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KEY ISSUES IN SDLT – MICHAEL THOMAS Overview SDLT is fast maturing as a tax. Future finance acts are likely to contain less tinkering with the main charging provisions and reliefs; although undoubtedly there will be some of that. Some major practical problems remain. One is the complexity of the land transaction returns and the difficulties encountered with HMRC in processing them, but that is outside the scope of this talk. Another is the problem of HMRC not making available to taxpayers the views which it has taken on the legislation. More generally, there is a real danger of a “two-tier tax” where a small number of advisers debate minutiae whilst in other cases issues are not addressed. The worst example of all this is the SDLT partnerships regime where the complexity is totally disproportionate to the tax at stake. Section 75A FA 2003: the Death of SDLT Planning? Introduction Section 75A, the new general anti-avoidance rule for SDLT, was first introduced by the SDLT (Variation of the FA 2003) Regulations 2006 (SI No. 3237) with effect from 6 December 2006. A slightly revised version (which will have retrospective effect to 6 December 2006) is being enacted as clause 70 of the 2007 Finance Bill and it is that version which forms the basis of this note. The striking feature of s.75A is that it is very widely drafted. It is therefore a very effective weapon available to HM Revenue at Customs (“HMRC”) and, is likely to succeed in countering the SDLT planning arrangements against which it is designed to be used if it is deployed before the courts. To a large extent it is thought that s.75A will indeed mark the end of SDLT “schemes”. The introduction of s.75A will accelerate the trend towards bespoke planning which is of more limited application. The potential width of situations in which s.75A might apply gives cause for concern that it may catch innocent transactions. However, it is thought that difficulties should not arise provided that both HMRC and the courts give s.75A a sensible interpretation. 1 Conditions for s.75A to apply1 Introduction Section 75A adopts the approach of “following the land”. It applies where a vendor (“V”) disposes of a chargeable interest (i.e. land) and a purchaser (“P”) acquires either that interest or an interest deriving from it. A number of transactions must be “involved in connection with the disposal and acquisition”; these are referred to as “the scheme transactions”. The final condition for s.75A to apply is that the total SDLT payable in respect of the scheme transactions must be less than “the amount that would be payable on a notional land transaction” under which P acquires V’s chargeable interest. The conditions for s.75A to apply will now be considered in more detail. What is a scheme transaction? Section 75A (2) and (3) contain further details on the kind of “scheme transactions” at which s.75A is aimed. “Transaction” expressly includes “a non-land transaction”, “an agreement, offer or undertaking not to take specified action”, “any kind of arrangement whether or not it could otherwise be described as a transaction” and “a transaction which takes place after the acquisition by P of the chargeable interest”.2 Although the term “transaction” is not expressly defined it is apparent that it is to be construed very broadly and that s.75A(2) is designed to achieve this. An example of a non-land transaction is the sale of shares in a company which owns the relevant land. A list of six examples of scheme transactions is provided in s.75A(3). The purpose of this is to ensure that both taxpayers and the courts are in no doubt that Parliament has stopped certain schemes in accordance with HMRC’s recommendations. Two of the examples given are a sub-sale and the carving out of a lease from a freehold. The remaining examples all relate to the right to terminate a lease and comprise the grant of such a right to terminate (whether as part of a new lease or by the variation of an existing lease), the exercise of such a right and an agreement not to exercise a right to terminate a lease or to take some other action. “In Connection With” The scheme transactions must take place “in connection” with both the disposal and the acquisition. The interpretation of this phrase is crucial to the scope of s.75A. The statute does not qualify the term “in connection with” and this suggests that it is intended to have the broad interpretation for which HMRC would no doubt contend. However, there are problems with having a concept which is so potentially broad at the heart of s.75A. One is that innocent transactions, where there is no question of the 1 2 See s.75A(1) See s.75A (2) (a) to (d) 2 taxpayer trying to avoid SDLT, are potentially caught. It is suggested that if this issue does ever come to court then a sensible interpretation will be given to s.75A to ensure that it only catches the kind of “schemes” at which it is clearly aimed. At least, that is what should happen but there are no guarantees in litigation. The result is needless uncertainty, which is the second problem. Uncertainty wastes the resources of taxpayers, whose advisers will have to consider the risk that s.75A might apply. Moreover, the uncertainty works against HMRC because it encourages those who design schemes to save SDLT to speculate what limits the courts might set on the relevant connection and to try and circumvent s.75A using that limitation. This is of course inherently a very dangerous exercise because when confronted with aggressive planning intended to circumvent a mini general antiavoidance rule the likelihood is that the courts will find that no such limitation exists. However, if there are no other downsides to adopting the planning, then there may be taxpayers who are prepared to take the risk and make HMRC fight and win the point. For example, it might be argued that the relevant connection is lacking if the vendor is unaware of the scheme transactions which are to follow, such as where the first step involves a “double completion sub-sale”. The problem for any taxpayer seeking to argue this is that there is nothing in s.75A to require all the parties to have a subjective intention for the scheme transactions to take place. All that is required is for the scheme transactions, looked at objectively, to take place in connection with one another. In practice the result is to a large extent a matter of impression: if a court finds the transactions to be the kind of planning which should be struck down then it is likely to find the requisite connection and if it regards the transactions as innocent then the opposite will follow. It is much more strongly arguable that the requisite connection is lacking is if the scheme transactions are undertaken by the vendor before any purchaser arrives on the scene. SDLT is a purchaser-orientated tax and if the steps taken to save tax do not involve him, especially if there is a long gap before his involvement, then s.75A should not apply as the requisite connection will be lacking. To take a simple example, if V creates a special purpose vehicle company in advance of marketing that company and in the future the company is then marketed and ultimately acquired by P then s.75A should not apply. Indeed this appears to be expressly accepted by s.75C(1). Of course, creating an SPV is difficult owing to the anti-avoidance legislation aimed at preventing this. However, there are situations where it is possible, such as where other assets are transferred out of a company which also owns land in order to create an SPV3 or if land is transferred to an unconnected company. The Notional Land Transaction The notional land transaction fulfils two functions. First, it forms a key part of the test to determine whether or not s.75A applies. Secondly, if s.75A does apply then the charge is computed by reference to it as discussed further below. As mentioned 3 It might be argued that the stripping out of the other assets from the SPV does not qualify as a scheme transaction because it takes place before any land is disposed of. In any event, the present issue is when s.75A might apply. 3 above, the notional transaction involves the acquisition of V’s chargeable interest by P. The consideration under the notional transactions is the larger of the aggregate amounts either given by way of consideration by any one person for the scheme transactions or received by V or a person connected with him. Scheme transactions which are also land transactions are disregarded for the purposes of SDLT. The chargeable consideration on the notional transaction includes deemed chargeable consideration arising under s.53 FA 2003, the SDLT partnerships regime and the rules on exchanges.4 The Effect of Section 75A Applying When section 75A applies, then two consequences result. First, any scheme transactions which are also land transactions are disregarded for SDLT purposes. Secondly, tax is then charged on P by reference to the notional transaction, the effective date of which is the earlier of the last date of completion for the scheme transactions or the last date on which a contract in respect of the scheme transactions is substantially performed. The result is a kind of statutory Furniss v Dawson where inserted steps are disregarded and tax is charged according to the end result. However, on closer inspection, s.75A is almost certainly wider than Furniss, for example because of the width of the term “in connection with”. Exceptions to Section 75A The revised statutory wording in the Finance Bill provides for several circumstances when s.75A will not apply. However, what is most striking is the absence of any statutory motive test or clearance procedure for transactions which do not have tax avoidance as one of their main purposes. The author’s view, as stated above, is that the courts will interpret s.75A to achieve this result but uncertainty still remains. HMRC are similarly of the view that s.75A exists to prevent abusive avoidance but of course that is no comfort when a taxpayer and HMRC disagree as to what is abusive. The statutory exceptions to s.75A will now be dealt with in turn. First, s.75A does not apply where the SDLT payable in respect of the scheme transactions exceeds that payable on the actual transactions only by reason of either the reliefs for alternative financing arrangements under ss71A to 73 or the social housing provisions contained in Schedule 9. This exception applies where tax is reduced “only” by the relevant provisions. Accordingly, it is not possible to have, for example, a prior sub-sale combined with an alternative finance relief provision as a basis for planning and then claim that s.75A does not apply. Secondly, in calculating the chargeable consideration on the notional transaction the consideration for what would otherwise be a scheme transaction is ignored if it is 4 See s.75C(5) and (7) 4 “merely incidental” to the transfer of the land from V to P under s.75B(1). It is doubtful whether s.75B really adds anything because if a transaction is “merely incidental” to the land transfer, then it is highly arguable that it lacks the relevant connection with it in any event. Moreover, it is expressly provided5 that a transaction is not incidental if it “forms part of a process, or series of transactions, by which the transfer is effected”, “the transfer of the chargeable interest is conditional on the completion of the transaction” or if it is of one of the specific scheme transactions listed in s.75A(3). So, it is difficult to imagine scenarios where the exception for incidental transactions will make a difference in practice. Nevertheless, it is provided that a transaction may be incidental if it is undertaken only for a purpose relating to the construction of a building, the sale or supply of something other than land or a loan to P to enable him to acquire the property6. As stated above, these kind of transactions lack the relevant connection with the land transfers in any event. Thirdly, a transfer of shares is ignored for the purposes of s.75A if it would otherwise be the first in a series of scheme transactions7. This ensures that a straightforward sale of a land owning company followed by a liquidation is not caught by s.75A; although it is doubtful whether it would have been caught in any event. Fourthly, the notional transaction under s.75A attracts any “relief” as if it were an actual transaction. The term relief is not defined so that there may be some uncertainty as to what is a relief: for example strictly this would not cover any exemption within Schedule 3. More fundamentally, this does not assist in the situation where there is a series of innocent transactions, each eligible for individual reliefs for which the notional transaction would not qualify. For example, land might be transferred up to a Newco with group relief claimed prior to a liquidation reconstruction on which reconstruction relief is claimed. This arrangement cannot be intended to be caught by s.75A but the notional transaction would qualify for neither relief. An attempt seems to have been made to address this very point in s.75C(3) but it does not solve the problem because it merely provides that the notional transaction satisfies the statutory purpose test if any of the scheme transactions do. This provision needs amending and this may happen during the passing of the Finance Act. Fifthly, no account is taken of any consideration paid in respect of certain transactions which qualify for specified reliefs8. This means that even if the notional transaction does not of itself qualify for relief, then some or all of the consideration may not be chargeable. Finally, on a practical note, HMRC has issued a so-called “White List” on transactions which will not be caught by s.75A. The examples given are clearly outside s.75A in any event, so the White List has little practical use. However, it is worth noting that Prudential planning involving separate sale and build contracts is expressly not caught. 5 By s.75B(2) See s.75B(4) 7 See s.75 C (1) 8 See s.75C (4) 6 5 What is Caught by s.75A? As stated at the outset, s.75A is a widely drafted mini general anti-avoidance rule. It catches several planning arrangements which were popular prior to December 2006. These include the more aggressive planning based on sub-sale relief under s.45(3) designed to ensure that little or no tax was paid when there was no genuine commercial sub-sale, the various ideas based on terminating a lease to radically alter its value without an SDLT charge and the idea of the purchaser paying if the vendor failed to exercise some right, such as the right to terminate a lease. Schemes involving partnerships are also caught although the flaws in the legislation on which the planning was typically based are dealt with in their own right, as discussed further below. Nevertheless, s.75A prevents individual vendors from using partnerships to avoid SDLT being payable on a sale. Are Innocent Transactions Caught? The short answer to this is that innocent transactions should not be caught. However, the position is not as clear as it could be owning to the width of the scope of s.75A. The result is that there is some uncertainty. However, in the author’s view very often it will not be too difficult to form a firm view that s.75A does not apply when there is no question of any planning. What Planning Survives s.75A? Perhaps the biggest question in practice is what planning survives s.75A. possible to identify various arrangements which clearly do. It is One is a Prudential arrangement where the purchaser acquires bare land from a vendor and at the same time enters into a building contract with the vendor so that SDLT is payable on the land value alone. Another is a sale of shares in a land owning company or units in a unit trust. Creating a special purpose vehicle for sale is a more difficult exercise of course. Prospective corporate vendors should consider creating SPVs more than three years in advance of any prospective sale to avoid any clawback of relief. SPVs can also be created by hiving out other assets to create a clean company where the other factors permit this. A third kind of arrangement which should be immune from s.75A is for a developer to not acquire any interest in land but instead to be paid as a builder and also as marketing agent for the landowner-vendor. Section 75A has nothing to bite on provided that the developer does not acquire any interest in land. The key to ensuring the success of this kind of arrangement is to ensure that the developer does not acquire any interest in land whilst balancing this against the commerciality of the deal 6 and the vendor’s needs. These kind of arrangements might well become very popular over the next few months. A fourth group of arrangements comprise what might be termed “bespoke planning”. In some transactions there will be particular facts which mean that the SDLT charge can be reduced without the need for a contrived arrangement. Put another way, if there is no series of transactions, then s.75A cannot apply. One example of this is for a tenant to swap a 999 year lease for a new lease rather than a freehold to take advantage of the rules on surrenders and regrants. Another is the rule that no SDLT is chargeable on the incorporation of a partnership, as discussed further below. Finally, there may be scope for more aggressive arrangements. However, the most likely key to achieving this is to break the “connection” test. It is considered that there will be good arguments that the connection test is broken if the vendor sets up the planning prior to the purchaser arriving on the scene. The longer the time gap between the setting up of an arrangement and an ultimate sale, the harder it is to argue that the requisite connection is present. The Furniss v Dawson case law is relevant in this regard. If no consideration passes at the first stage then there is nothing for s.75A to bite on at that time. However, if there is to be a significant time gap, it must be recognised that in many cases it may not be worth all the effort, risk and commercial inconvenience in order to save SDLT at 4% and it might be simpler to create an SPV and wait 3 years. There may be scope for other arrangements which exploit the s.75A rules for the basis of planning, such as by taking advantage of the rules on deemed consideration to achieve an SDLT saving. Is s.75A the end of SDLT schemes of general application? HMRC’s hope is clearly that s.75A will mark the end of “one size fits all” SDLT planning schemes. To consider whether this is likely to be the case it is necessary to understand HMRC’s approach to SDLT planning. HMRC has up to now been slow to attack SDLT planning arrangements through the courts. Instead the approach has been to amend the legislation. Not all of the legislative amendments have been unqualified successes as more than one has failed to stop the intended target and others have been unnecessary and only caused further confusion. It is also important to understand that not every arrangement which s.75A targets necessarily worked anyway. HMRC would have had strong arguments against more than one of the schemes against which s.75A is targeted. Who would have prevailed before the courts is inherently uncertain but it is very unlikely that HMRC would have failed in every challenge. Conversely, HMRC’s failure to challenge SDLT schemes encourages taxpayers who wish to adopt them. If HMRC accepts that a scheme works then that is its result. If no other tax apart from SDLT is at stake then more aggressive taxpayers may be prepared to undertake planning on the basis that little will have been lost if it fails. Any statutory provision is open to interpretation and by using such broad charging concepts s.75A lends itself to possible interpretations which radically restrict its 7 scope. In short, if HMRC wants to stop the next round of SDLT schemes, then it is likely that it will need to actually use s.75A. The author’s view is that s.75A will indeed be used, in particular because there is no basis for HMRC to ask Parliament for anything wider! So, whilst it may not be impossible to plan aggressively around s.75A that exercise will be both very difficult and very high risk. Before any arrangement is adopted then those risks will need to be spelt out in full to any client. Almost certainly full details will need to be disclosed to HMRC to prevent disclosure assessments, penalties and any accusations of impropriety. Expert advice will need to be taken in individual issues. Conclusions Section 75A is a widely drafted and very powerful mini-general anti-avoidance rule. Provided that HMRC actually uses it, then it is likely to spell the end of most if not all “one size fits all” SDLT schemes. The future of SDLT planning is will be towards bespoke ideas and planning of which HMRC approves. When undertaking it should not be overlooked that aside from s.75A it needs to work as a matter of the general SDLT code, not fall foul of Ramsay and fit with both other taxes and the commercial deal. Other SDLT Changes in Finance Act 2007 Changes to Partnerships Regime Various amendments are made to the SDLT partnerships regime. These remove certain anomalies that were available to be exploited for planning purposes. The changes were originally made in the regulations accompanying the 2006 Pre Budget Report with immediate effect and are being re-enacted again with minor changes, as part of FA 2007. Probably the most important change is that the rules on calculating the sum of the lower proportions in para 12 Sch 15 are amended so that an effective transfer of land to a connected company when that land is transferred to a partnership is chargeable at market value. A new group relief is available, although of course this does not assist companies in common ownership and it is subject to a clawback mechanism. This prevents land being transferred into a partnership consisting mainly of connected companies the shares in which could then be sold. The old anti-avoidance rule contained in para 13 which applied where land was transferred to a partnership consisting wholly of companies is now repealed. Para 14 is now amended so that the transfer of an income share in a property investment (or land dealing) partnership is chargeable even if no consideration is 8 given. After the passing of FA 2007, this will apply even if the transferee is an individual. Group relief is potentially available where the transferee is a company but there is also a charge to ensure that this can be clawed back. The rules on transferring property out of a partnership to a partner or person connected with a partner are also amended. The change is to the calculation of the SLP under para 20 and is broadly designed to mirror that under para 12. However, the result is that the share of partners connected to the transferee is taken account of only if those partners are individuals or the company holds the land as trustee. So, if a partnership of connected companies transfers land to one of the partners then a market value charge arises. However, if a partnership of individuals transfers land to a company which they together control then no SDLT charge arises. An opportunity for planning therefore arises here. Finally, paragraph 36, which it will be recalled sets out when there is a transfer of an interest in a partnership on which the para 14 charge bites, is radically amended. It is now provided that whenever “a person acquires or increases a partnership share there is a transfer of an interest in the partnership (to that partner and from the other partners)”. A “partnership share” is the partner’s right to share in the partnership income at the relevant time: see para 34(2). So, it appears that wherever income shares in a partnership vary then an SDLT charge will arise. This does not apply to trading partnerships as they are excluded from the para 14 charge, which is probably the rationale for the change. In other words, now that trading and professional partnerships are excluded from the para 14 charge the thinking seems to be that there is no need for the complications that were formerly contained in para 36. Other Changes in FA 20079 For the purposes of SDLT reconstruction relief if either the target or the acquiring company holds any of its own shares prior to the acquisition these are treated as cancelled and effectively disregarded for the purposes of the “mirror image” shareholding test. See clause 73(3) FB 2007. The definition of “exempt interest” is extended to include the lender’s interest under an alternative finance arrangement so that there is equality of treatment with a lender’s interest under a conventional mortgage. See further Cl 74 of FB 2007 introducing the new s.73B. The rules on exchanges are modified so that exchanges between connected persons are no longer linked transactions. See Cl 75. The social housing reliefs are extended to give equivalent treatment to that currently given to shared ownership leases to shared ownership trusts created using 9 All of which have effect from Royal Assent of FA 2007. 9 commonhold. There is also a minor amendment to the treatment of shared ownership leases. See Cls 76 and 77 FB 2007. For transfers of school land between educational bodies, the relief in the schools’ legislation is abolished and in future SDLT relief will need to be claimed under s.66 FA 2003 (Transfers involving public bodies). Finally, provision is made to enable the government to make regulations granting relief on the purchase of carbon zero homes. The relief will not have effect before 1 October 2012. SDLT and Goodwill On a business sale, SDLT is payable on the price properly allocated to the land: see para 4 Sch 4 FA 2003. HMRC is arguing that on a business sale “goodwill” should be attributed to the land. In HMRC’s terms, “inherent goodwill” is the inherent suitability of land as a business location. “Adherent goodwill” is the goodwill which is built up though the operation of a business at particular premises. That the land valuation must take account of both of these is probably right. However, HMRC goes further and argues that on a businesses sale there is no “personal goodwill” in the sense of the value of the business in excess of the value of its assets. This argument is made notwithstanding the existence of restrictive covenants on the vendors, which is indicative of personal goodwill and the fact that the price attributed to “goodwill” frequently does include assets of the business, such as the intellectual property rights. The correct analysis depends on the individual facts. However, it is suggested that HMRC’s claims as to the extent to which goodwill enhances land value may be frequently be extravagant and that such claims should be resisted. Linked Transactions Transactions are linked under s.108 FA 2003 where they term part of a single “scheme arrangement or series of transactions” between the same parties (or connected persons). Where this rule applies then the transactions are aggregated for the purposes of determining the rate of tax. There is uncertainty as to when transactions will be linked. AG v Cohen [1937] 1 KB 478 remains the sole authority. One situation where the linked transactions rule is in issue is where a residential developer sells multiple units to a single purchaser. It is suggested that the correct test is to ask whether the relevant transaction would have been entered into irrespective of the parties entering into any other transaction(s). So, if the price is discounted dependent upon the purchaser buying other units then the transactions will be linked. On the other hand, transactions entered into on the same day will not be linked provided that each would have been entered into irrespective of the parties entering 10 into any other transactions. That said, where there is a risk of a challenge from HMRC suitable confirmation from the parties should be obtained prior to the transaction. Sub-Sales and Assignments Sub-sales and assignments are of course dealt with together under s.45 FA 2003. A discussion of the basic rules on sub-sales is beyond the scope of this Note. One point to note, which is now common knowledge, is that HMRC accepts “double completion sub-sales” whereby the sub-sale is completed immediately following completion of the original agreement. The completions must take place “at the same time” and HMRC interprets this strictly in terms of seconds or minutes and not within hours or on the same day. Double completion sub-sales are useful where the original purchaser wants secrecy or where the vendor refuses to sub-sell. Sub-sale planning is primarily available to those who can sell without taking possession. Most obviously, this would apply to a land speculator but sub-sale relief may be available to developers, on a sale to an affordable housing provider or perhaps combined with Prudential when the developer sub-sells on to a fund, and to anyone who acquires excess land which they will not keep. Sub-sale relief is also used as the basis for planning. The problem is that the original purchaser (“A”) and the sub-purchaser (“B”) will typically be connected and s.45(3) charges the consideration given by A as part of the consideration given by B. That said, the statute is not well drafted and it is possible to argue that if B is chargeable on the consideration given by A then a double charge arises where B also pays for the assignment. The better view is that no such double charge arises but nor is there a loophole. Alternatively, if the planning is challenged and the court rejects this view, it is likely that it will prefer the double charge to the loophole. That said, it is certainly arguable that the double charge argument would convince a court that there is a loophole here. It is therefore considered that this kind of sub-sale planning can properly be attempted but clients should be aware of the risk of challenge. SDLT and Developments Introduction The general rule that a developer will pay stamp duty land tax (“SDLT”) on the purchase price which it pays to acquire a site at the rate of 4% is simply stated. However, in practice the SDLT consequences of a development are frequently much 11 less straightforward. The purpose of this part of the presentation is to explore how SDLT applies to development transactions with particular emphasis on areas of potential difficulty. Although SDLT is primarily a concern for developers there are situations in which an unwitting vendor might incur a tax charge. Finally, I will try and identify ways in which the charge to SDLT might be minimised. The Wide Scope of the Charge to SDLT The starting point is that SDLT is a tax on “land transactions”. A land transaction means the “acquisition” of a “chargeable interest”: see s.43(1) FA 2003. Chargeable interest is defined in s.48(1) FA 2003 as follows: (a) an estate, interest, right or power in or over land in the UK; or (b) the benefit of an obligation, restriction or condition affecting the value of any such estate, interest, right or power. The charge to SDLT is intended to be as wide as possible. In my view, a right to be able to direct a vendor to make conveyances of completed units to third party purchasers falls within the definition of chargeable interest under section 48(1)(a). Section 44A FA 2003 (inserted by FA 2004) confirms that a developer acquires a chargeable interest when he acquires right to direct the vendor to make conveyances either to third parties and/or to himself. However, s.44A is unnecessary because such transactions are caught by the general charge in any event. Accordingly, a developer cannot save SDLT by having the vendor make conveyances directly to third parties. A second point to be wary of is that the right to share in the proceeds of sale is a chargeable interest. In Cooper v. Critchley [1965] Ch.433 the Court of Appeal decided that a right to share in the proceeds of sale is an interest in land for the purposes of section 40 Law of Property Act 1925. In Andes Utkilens v. O/Y Louisa Stevedoring [1985] STC 301 Goulding J decided that an agreement to sell premises and divide the proceeds created a trust for sale on the basis that the contract was specifically enforceable. One practical consequence of this is that developers cannot save SDLT by acquiring a right over the proceeds of sale (even if the transaction could be structured commercially so that the developer had no actual right to require the vendor to make conveyances to third parties). A second consequence is that charges may arise where parties pool land in order to develop it under a joint venture, although cf. Jenkins v Brown [1989] 1 WLR 663. 12 Finally, a building licence is outside the scope of SDLT: see s.48(2). However, there is no scope for saving SDLT by arguing that the developer pays money for a building licence because the reality is that the developer is not paying for the building licence but rather the opportunity to profit, one way or another, from the development. (Consideration must be apportioned on a proper basis: see para.4 Sch.4 FA 2003). So a building licence does not save SDLT unless the developer does not acquire a chargeable interest, which would only arise where it is simply paid as a builder. (The developer taking possession under a building licence will of course also trigger substantial performance under section 44(5) (6).) What is the Chargeable Consideration? The starting point is that the developer pays tax on the consideration at the rate of (up to) 4%. If the developer simply pays a fixed cash price then there is nothing further to say. However, frequently the consideration will include one or more of the following: (i) overage payments; (ii) building works; (iii) a leaseback to the vendor of part of the property. Each of the above types of consideration has special rules which apply to it. I will deal with them in turn. Overage Payments Section 51 FA 2003 provides that where any consideration is contingent then the chargeable consideration is calculated on the basis that the outcome of the contingency is that the maximum amount is payable. If the consideration is uncertain or unascertainable then a “reasonable estimate” is used. First, it is useful to define terms: (i) Contingent consideration means consideration dependent upon a future event eg., an additional payment of £5 million if planning permission is granted. (ii) Uncertain consideration means its value depends on future events. Sales overage as a percentage of profits of the future development is a classic example of this. 13 (iii) Unascertained consideration means consideration which is ascertainable but which has not yet been calculated (eg where the consideration is dependent on last year’s profits for which accounts have not yet been drawn up). Typically, overage will be both uncertain and contingent. In that case the proper approach is to determine its value according to a reasonable estimate on the basis that it is uncertain. If the overage formula contains a cap this dos not override the need to make a reasonable estimate (s.51 is not a re-enactment of the stamp duty “contingency principle” under which either a maximum or a minimum figure might be taken as the correct amount). Having made a reasonable estimate as to the likely overage the developer has a choice. Either it can pay the tax or apply to defer payment of the tax in accordance with s.90 FA 2003 and Part 4 of the SDLT (Administration) Regulations 2003/2837. An application must be made within 30 days, the same time as the land transaction return must be delivered. The tenor of the Regulations is that deferral applications will not normally be referred unless the deferral provisions are being exploited for tax avoidance purposes. Deferral is only possible where at least part of the overage is or may be payable 6 months after the effective date. When the consideration becomes known because the overage is qualified then a further return is required under the Regulations within 30 days together with the tax payable: see Regulations 12 and 24. Time runs from when the amount is ascertained, not when it is paid. If the developer does not defer payment of the tax and the overage turns out not to be payable then he may apply for a refund under s.80 FA 2003. Alternatively, if the overage payable exceeds his original estimate then he must pay the additional tax, again under s.80. Building Works Are the Building Works Consideration? The first issue with building works is to determine whether or not they are consideration for the purchase. Sometimes this is straightforward: for example, if a developer agrees to build a new building to be occupied by the vendor this is consideration. An interesting area is “infrastructure works”. Suppose that the developer agrees to construct an access road to service both the completed dwellings and the unit to be occupied by the vendor, is this consideration? The answer is that it is consideration to the extent that it benefits the vendor and an apportionment calculation must be made: see paragraph 4 Schedule 4 FA 2003. Where there is overage payable the construction of the development itself is not consideration unless 14 excessive overage representing more than the original land value is payable: cf CCE v Latchmere Properties [2005] STC 731. What is the Value of the Works as Consideration? The value of the works is taken to be the amount that would have to be paid in the open market to carry out the works: see paragraph 10(3)(b) Schedule 4. This amount includes any VAT that would be chargeable on those works. Is the Value of the Building Works Relieved under Paragraph 10 Schedule 4? The value of the building works does not count as chargeable consideration under paragraph 10 provided that: (1) the works are carried out after the effective date; (2) the works are carried out on land acquired under the transaction or on other land held by the developer; and (3) the works are not carried out by the vendor or a connected person. In practice (2) is the most important condition. A particular issue which arises is whether the building works exemption remains available when the works are to be carried out on land which is to be leased back to the vendor, thereby triggering a charge under the exchange provisions discussed in the next section below. The better view is that the benefit of paragraph 10 does remain available but there is some uncertainty here. Finally, it is sometimes asked whether the building works exemption is affected by Prudential v. IRC [1993] 1 WLR 211. The answer is that Prudential, discussed further below, is something separate. However, where a separate build contract is used market value must be paid for the bare land otherwise it might be said that the build contract, with its exaggerated profit, is consideration for the land. Transfer of Land to Vendor Part of the consideration taking the form of land being transferred to the vendor occurs most frequently in “mixed-use developments” where the vendor receives a leaseback of a completed commercial unit. This has the effect of bringing the exchange provisions into play with the result that each party is now taxed on the market value of what it receives: see section 47 and paragraph 5 Schedule 4 FA 2003. 15 This trumps all the other rules governing consideration. In practice, of course, as this is an arm’s length deal the best evidence as to market value is what the developer pays. HMRC accepts that the market value of the purchaser’s interest is reduced by the value of any leaseback provided that the leaseback is agreed at the outset. However, there are practical consequences. First, there is no ability to defer payment in respect of overage because the overage no longer forms part or the chargeable consideration. Secondly, however, it may be that the developer’s market value is less than the total purchase price plus overage. HMRC may of course challenge any market value. Thirdly, if the value of the building works effectively now counts as chargeable consideration then the SDLT charge is increased. However, in my view this is not the case and paragraph 10 continues to apply. Advising Vendors – Avoiding Double Charges to Tax SDLT is, of course, primarily payable by the developer. However, there are situations where the vendor could also find itself chargeable to SDLT. One is where a vendor takes a leaseback of a new commercial unit on a mixed use development, as discussed in the previous paragraph. The vendor may be able to save SDLT by granting a prior lease to a nominee, if that is possible, but note that the developer will lose the benefit of the building works exemption in this event. A second example where a “vendor” might be chargeable to SDLT is where joint vendors pool land and agree to share the proceeds. The non-developer is arguably chargeable to SDLT to the extent that he acquires rights to share in the proceeds of sale of the developer’s land. The developer is very likely chargeable in respect of the additional profit share which he acquires (and the building works exemption is not available because it is building on the vendor’s land). It might be thought that the retention of easements and covenants by a vendor is outside the scope of SDLT. However, section 43(3)(a)suggests otherwise by providing that the acquisition of a chargeable interest includes a creation. The better view is that the retention of easements and covenants by a vendor is outside the hope of SDLT and HMRC is known to accept this. Timing of the Charge to SDLT The general rule of course is now that SDLT is payable on the earlier of substantial performance or completion. As regards substantial performance, the developer taking possession of part of the site will not amount to substantial performance of the whole (provided that only one conveyance is made of the whole). If completion takes place in stages then each conveyance triggers a charge to SDLT because each completion is a land transaction. Where completion is to take place in stages, payment of 90% of the total purchase price will amount to substantial performance of every phase. 16 SDLT Issues Concerning Choice of Development Vehicles and Joint Venture Structures Where developers acquire a site as co-owners then they are treated as joint purchasers for SDLT purposes: see s.103 FA 2003. No additional charge arises. The analysis remains the same if one developer acquires the land as bare trustee on behalf of himself and the other joint venturers: see paragraph 3 Schedule 16 FA 2003. Where land is partitioned following completion of the joint venture according to the interests of the parties then no SDLT will be payable unless equality money is paid: see especially paragraph 6 Schedule 4 FA 2003. On a partition note the need to be able to claim group relief if land is transferred to a connected company to avoid a market value charge under section 53 FA 2003. It is important that a partnership is not created (or at least not inadvertently). The test is the general law one of whether a business is being carried on in common with a view to profit. If a partnership is created then charges may arise when land is transferred to or from it by a partner under paragraphs 10, 13 and 18 Schedule 15 FA 2003. Even if there is a partnership no additional charge arises provided that land is purchased by the partnership and is not subsequently partitioned between the partners. More generally, where land is pooled by joint venturers then there is the risk of an SDLT charge either under the partnerships regime or the general charge. Where possible the better course is for joint venturers to acquire the land together. Planning Agreement Issues Transfers of land pursuant to section 106 agreements are specifically exempted under s.61 FA 2003. The Inland Revenue also accepts that no charge arises in relation to transfers of highways, apparently on the basis that there is no consideration for such a transfer. This analysis is dubious because if there is no consideration in a grant of planning, why is section 61 needed? If a planning right is consideration (as s.61 assumes) then this raises the question of whether a planning right is itself a chargeable interest so that the developer is chargeable on any consideration given for it. Frequently, the developer will carry out works on his own land (e.g. building a community centre) so that the benefit of the building works exemption in para.10 Sch.4 is available. However, if the land is then transferred to the local authority there is no exemption for the land element. HMRC’s view is apparently that there is no consideration here on the basis that the developer does not want to retain the land: the SDLT Manual para.22505. What about the situation where the developer agrees to make a cash contribution? The answer here is that a planning right is not a chargeable interest and HMRC takes this view. 17 Minimising the Charge to SDLT for Developers Introduction There is no magic solution for developers to save SDLT. SDLT has largely been designed to prevent tax planning. Particular difficulties for developers have been dealt with above and I will not repeat them here. Moreover, however large the SDLT charge is it is only ever 4% of the purchase price so there is a limited incentive to save tax. Any SDLT saving must be assessed in the light of other taxes and the commercial impact. This section is concerned with SDLT saving ideas specific to developers. A developer might also consider any of the general planning ideas discussed later. On the other hand, tax planning may also be “defensive” in the sense of saving unnecessary charges rather than trying to avoid paying any tax at all. Saving SDLT will, as with other taxes, become increasingly transaction-specific and it may be that the facts of a particular transaction enable tax to be saved. Finally, saving SDLT is something which vendors might also be giving thought to: the best way of saving SDLT remains to sell shares in an SPV. I will deal with some specific topics relevant to planning in turn. Planning for Developers: Saving SDLT on Site Acquisitions Unlike under stamp duty, it is hard for developers to save SDLT on site acquisitions. It is not possible to rely on sub-sale relief because taking possession, even under licence, amounts to substantial performance: see esp. s.44(6). A second problem is the width of the definition of chargeable interest because most developers will want rights over land (the right to compel a sale and to share in the proceeds) and will not be content to be paid as builders. A third problem is the introduction of s.75A. Joint Venture: Developer Acquires Undivided Share One suggestion is for the developer and the landowner to enter into a joint venture agreement whereby the developer acquires an undivided share in the land (say 60%) in return for cash and agreeing to build the development. The developer is chargeable to SDLT on the cash. However, the value of the building works is exempt consideration under para.10 Sch.4 FA 2003. The developer and the landowner then share the sale proceeds. There are difficulties with this approach. First, the landowner will have to wait to receive most of the sale proceeds. Secondly, the landowner will have income profits and so may be unwilling to agree to this if it wants capital treatment. 18 Developer Acts as Builder and Landowner’s Marketing Agent Another suggestion is to have the developer paid for undertaking the development and for marketing the properties without it acquiring any interest in the land. The difficulty here is in ensuring that the developer does not acquire a chargeable interest in land. If the developer has the right to direct the landowner to make conveyances to third parties then this is the acquisition of a chargeable interest: see s.44A FA 2003. A right to share in the proceeds of sale under a specifically enforceable contract for the sale of land is also a chargeable interest: see Anders Utkilens v. O/Y Stevedoring [1985] STC 301. Accordingly, the developer cannot be given the right to direct the vendor to make conveyances and then to share in the sale proceeds. Again, this arrangement will result in the landowner having trading profits. It also works much better if the developer does not make a large up-front payment. A major advantage of this arrangement is that it does not trigger s.75A and it is considered that it will be popular over the next few months. Options Planning A third suggestion is that perhaps the developer buys an option to acquire the land for its current market value for £1. It also enters into a lease in consideration of a small amount of cash and it agreeing to build the development on the site. The developer pays SDLT on the cash but not on the value of the works as these are exempt consideration under para.10 Sch.4 FA 2003. Third party purchasers of the units then buy completed units by acquiring the rights of both the landowner and the developer in each unit. If the landowner refuses to sell then the developer exercises its option, albeit that it must now pay SDLT. Again, this arrangement will result in the landowner having income profits. Sub-Sale Relief Where land is sub-sold prior to substantial performance than no SDLT charge arises by virtue of section 45(3) FA 2003 (or section 45A). Advantage may be taken of this where a developer acquires a large site and then sub-sells part to another developer (e.g. a social housing provider) prior to completion. Part Exchange Relief If a housebuilder acquires the former main residence of a purchaser of one of the new units then no SDLT is chargeable on that transaction: see paragraph 1 Schedule 6A FA 2003. 19 Charities Relief Housing associations are often charities and so relieved from tax under Schedule 8 FA 2003. Sale of Shares in Company The best way to save SDLT remains to sell shares in an SPV company which owns the land. Stamp duty will be chargeable at the rate of 0.5% unless the company is incorporated outside the UK and the documentation executed abroad. The government promised to charge sales of land rich companies to SDLT but no charge has yet been introduced. In practice, the major problem is the 3-year group relief clawback. Separate Sale and Build Contracts Prudential v IRC [1993] 1 WLR 211 remains good law for SDLT. Instead of agreeing to buying a completed building in a new build situation the purchaser saves SDLT by acquiring bare land and entering into a separate building contract with the developer. SDLT is then limited to the land price. It does not matter that the contracts are negotiated together and form part of a single commercial deal. The key to Prudential is that the land sale must be completed irrespective of completion of the works contract. So, default on the works contract cannot prevent completion of or reverse the land sale. It does not matter that the performance of both contracts might be dependent upon planning. Ideally the land sale should be completed before the works commence. However, that is not essential provided that the land sale will complete irrespective of the works. Some Pitfalls Finally flip-side of SDLT planning is to ensure that the taxpayer does not fall into unexpected traps. Issues to beware of include the following. First, the amendments to acquisition relief which mean that SDLT is now chargeable at market value on the partition of an investment business which owns property. This is a dangerous point because there is a CGT relief and until FA 2005 there was a corresponding stamp duties relief. Secondly, note that the market value rule applies wherever land is transferred to a connected company (unless by a partnership) even though there is no intention to sell 20 the shares to save SDLT. incorporation of a business. Again, contrast the CGT roll-over relief on the Thirdly, on the assignment of a lease the assignee should ensure that no charge asks under para. 11 Sch. 17A owing to group relief having been claimed on the grant of the lease. The assignee will also take over the obligations under the SDLT compliance regime. It will therefore need to obtain the appropriate records. Fourthly, substantial performance accelerates the tax charge (and the compliance obligations) even when there is no intention to avoid tax. A fit out will typically trigger substantial performance. Finally, beware anything to do with partnerships. The SDLT partnerships regime is a terrible piece of legislation. Note also that HMRC takes some strange “interpretations” of Schedule 15. Some of these are favourable to taxpayers. Others, such as that properly owned by one partner and used by the partnership, for example under a Harrison-Broadley v Smith arrangement, is partnership property for SDLT purposes, are not. A major practical difficulty is that frequently the professional time required to advise properly on the application of the SDLT partnerships regime will be totally disproportionate to the amount of tax at stake. Michael Thomas 17 April 2007 21