Stamp duty land tax (‘SDLT’) came into force on 1 December 2003. Many leases granted on or after that date working on a five-year cycle will shortly have their first rent review. If, after 1 December 2008, the tenant under such a lease suffers a substantial increase in the rent on review, it will now be subject to an SDLT charge as a result of the introduction of new relating to “abnormal rent increases”.
In the current climate, where many tenants are actively seeking concessions in rent, this burdensome liability coupled with an increase in the rent itself, may be one financial outlay too far. To further add to tenants’ woes, despite a five year lead-in period which HM Revenue & Customs (‘HMRC’) had to finalise the legislation in this area, HMRC have only recently acknowledged that the rules currently on the statute book which come into force on 1 December 2008 are unworkable and require amendment. Any such amendment will not take place prior to Budget 2009. In the meantime, tenants are left in the unenviable position of being required to file SDLT returns and pay SDLT on the basis of rules which do not work; thus further increasing tenants’ tax risk and administrative burden in these difficult economic times.
Where a lease is granted after 1 December 2003, the SDLT charge on the rent payable under the lease is calculated by looking at the actual rent payable for the first five years and deeming the rent payable for each year thereafter to be the highest rent payable in any 12 month period of the first five years.
If during the first five years of the term the rent has been reviewed or subject to a ‘relevant’ variation, the tenant should review their SDLT position and if necessary, submit a further SDLT return. Variations or increases after this initial 5 year period are not usually assessed for SDLT purposes. The abnormal rent increase rule is an exception to this position.
If the amount of rent payable under a lease granted after 1 December 2003 increases ‘abnormally’ after the fifth year of the term, whether or not pursuant to a rent review provision, the rules currently in force provide that there is the deemed grant of a new lease in consideration of the excess rent, upon which SDLT will be payable and an SDLT return must be filed.
Legislation currently provides that the “deemed” lease is assessed on the following basis:
- It is made on the date the increased rent first becomes payable;
- For the unexpired residue of the original term;
- For consideration equal to the excess in increased rent; and is
- Linked with the grant of the actual lease.
WHAT CONSTITUTES AN ABNORMAL INCREASE?
Broadly speaking, the current legislation provides that an increase is considered abnormal if the rent payable has increased by over 20 per cent year on year (i.e. if the rent payable under the lease has remained the same for five years, the increase in rent must be 100% over the rent previously payable). However, when drilling down into the detail of the legislation, HMRC have acknowledged that the rules do not produce the intended results from an SDLT perspective. Furthermore, the statutory drafting raises a number of practical issues including such basic questions as when an SDLT return should be filed in respect of an abnormal rent increase.
HMRC have stated they are powerless to amend the legislation prior to next year’s Budget. In the meantime, HMRC are working with industry to seek to resolve the outstanding issues. In a welcome move, HMRC have acknowledged that any tenants subject to an SDLT charge due to an abnormal rent increase between 1 December 2008 and Budget Day 2009 will be treated in a sympathetic manner if the rules have impacted on the tenant in a “disproportionate or burdensome way”. Precisely what they mean by this phrase is unclear.
TURNOVER RENTS, GEARED RENTS AND STEPPED RENTS
The “abnormal rent” increase rules equally apply where an increase in rent occurs as a result of the application of provisions in a lease for turnover rents, geared rents or stepped rents.
To circumvent the abnormal rent increases rule tenants may include a cap in the rent review clause stipulating that upon review, any reviewed rental figure is below a specified figure. In the present market, Landlords may be more willing to make such a concession, although the uncertainty over how HM Revenue & Customs will amend the rules will not assist tenants in this regard.
When rent is reviewed on a five-year basis, further returns and SDLT payments may need to be made after each and every review. It is essential that tenants are mindful of this fact and upon every review carry out the appropriate calculation to see if the increase in rent was abnormal. Failure to do so will lead to the late filing of the required SDLT return and may incur penalties and interest payments.
Given the uncertainty in this area, if a tenant suffers an abnormal increase in rent prior to Budget Day 2009, it should consider whether it has been impacted in a “disproportionate or burdensome way”, in which case it may wish to avail itself of HMRC’s “sympathy” and contact them. Tenants would be ill advised to assume that HMRC will necessarily correct the legislation in Budget 2009 or would never pursue a taxpayer under the law as it is drawn at present. Following R (on the application of Wilkinson) -v- Inland Revenue Commissioners  STC 270 it is clear that the scope for HMRC to provide an extra statutory concession, by whatever name it is called, is limited.
In the current climate, landlords may be more willing to offer concessions to their clients. In doing so, landlords must be alert to the fact that providing tenants with reassurance, such as an initial cap on the rent, may disadvantage their own financial position if the market recovers and market rents increase abnormally. Landlords should therefore consider any concession they may provide to their tenants in light of their long term financial plan for the property in question.
The abnormal increase rules were introduced as an anti-avoidance provision to prevent tenants using a loophole in the calculation of the SDLT charge on rent by artificially deflating the rent payable in the first five years and thereafter paying a higher rate of “catch-up” rent. In reality however, the abnormal increase rules will apply to leases which were not the subject of any such tax avoidance schemes. A tenant must now always be mindful of a potential SDLT charge where the rent payable under its lease is increased. Unfortunately, as matters currently stand, this is an uncertain and burdensome obligation, particularly in the period leading up to Budget 2009.