdens are kept to a minimum.
Example 1
Jack decides to replace the electrical system in his factory. The cost of replacing the whole system is
around £100,000. Jack’s business’s chargeable period ends on 31 December each year. He pays
£40,000 towards the new system on 31/12/08 and pays the balance of £60,000 on 30/6/09, after
the work is satisfactorily completed.
Although Jack’s initial expenditure in his 2008 chargeable period, on beginning to replace this
integral feature represented only 40% of the replacement cost, that initial expenditure plus the
further expenditure incurred within 12 months (that is, plus the balance incurred in his 2009
chargeable period) represented more than 50% of the replacement cost, and so the total
expenditure is deemed to be capital expenditure, to be allocated to the special rate pool, where it
will attract WDAs at 10%.
Example 2
Phoebe would like to replace the electrical system in her seaside boutique. She obtains an estimate
from Seaside Electrics Ltd, who quote a total figure of £100,000 for the whole job. She decides that
she cannot afford this, so requests a separate estimate for replacing the wiring and sockets on the
ground floor alone, because this is the floor she is most worried about, following some recent flood
damage. Seaside Electrics Ltd quote a figure of £48,000 for this floor alone. Although it might have
been possible for Phoebe to have obtained a cheaper estimate for replacing the whole system, for a
total of say £90,000, (when £48,000 would have represented more than 50% of that total) this is
not relevant. The £100,000 estimate from the same established electrician was a bona fide arm’s
length estimate and there is no need to enquire further. The partial replacement cost represents
less than 50% of the total replacement cost and so the integral features provisions do not apply.
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Stamp Duty Land Tax
The following information has been extracted from a 2007 document produced by HMRC Introduction to
leases. The full document is available at http://www.hmrc.gov.uk/guidance/sd3.pdf
The rates of SDLT have been updated to reflect changes made in 2011.
Introduction
Stamp Duty Land Tax (SDLT) was introduced on 1 December 2003. This leaflet is a quick guide to leases. It
does not replace either the guidance notes to completing the land transaction return or the SDLT manual.
When is SDLT due on a lease?
SDLT applies to the grant of a lease where the chargeable amount of the transaction includes rents. In
Scotland, this includes exchanges of missives of let, which are not to be followed by the grant of a formal
lease.
Working out SDLT
How do I work out the amount of SDLT?
You must look separately at the rent and any consideration other than rent, for example, a premium.
How do I work out SDLT on the rental element of leases?
We charge SDLT on the ‘net present value’ of the total rent payable over the term of the lease.
You must work out the net present value of the rent due for each year of the lease, and then add them all
together.
How do I work out the net present value?
You should work out the net present value by applying the formula shown in the Appendix A, and using
the example to help you.
You can also use the tool available on our website at www.hmrc.gov.uk/so to help you work out the net
present value.
What happens after that?
When you’ve worked out the net present value, you can then calculate the SDLT due on the lease.
Is there a difference between residential and non-residential leases?
There are different thresholds for the net present value of the rental payments. For residential leases, the
nil rate band is £125,000 and for non-residential leases, the nil rate band is £150,000.
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What are the rates of SDLT?
The tables below show the rates of SDLT that apply, depending on whether the lease is for
residential or non-residential property. SDLT is then due at 1 per cent on the excess over these
thresholds.
Net present value of the rental payments
Rate of SDLT
Residential lease
£125,000 or less
£125,001 or more
0%
1% on the excess over £125,000
Net present value of non-residential or mixed lease payments
£150,000 or less
£150,001 or more
0%
1% on the excess over £150,000
What if the property is furnished?
When you’re working out the amount of SDLT due, it doesn’t make any difference if the property is
furnished or not.
What if VAT is due on the rent under the lease?
For the purposes of working out the SDLT on the rent, if VAT is due, it is included in the rent.
What if there is a provision for a rent review?
For the purposes of working out the net present value, we ignore all rent changes which take place after
five years.
The rent value used for later periods is the same as the highest rent paid in any 12-month period in the
first five years of the lease.
What happens if a lease is varied to increase the rent?
If there is no provision for a rent review and a lease is varied to increase the rent, we treat the variation
as if it were the grant of a lease for the additional rent chargeable. This transaction will be a linked
transaction.
What if the transaction involves considerations other than rent?
If other considerations are involved, for example, a premium, check the tables in Appendix B to see which
rate you should use to work out the amount of SDLT due.
If the rent covers water, gas or electricity, does this affect the calculation?
For the purposes of SDLT, if the rent is expressed as a single sum - payable for rent and any other matters,
but is not apportioned, it is all treated as rent.
If separate sums are expressed, we only take the rental element into account. However, the
apportionment must be on a just and reasonable basis.
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Appendix A
The formula for calculating the net present value is
𝑛
𝑁𝑃𝑉 = ∑
𝑖=1
𝑟𝑖
(1 + 𝑇)𝑖
NPV is the net present value.
ri is the rent payable in the year.
i is the first, second, third etc. year of the term.
n is the term of the lease.
T is the ‘temporal discount’ rate. The Treasury sets the temporal discount rate and is currently 3.5 per
cent. The addition you should use in the net present value formula is 0.035.
Example
Net present value of rent payable over the term of a lease.
A lease has a fixed term of five years and the rent payable in each year is as follows:
Year 1
Year 2
Year 3
Year 4
Year 5
£4,000
£5,000
£6,000
£7,000
£8,000
We calculate the net present value of the rent over this period as follows.
Year 1 £4,000/ (1+0.035)
£3,864.73
Year 2 £5,000/[(1+0.035) x (1+0.035)]
£4,667.55
Year 3 £6,000/[(1+0.035) x (1+0.035) x (1+0.035)]
£5,411.65
Year 4 £7,000/[(1+0.035) x (1+0.035) x (1+0.035) x (1+0.035)]
£6,100.09
Year 5 £8,000/[(1+0.035) x (1+0.035) x (1+0.035) x (1+0.035) x (1+0.035)]
£6,735.76
The net present value is the sum of the calculated values, that is £26,779, rather than the £30,000
actually due.
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Appendix B
(Tables taken from HMRC website http://www.hmrc.gov.uk/sdlt/intro/rates-thresholds.htm
Non-residential land or property rates and thresholds
Purchase price/lease premium or
transfer value (non-residential or mixed
use)
SDLT rate(includes first time buyers)
Up to £150,000 - annual rent is under
£1,000
Zero
Up to £150,000 - annual rent is £1,000 or 1%
more
Over £150,000 to £250,000
1%
Over £250,000 to £500,000
3%
Over £500,000
4%
Note that for the above purpose the annual rent is the highest annual rent known to be
payable in any year of the lease, not the net present value used to determine any tax payable
on the rent .
SDLT on residential land or property
Purchase price/lease premium or
transfer value
SDLT rate
SDLT rate for first-time
buyers
Up to £125,000
Zero
Zero
Over £125,000 to £250,000
1%
Zero
Over £250,000 to £500,000
3%
3%
Over £500,000 to £1 million
4%
4%
Over £1 million
5%
5%
First time buyers
The first time buyer's £250,000 threshold applies from 25 March 2010 up to 24 March 2012 inclusive.
Properties bought in a disadvantaged area
If the property is in an area designated by the government as 'disadvantaged' a higher threshold of
£150,000 applies for residential properties.