Statement of Practice 3 (1991)
Published 11 April 1991
© Crown copyright 1991
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1. This statement sets out the view of the Commissioners for Her Majesty’s Revenue and Customs (HMRC) of the correct treatment, for tax purposes, of rentals payable by a lessee under a finance lease. That view reflects advice the Commissioners for HMRC have received on the application of the correct principles of commercial accounting and relevant case law. The statement sets out what will be HMRC practice in applying tax law to rentals payable under a finance lease, in cases where Statement of Standard Accounting Practice (SSAP) 21 has not or has been applied.
A. Cases where SSAP 21 is not applied
Accounting treatment
2. The Commissioners for HMRC are advised that finance lease rentals are revenue payments for the use of the asset over time and, in accordance with the correct principles of commercial accounting, should be allocated to the periods of account for which the asset is leased under the ‘accruals’ concept.
3. Where a lease provides not only a primary period (ie, the period over which the lessee initially contracts to lease the asset), but also secondary periods (ie, periods for which the lessee has the option to continue to lease the asset), then in determining what are the periods of account to which the rentals are to be allocated regard should be had not only to the primary period but also to the economic life of the asset and its likely period of use by the lessee.
Tax treatment
4. The Commissioners for HMRC are advised that for tax purposes, the rentals are deductible in computing profits on the same basis as they are correctly allocated to the periods of account under the accruals concept.
5. There is no entitlement to deduct the rentals for tax purposes, merely by reference to the due dates of payment.
HMRC practice
6. Inspectors of Taxes will normally be prepared to accept, for tax purposes, the lessee’s accounting treatment of rental payments where that treatment is consistent with the accounting principles described at paragraphs 2 and 3 above.
7. Where the lessee’s treatment of rental payments in the accounts does not accord with the basis indicated above, inspectors will seek to negotiate the computational adjustments necessary to secure for tax purposes, an appropriate spreading of the rental payments, in accordance with the accruals concept.
B. Cases where SSAP 21 is applied
Accounting treatment
8. SSAP 21 recognises the transfer of effective ownership of the asset to the lessee who is required to record the lease in the balance sheet, as the acquisition of the asset subject to a loan. The asset is to be depreciated over its expected useful life in the hands of the lessee. Rentals are treated as comprising a finance charge element and a capital repayment element.
Tax treatment
9. Notwithstanding that SSAP 21 requires a proportion of the rentals payable to be treated as capital repayment, the rentals remain in law revenue payments for the use of the asset, and for tax purposes the whole of the rentals should be allocated to the periods of account for which the asset is leased in accordance with the accruals concept.
HMRC practice
10. Where the lessee has accounted for a lease in accordance with SSAP 21 inspectors of taxes will normally accept for tax purposes, that the finance charge element of the rentals allocated to a period of account is deductible in computing the profits of that period.
11. In determining what proportion of the capital repayment element should be allowed for tax purposes in a period of account, inspectors will normally be prepared to accept that the properly computed commercial depreciation of the asset which is charged to the profit and loss account in that period represents the appropriate amount.
12. Where, however, the depreciation charge is not calculated on normal commercial accounting principles then it will not represent the appropriate proportion of the capital repayment element of the rental. In such cases, the inspector will allow such part of the rentals for the period as represents the properly calculated proportion of the capital repayment element which should be allocated to that period in accordance with the accruals concept.
Timing of introduction
13. The practice described in paragraphs 6 to 7 and 10 to 12 above will be applied to leases entered into after the date of this statement, 11 April 1991. See also Inland Revenue Tax Bulletin, Issue 15, February 1995, pages 189 to 193.
Note: the text of this statement is as shown in IR131 (August 2002).
HMRC Manual
Business Leasing Manual
BLM 32210 to BLM 32215: taxation of leases that are not long funding leases: when the finance element of the rentals is deductible.
BLM 32335 (terminal rebate where SP 3/91 has not been applied)