A dairy farming client of ours has been offered almost £1 million for his farm. He is hoping to complete the transaction in this tax year and we wish to maximise his retirement relief, as he is aged 60 and this is the last available year.
The purchaser wants our client to carry on running the farm under a twelve-month business tenancy for £20,000 per annum until he is ready to use it for his own purposes.
A dairy farming client of ours has been offered almost £1 million for his farm. He is hoping to complete the transaction in this tax year and we wish to maximise his retirement relief, as he is aged 60 and this is the last available year.
The purchaser wants our client to carry on running the farm under a twelve-month business tenancy for £20,000 per annum until he is ready to use it for his own purposes.
Although we could fall back on business asset taper relief and principal private residence relief to minimise the tax position, we would welcome any comments on whether the proposed sale and leaseback would invalidate a claim for retirement relief. We believe it would, given that there is no change in the nature of the trade other than ownership.
(Query T16,083) - Giles.
The answer to 'Giles's' direct question on the proposed arrangements invalidating a retirement relief claim is 'Yes'. Being pedantic, the legislation is even more demanding than the phrasing 'Giles' has used of changing the nature of the trade. The requirement of section 163(2)(b), Taxation of Chargeable Gains Act 1992 is that the disposal should be of assets which were used for the purposes of the business at the time at which it '... ceased to be carried on ...'. Thus, a specific cessation (or a material reduction such that it constitutes a cessation) of the business is required. 'Giles' should also bear in mind that farming for taxation purposes is treated as a single trade throughout the United Kingdom (see 'Interpretation of the Taxes Acts' at section 832(1), Taxes Act 1988).
The good point is that 'Giles' and his client are planning for the tax consequences in advance, not retrospectively, so there are opportunities to improve the position. The following steps are suggested.
First, quantify the gain so the importance of retirement relief compared with taper relief only can be based on fact not surmise. The same key stages of the calculations will need to be undertaken anyway, so additional fees will not be incurred for the client. The principal points to include are as follows.
* March 1982 valuation or acquisition cost, whichever is applicable.
* Valuation of principal private residence proportion at the same date.
* Subsequent cost of improvements or land acquisitions.
* Indexation to 5 April 1998.
* Gain on milk quota, calculated as for other assets (but nil value at original allocation date in 1984).
* Valuation of private residence element of the £1 million sale offer.
Retirement relief is then taken in precedence to taper relief, this being implicit in paragraph (6) of Schedule 6 to the Taxation of Chargeable Gains Act 1992. The annual exemption of £7,700 further assists. 'Giles' implies that his client is a sole trader, so there is no sharing of the subsequent gain between partners.
If the above calculations do leave a gain subject to the maximum retirement relief of 100 per cent on the first £50,000, plus 50 per cent of the next £150,000, it follows that it is the exemption of £125,000 of gain that compares with taper relief which would only exempt 75 per cent of it. So losing retirement relief could create an extra chargeable gain of £31,250 and a liability at 40 per cent of £12,500.
Three options to secure retirement relief, because a business cessation would occur, are set out below. Each assumes that the farm business transactions will take place just before the sale of the farm itself.
* Sell the entirety of the farming stock and trade to the purchaser, who then enters into a contract farming arrangement with the client for a year (or the required time span). The terms of these contracts are flexible, so it should be possible to achieve the required financial results. There could be tax benefits to the landlord, as he should be considered to be trading immediately, rather than holding an investment. (But beware in case buildings that house the machinery are treated as non agricultural for the purposes of business rates.)
* As above, but operate a share farming agreement. The financial outcome might not be as clear from the outset - for example, a common form provides for the profit shares to be 70:30 on the enterprise gross margins. The trading advantages for the landlord remain.
* The client could incorporate his business. This is usually enacted under either the section 162, Taxation of Chargeable Gains Act 1992 'rollover route' or the (ibid.) section 165 'holdover route'. As it is important that the farm itself should not be transferred into a company, the section 165 option would be appropriate, as section 162 requires all assets to be transferred. The trading stock, plant and machinery would all need to be acquired by the company, but debtors could be retained by the client as sole trader to avoid stamp duty. The former should avoid stamp duty, as it is not levied on assets capable of being transferred by delivery. The farm business tenancy would then be put in place between the company and the purchaser of the farm.
Care would be needed to ensure that the client did not acquire a liability to capital gains tax at the end of the trading period agreed with the landlord, through the inadvertent increase in the value of his shares. This could happen if profits were retained, exacerbated by a sale price for his stock or machinery that was markedly higher than had been charged at the point of incorporation. Appropriate dividend distributions should minimise this risk.
The value of goodwill if the company's trade is subsequently to be acquired by the landlord should also be thought through. If considered to have a value (and many farmers today would scorn such a concept!), it might be sensible for the client to charge the company on incorporation rather than to wait until the end of the tenancy, especially if it is to be for only one year. This would mean that the client was subject to the gain whilst he qualified for 75 per cent taper relief instead of, potentially, the company selling it to the purchaser of the farm without mitigation of the gain, followed by the client being eligible for only 50 per cent taper relief if the company shares had been held for just one year.
There will be extra administration costs for all of these options, which should be weighed against the tax savings they could achieve. 'Giles' should also consider the income tax consequences, as well as capital gains tax consequences, in selecting a cessation date. Realising market value of machinery and stock could create a higher than usual profit and there is no averaging facility in the final year of business. If the financial year-end has not been 5 April and the client has farmed since before 5 April 1994, transitional overlap relief is likely to be available. These points should also be assessed when determining the appropriate values of stock and machinery for any of the three options highlighted above. - AM.
These doubts are well founded. Unless the farming ceases over the land disposed of, Barrett v Powell [1998] STC 283 and Purves v Harrison [2001] STC 257 are clear authority for the proposition that retirement relief under section 163(2)(a), Taxation of Chargeable Gains Act 1992 is not available.
Although there were indications in McGregor v Adcock [1977] STC 206 that the disposal of a substantial proportion of the land might come within the description of 'part of a business', they were not adopted in Atkinson v Dancer and Mannion v Johnson (both referenced [1988] STC 758).
Furthermore, the context of section 163(1)(a), Taxation of Chargeable Gains Act 1992 does not suggest that (ibid.) section 21(2)(a) could be called in aid to enable the lease back to be disregarded should that be considered by the Inspector to mean that a 'full' disposal had not taken place. While the leaseback will be by way of a farm business tenancy, which carries no protection, it is by no means certain that the Revenue's usual practice in the days of protected tenancies will not be applied to this set of circumstances.
Section 163(2)(b), Taxation of Chargeable Gains Act 1992 could not be called in aid because the business continues to be carried on. If, however, it could be arranged for this to cease, then relief would be available under both heads of section 163(2).
It is suggested that this is achieved by the vendor transferring his working assets (and staff under 'TUPE' - The Transfer of Undertakings (Protection of Employment) Regulations 1981 (as amended)) to a company under the VAT 'transfer of going concern' concept on completion. This company would then take the farm business tenancy from the purchaser. The vendor should decline to guarantee this tenancy. He should also capitalise the company out of the net proceeds of sale, perhaps by loans, in order to avoid having to guarantee an overdraft facility. The standard forms of guarantee tend to be difficult to terminate on change of ownership.
In order to reduce the remote chance of the invocation of Furniss v Dawson [1984] STC 153, to create the hypothesis that section 163(2) was inapplicable because 'business' is a much wider concept than the (terminated) statutory trade of farming, consideration might be given to inviting the purchaser to subscribe the bulk of the share capital, with the vendor confining his equity ownership to a special class of shares giving the right to manage the company and draw down any profit for the first year, but becoming deferred shares after that. - JdeS.
