On 31 May 2011 HMRC published a consultation document proposing changes to the capital allowances regime in relation to fixtures. Broadly the consultation proposes the following:
- a time limit on when expenditure on plant and machinery, including fixtures, needs to be pooled;
- the buyer and seller must agree the amount of the sale price attributable to the fixtures, which both the buyer and the seller should record and formally notify to HMRC;
- the minimum value a buyer and seller can adopt for section 198 election is the tax written down value (“TWDV”) of the asset as opposed to £1; and
- improvements to section 197 Capital Allowances Act (“CAA 2001”), the anti-avoidance rule, to prevent the acceleration of capital allowances on fixtures by artificial arrangements.
These proposals will have a significant impact on the hotel and leisure industry. The consultation ends on 31 August 2011 and we are happy to assist you with any submissions you may wish to make.
Time limit on pooling expenditure
The legislation currently allows expenditure on fixtures to be pooled at any time, provided that the fixture is still owned and used in the business. In the hotel industry, it is common practice for expenditure to be pooled a number of years after the hotel has been purchased. As a ‘fixture heavy’ business, late fixtures claims are more favourable as the owners argue that they are not bound by the value they originally pooled in respect of the fixtures and it also can be difficult to establish the fixtures on which the seller claimed allowances and the proportion of their cost that has already benefited from the relief as many years may have lapsed since the acquisition. This discontent has been picked up by the First tier Tribunal in its recent decision (Mr & Mrs Tapsell & Mr Lester (as partnership “The Granleys”) v HMRC [2011 UKFTT 376 (TC)). In this case a buyer failed to obtain information about the seller’s capital allowances claims and could not show that the seller has not previously claimed allowances on those fixtures. The buyer had the burden of proving that the seller has not claimed allowances on those fixtures and in the absence of evidence from the buyer of an alternative just and reasonable apportionment, the apportionment in the agreement stood.
If the current proposals are accepted, this will all change. The Government wants businesses to pool their expenditure on fixtures within a short period of time after the acquisition of the hotel in order to qualify for capital allowances. A time limit of 1 or 2 years after the acquisition has been proposed. The consultation encourages views on the proposed time limit. It is anticipated that the buyer will notify HMRC of pooling through the existing corporation tax and income tax self assessment process.
The new mandatory pooling requirement would also apply (in the same way) to expenditure incurred on second hand fixtures (whether the previous owner did or did not claim capital allowances) and to new fixtures purchased by the current owner. The Government is also seeking views on whether businesses should also be required to pool historic expenditure incurred on fixtures before any changes in the law come into effect.
The impact of this is that a purchaser of fixtures will need to ensure that it notifies HMRC of expenditure on fixtures within the required time limit or lose the ability to claim allowances.
Record of agreement of sale price attributed to fixtures
The Government believe that in order to make the fixtures rules work in the future, it is essential that sellers and the buyers have a common understanding at the time of, or reasonably near to, the time of sale, of how much of the sale price relates to fixtures. Therefore the Government propose that there would be a new requirement that the seller and the buyer (who must, in accordance with the proposed rules above, agree the part of the sale price apportioned to the fixtures) should in future submit a joint note of their mutual agreement to HMRC with their respective tax returns, within a similar timescale to the mandatory pooling requirement described above.
It is intended that this record of agreement is akin to the current section 198 procedure (except that it seems that this new rule will require the apportionment to be on the basis of market value) and will be mandatory as a pre-condition for allowances on second hand fixtures in all cases. Clearly this would be an additional administrative burden and will limit the level of flexibility that buyers and sellers currently have to argue for a higher or lower value for assets qualifying for capital allowances.
Section 198 election
Currently, the seller and the buyer can elect to fix the apportionment of the sale price to the fixtures as low as £1. This is typically used to ensure that the allowances are retained by the seller although the asset has been transferred to the buyer where the buyer has no use for or will not adequately value the benefit of capital allowances or where it is difficult to carry out an analysis to determine the original cost or TWDV of specific assets. The Government fears abuse and believes that the unrelieved expenditure should be transferred with the asset and therefore proposes that the minimum amount that may be fixed as the price incurred on the provision of the fixture would be the TWDV of the fixture in the hands of the seller and may trigger a potentially difficult and costly analysis of the make up of the pool of expenditure.
Undoubtedly this will increase the administrative burden on sellers in a number of cases and will require a reappraisal of how hotels are marketed in terms of their tax attributes as well as eliminating one possible avenue for tax planning where a purchaser is tax exempt (e.g. REIT) or has no current use for the allowance (very highly leveraged or carry forward losses available).
Section 197 CAA 2001 – the anti avoidance rule
Section 197 CAA 2001 applies where the actual disposal value of any plant and machinery is less than its TWDV and the disposal event is part of, or occurs as a result of, a scheme or arrangement the main purpose of which is the taxpayer obtaining a tax advantage. The effect of section 197 CAA 2001 is to substitute the TWDV for the actual disposal value.
The Government is proposing to make it clearer that these provisions will be triggered in all circumstances where capital allowances on the fixtures are accelerated by a balancing allowance, as a result of an artificial scheme or arrangement where the main purpose, or one of the main purposes, is the obtaining by the taxpayer of a tax advantage. The Government has recognised that these improvements to section 197 CAA 2001 may not be necessary if, as proposed above, a section 198 election cannot be made at a value lower than the seller’s TWDV. However, the Government has stated that to the extent that it decides not to change the section 198 election provisions, then the suggested improvements to section 197 CAA 2001 would remain relevant.
What do these proposed changes mean for you?
First, it must be noted that these are currently only proposals on which the Government is seeking opinions and have not yet and may not become law. Anyone is welcome to make representations on the proposals and HMRC intend to convene a small working group of interested parties to discuss the proposals and their potential impact. However after the consultation process it is proposed that the draft legislation will be published and will be included in the Finance Bill 2012.
There are several implications of the proposed rules. If the proposal to make allowances for historic expenditure conditional on pooling being adopted, businesses should investigate possible entitlement to allowances before the deadline to avoid missing out on allowances.
On the sale of a hotel including fixtures, the buyer and the seller will need to agree the sale value of the fixture in order for the buyer to claim capital allowances in relation to the cost of the fixtures. Additional obligations will need to be included in the sale contract to ensure that the parties enter into the record of agreement. The question remains as to what happens if the seller and buyer cannot agree on the market value apportionment? In these circumstances and generally in practice, the parties may be forced into entering into a section 198 election at a minimum of the TWDV as this may be easier than making a market value apportionment although it may itself trigger difficulties in relation to the pooled assets.
As suggested, the change in the minimum amount for a section 198 election may prove to be unpopular with buyers and sellers as it does not allow the parties to allocate the allowances to the party to whom they are most valuable and could affect the pricing of deals going forward.
Before these proposals become law you may wish to claim all available capital allowances now where you have not already done so. You may also wish to consider intra group property transfers utilising section 198 elections to lock in capital allowances claims.