Background
When the scrapping of Taper Relief and the indexation allowance was announced in October, both the TUC and the CBI were up in arms about its unfairness. As a result, the Chancellor announced that ER would produce an “effective rate” of 10% on gains on business assets after April 2008.
The new ER is restricted to the first £1million of gains arising to an individual, or to trustees, after 5 April 2008, but in other ways as well it is much less generous than taper relief.
Last month’s article pointed out that there were several classes of assets that qualify for business asset taper relief but will not qualify for ER, but until we saw the draft legislation we did not realise two very important differences that were either ignored or glossed over in the original press release.
Sale of Business Assets
Under Taper Relief, a gain on a sale of an asset used for a trade carried on by a sole trader, a partnership or an unlisted limited company could be reduced by 75%, subject to certain conditions, giving an effective rate of CGT of 10% for a higher rate taxpayer.
Under ER, the conditions are much tougher and many assets that qualified for taper relief will not qualify for ER.
Sale of a Business or “part of a business”
ER will only be available when you sell “a business or part of a business”, or where your business ceases trading, you will have three years to dispose of the assets and claim ER on the capital gains you make on the sale of them.
With taper relief, the business did not have to cease – a sale of an asset used for the business qualified, even if you were carrying on trading.
What is “part of a business”?
HMRC have let it be known that they propose to interpret this phrase in the same way as they used to interpret it in the days of “Retirement Relief” (which was replaced by taper relief in the late 1990s).
“Part of a business” means an identifiable part of the enterprise. Most of the old Retirement Relief tax cases involved farmers, and they provide a good example of the difference between ER and taper relief.
If a farmer sells one of his fields to a property developer, that would qualify for business taper relief but not for ER because it is not a “part of a business”, just an asset used for the business.
An example of a sale of “part of a business” by a farmer would be a sale of a significant amount of grazing land, the milk parlour, the milk quota and the dairy herd – because that is the sale of the dairying “part” of the business.
Furnished Holiday Accommodation (“FHA”) qualifies for ER, provided the rules about the number and duration of the lettings are complied with, but it will be interesting to see whether the sale of one holiday let by a landlord who retains one or more other holiday lets will be treated as a sale of “part of a business”.
HMRC’s capital gains manual does not go into the question, but it does give an example of the sale of a shop by a trader who runs two shops. Whether this will be a sale of “part of a business”, says the manual, “depends on the facts” – this is HMRC-speak for “will be the subject of an expensive and nit-picking argument”. The manual gives two examples where they would accept that the one shop sold was “part of a business”:
Where the trades are entirely distinct – such as a butcher’s shop and a clothes shop
Where the type of customer is different – such as one wholesale warehouse and one retail shop
The implication is clearly that if you own two similar shops – say two shoe shops – HMRC will argue that the sale of one of them is not the sale of “part of a business”, but merely the sale of a business asset, and does not qualify for ER.
In the case of FHA, then, will the sale of one holiday cottage be a disposal of “part of a business” if you still own one or more others? Only time and the law courts will tell.
Rent Paid
Currently, if you receive rent for the use of business premises, this is entirely irrelevant to qualifying for business taper relief, but for ER the relief will be restricted in a “just and reasonable” manner, depending on whether the rent was below a market rate or not. If it was at a market rate, then no relief will be due.
A very common trading structure is to run a business through a limited company, but to own the premises outside it, and to charge the company rent for occupying them. This has a number of advantages, both from a tax point of view, and also on more general commercial grounds – if the company goes down the pan, you are still left with the most valuable asset in the shape of the premises it traded from.
Such a structure will mean that ER is either restricted or denied on a sale of the premises when the trade ceases or the company is sold, depending on the level of rent paid.
This does not mean that such structures should necessarily be dismantled by transferring the premises into the company, but it does mean that the position needs reviewing in the light of the strategic plan for the whole of the business.
ER is not a replacement form of business asset taper – it is a much more restricted and complicated relief, and one that is going to cause a lot of disputes between HMRC and taxpayers.
James Bailey
