Lee Sharpe looks at the effect of the re-introduction of a swathe of ‘old’ legislation to raise corporation tax revenues by a worried Chancellor for property investment companies in particular.
This article was prompted by one or two queries that have been raised by regular readers of the Tax Insider publications. In it, I hope to allay most concerns in relation to property landlord companies, but also to highlight where those concerns may yet be valid, and what to look out for.
Corporation tax rate hike
The big news for most companies is a return to a significantly higher rate of corporation tax; or, more accurately, that the main rate of corporation tax will rise from 19% to 25%, with effect from 1 April 2023.
Those of us (jaded!) advisers who can put up with the shock of this reversal should, however, be well placed to deal with the new (old) regime as it is re-introduced. This includes the ‘small profits rate’ of 19%, and where it will (and will not) apply.
Finance Act 2021, s 7 and Sch 1 introduced CTA 2010, ss 18A–18N, which in turn largely re-instates what used to be CTA 2010, ss 18–34.
Small profits and close investment-holding companies
The small profits rate of 19% will typically apply to a company for (up to) the first £50,000 of taxable profits – a modest ‘safe haven’, perhaps.
For profits above that level, there is then a marginal rate to catch up to the standard main rate of 25%, as follows:
|
small rate |
19.0% |
profits £0 - £50,000 |
|
marginal rate |
26.5% |
profits £50,001 - £250,000 |
|
main rate |
25.0% |
profits of £250,000+ |
As in the past, the above bands are divisible by the number of associated companies that are under common control. Simply, a person cannot benefit from several small rate bands by owning several companies; rather, the one small rate band of £50,000 is split equally between the companies they control.
However, a close investment-holding company (CIHC) is taxable at the main rate of 25% at any level of profits. In other words, a CIHC will never enjoy the 19% small rate.
As such, a CIHC may be considered to incur a penalty as it will always suffer the higher main rate (i.e. 25% from 1 April 2023).
What is a CIHC?
It is generally assumed that owner-managed business (OMB) companies that are founded or otherwise resident in the UK will be ‘close’, as they are usually controlled by either five or fewer shareholders, or by any number of directors or shareholders. The legislation is widely drawn and complex (CTA 2010, s 438 et seq.), but an OMB or family-run company will usually be ‘close’.
The legislation determines broadly that any such close company will, in turn, be a CIHC unless it falls inside at least one of several exclusions from CIHC status. Fortunately, those exclusions are widely cast in terms of practical application, including where the company exists wholly or mainly for the purpose of:
- carrying on one or more trades on a commercial basis; or
- carrying on a commercial letting activity.
Thus a ‘normal’ trading company – or a ‘normal’ property letting company – will be safe from CIHC designation (CTA 2010, s 18N). This might seem to be counterintuitive, given that it is well-known that tax generally treats property letting as an investment activity. But the protection afforded rental businesses was around long before the old regime was abolished in 2015 (one might now say it was temporarily withdrawn, rather than abolished).
There are more exclusions in the legislation, such as to cover a holding company for trading subsidiaries or a company which acts in a supporting role to a ‘qualifying’ company or companies in its group.
However, despite the quite generous exclusions from CIHC status carved out in the legislation, there are still one or two scenarios that are reasonably commonplace to beware of.
Beware the traps
If a company falls out of the protective exclusions at any time in the chargeable period, it will be a CIHC for that period. The legislation requires that the company must satisfy the criteria for exclusion from CIHC status throughout the chargeable period.
So, if (say) a company stops carrying on a trade or property letting business on a commercial basis at some point in a chargeable period, it may forfeit access to the small profits rate for that period.
However, the legislation assumes that the letting of land is on a commercial basis unless the land is let to a person connected with the company, or a spouse or civil partner of a person connected with the company, or to a:
- spouse or civil partner of such a connected person;
- relative of a connected person, or the spouse or civil partner of a relative of a connected person;
- relative of the spouse or civil partner of a connected person; or
-
spouse or civil partner of a relative of the spouse or civil partner of the connected person.
And in this context, ‘relative’ means sibling, ancestor or lineal descendant. Thus the actual commerciality of a letting arrangement, in the conventional sense, is basically subordinate to whether the letting is to a connected party, or relative thereof, etc., triggering CIHC status.
One or two points flow from this:
- ‘Connected person’ is not limited to individuals: if a company lets property to a connected company, and the arrangement is not saved by another exclusion (e.g., the first company is a group holding company and the tenant is a subsidiary, trading on a commercial basis), the land or property-holding company will be exposed to CIHC status.
- While landlords and advisers will be familiar with similar traps for residential property let to connected parties etc., (the annual tax on enveloped dwellings, or stamp duty land tax on corporate acquisitions of high-value residential property), the CIHC regime does not ‘care’ whether the land is dwelling-related.
- To exist ‘wholly or mainly’ for an excluded purpose, and thereby to be saved from CIHC status, is a matter of fact and degree. For example, a company can exist primarily for a commercial trading (or letting) purpose without actually having traded yet; likewise, it is possible that secondary investment income may be significant while remaining clearly subordinate to a CIHC-excluded activity. But it is also conceivable that a company could have been brought into existence primarily to let property to a connected party while still receiving significant rental income from third parties, and so potentially be disqualified by reason of its primary purpose.
Family investment companies
Family investment companies (FICs) have gained significant popularity in the last few years, arguably because traditional flexible trusts have become so expensive. Whether or not they will fall within the ambit of the CIHC regime will depend largely on their investment profile; if they are set up primarily to let out property (hopefully, not to connected parties, etc.) then they may be eligible for the small companies rate.
Of course, larger FICs generating substantial annual profits may not be too concerned about the rate of tax on the first £50,000 of annual taxable profits.
Moneybox companies
There will be a number of companies that have ceased a qualifying activity and are slowly ‘unwinding’, acting perhaps as a pension for their surviving shareholders or directors. They may, therefore, miss all the exclusions and fall within the scope of a CIHC.
This may not matter too much, however, if their annual profits are limited to a modest amount of bank interest or similar.
Conclusion
In theory, punitive CIHC status is easily ‘achieved’. But the built-in exclusions from the re-introduction of the regime in April 2023 will save the vast majority of companies, including most landlord businesses. Even so, care is needed when letting to connected parties, including sister companies, and status may vary from one chargeable period to the next, (e.g. where a business is starting, ceasing, reorganising or winding down (or up)). Specific advice on the specifics of the CIHC regime and when chargeable periods start and finish may well be useful.
