The Government has finally made an announcement on the application of SDLT to leases following a further period of consultation since the enactment of the Finance Act 2003. Whilst the Government describes the proposed change to the lease duty charge as "significant" it is by no means as significant as many were hoping for.
SDLT on leases will be levied at the rate of 1 per cent on the net present value of the rents payable throughout the whole of the term of the lease and there will be no change to the discount factor. The modification that will be made by the Government is to charge the 1 per cent only on the excess over the exempt threshold of £150,000 (for commercial leases) or £60,000 (for residential leases). The effect of this is that any commercial lease chargeable to SDLT will attract tax of £1,500 less than would have been the case under the Finance Act 2003 provisions. Therefore, low value leases will be the main beneficiary.
In addition to this modest change, there will be a number of other changes (some directed at avoidance and others at relieving unfairness or inconvenience) and these are referred to briefly below. These changes will be introduced by statutory instrument before SDLT is implemented on 1 December 2003. Draft Regulations effecting these changes have not yet been published and there will not be time for consultation.
Surrenders and regrants
Under the Finance Act 2003 provisions, two problems arise:
- where the old lease has intrinsic value this would constitute consideration for the grant of the new lease and the new lease would constitute consideration for the surrender of the old lease (subject to a fairly restrictive relief); and
- there would be no credit for the SDLT paid on the old lease.
The Revenue has announced that the position will be clarified so as to ensure that the surrender of any lease will not constitute consideration for the grant of another and the grant will not be consideration for the surrender. In addition, in computing the SDLT payable on the new lease, the amount of rent due under the old lease for the unexpired period of the term will be credited against the rents payable under the new lease. For example, a lease is granted for 10 years at an annual rent of £100,000. SDLT will be paid by reference to the net present value of £1m. If that lease is surrendered after 5 years in return for the grant of a new lease for a term of 10 years at an annual rent of £150,000 then the rent payable under the new lease will be treated as being for an annual rent of £50,000 for the first 5 years and £150,000 thereafter.
Sales and leases back
Under the Finance Act 2003, SDLT is payable both on the sale and the leaseback. The Inland Revenue recognise that sale and leaseback is essentially a financing transaction. Representations were made by various representative bodies that to tax both legs would amount to double taxation. The Finance Act 2003 provisions will be amended so as to provide exemption from SDLT on the leaseback provided that certain conditions are met. We await sight of the detail. In particular, it is not clear whether the leaseback must be of precisely the same property as was the subject matter of the sale and whether the sale and leaseback must take place simultaneously or whether a gap between the two will be permitted.
Turnover leases and other leases with uncertain consideration
Under the Finance Act 2003 provisions, the application of the lease duty charge to turnover leases operates so that the tenant is required to make a best estimate of the rents that might become payable throughout the term of the lease (even though this could not be known) and pay SDLT by reference to that estimate. An adjustment would then have to be made periodically (in theory, quarterly) to take into account the actual rents received. Clearly, the compliance obligations would be onerous. The solution that the Government has announced is that where the lease is for a term of 5 years or more, then only one adjustment will be necessary. This adjustment will take place after 5 years and SDLT will be recalculated on the basis of the actual rents received during the first 5 years. Where the lease is for a term of over 5 years then in relation to the rents payable after 5 years, an annual rent equal to the level of the highest rent paid in any 12 month period during the first 5 years of the lease will be assumed. Where the lease is for less than 5 years, again only one adjustment will be necessary and this will take place at the end of the lease. Whilst this will greatly assist many leases, one problem that will still remain is where leases are assigned during the first 5 years because the SDLT liability will continue to be that of the original tenant. Accordingly, the original tenant will need to ensure that on assignment he has the right to require the assignee to provide him with such information as will allow him to compute any adjustment.
Leases for an indefinite term
Under the FA 2003 provisions, a lease for an indefinite term (eg a lease for life or until repayment of a debt) would be treated as a lease for a term of 12 years. Changes will be introduced so that the term of the lease will be deemed to be for a period of 12 months. However, where occupation continues after that time, a new lease will be deemed to be granted for another 12 months (and so on until occupation ceases). These leases will be treated as linked transactions so that where the combined net present value of the rents exceeds the exempt threshold (£150,000 for commercial leases), SDLT will be payable even though each deemed lease may be below the exempt threshold.
Changes in rent after 5 years
Under the Finance Act 2003 provisions, all rent changes envisaged at the time of the grant of the lease or within 2 years of its grant, must be taken into account in computing the net present value of the rents. Therefore, a long lease with a stepped rent would have to take into account all increases in the rent throughout the term. This treatment is inconsistent with the position on market rent leases where SDLT is payable on the initial market rent; increases in rent following a rent review are ignored unless the rent review takes place within the first 2 years. Changes will be made to ensure that all rent changes made after 5 years are ignored. This will be of benefit to certain leases such as stepped rent leases. However, there will also be anti-avoidance provisions that will ensure that where the annual rent rises by more than 5 per cent plus the increase in the retail prices index then the amount of the rent actually increased will trigger an SDLT charge. It is not yet clear whether such rules will only apply in avoidance cases or whether they could bite on normal commercial rent reviews.
Anti-avoidance
Under the Finance Act 2003 provisions, no SDLT arises on the assignment of a lease. This gives rise to the opportunity of granting a lease intra-group which would attract SDLT relief and then assigning the benefit to an occupational tenant. Anti-avoidance rules will be introduced so that where a relief is obtained on the grant (commonly intra-group relief) then assignment of that lease will be treated as the grant of a lease by the assignor to the assignee so that SDLT will arise on assignment. Assignees will need to identify when such reliefs have been claimed by their assignor in order to meet their SDLT obligations.
Sales : Relief for housebuilding companies or chain breaking companies
The Finance Act 2003 provides a relief for housebuilding companies that acquire a residential property from an individual in return for that individual acquiring a new residential property from the housebuilding company. The scope of this relief will be extended to companies that acquire an individual's residential property (eg where the individual moves into a retirement home) provided certain conditions are met. A similar relief will also be available to companies who specialise in acquiring residential properties from the personal representatives of deceased individuals. In addition, a similar relief will be available to companies that purchase properties in order to break a "chain of purchases". In all cases there are specified conditions that need to be met.
Partnerships
The Government has issued draft clauses to be included in the Finance Bill 2004 that deal with the SDLT position on transactions between a partnership and a partner or an incoming partner, dealings in partnership interests and transactions between a partnership and a retiring partner. These are the subject of a further consultation.
Various other technical changes have also been announced. We will comment further on these and any further implications once we have seen the detailed Regulations. Most of these changes are the fruit of the consultation process but the changes themselves are not being released for consultation. It is to be hoped that the Inland Revenue applies them with a light touch.
For more information, please contact Mark Nichols (020 7367 2051, mark.nichols@cms-cmck.com), Richard Croker (020 7367 2149, richard.croker@cms-cmck.com) or Mike Boutell (020 7367 2218, michael.boutell@cms-cmck.com)
