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HMRC internal manual

Business Income Manual

HM Revenue & Customs
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Meaning of trade: badges of trade: supervening trade

The way in which an asset was acquired must be considered. If it is by gift or inheritance it will be difficult, although not impossible, to show that a subsequent sale is by way of trade.

If the asset were acquired by purchase the circumstance, for example the market in which it was bought or the correspondence leading up to purchase, may tend to show either that it was being bought for resale or that it was wanted for private use or as an investment.

If an asset acquired as a capital asset, for example by gift or inheritance, is later sold at a profit you can only succeed in taxing that profit as a trade profit if you can show that, at some point before sale, the asset became trading stock of a trade. This is the concept of supervening trading. The point is considered specifically in relation to land at BIM60060.

Megarry J expressed the concept most clearly in Taylor v Good [1974] 49TC277 at page 287E:

‘Even if the house was purchased with no thought of trading, I do not see why an intention to trade could not be formed later. What is bought or otherwise acquired (for example, under a will) with no thought of trading cannot thereby acquire an immunity so that, however filled with the desire and intention of trading the owner may later become, it can never be said that any transaction by him with the property constitutes trading. For the taxpayer a non-trading inception may be a valuable asset: but it is no palladium. The proposition that an initial intention not to trade may be displaced by a subsequent intention, in the course of the ownership of the property in question, is, I think, sufficiently established…’

An argument that there has been a change of intention, if it is to succeed, must be demonstrable.

It may be difficult to distinguish between actions that show a change of intention and those which merely serve to maximise the asset’s realisable valuable as a capital asset. Sometimes the documentation connected with the transaction will show that the person formed the intention of setting up a trading venture and contributed the asset to that venture.

However, if such overt indications are not present, the inference of change will have to come from other sources. These other indications of a change of intention will depend on the nature of the asset and may well be physical.

For example, work done on the asset may help the inference. The approach to the problem should include the application of the ‘badges of trade’ to the circumstances before and after the alleged change to help demonstrate:

  • that a change has or has not in fact taken place, and, if it has,
  • the date of the change.

The owner of an asset will sometimes make the assertion of a change of intention. This may be part of a contention that a capital asset has been appropriated to trading stock, or vice versa, in order to crystallise a trading loss, a capital loss, or to convert a capital loss into a trading loss. The difficulties of establishing that there has been a change of intention are as great for the vendor as for HMRC and it may be appropriate to question the assertion.

Supervening trading, as with all questions of trading, requires an investigative approach and a firm view should only be taken once all the facts have been found. Guidance on the practical approach is at BIM20080 onwards.

Supervening trading has possible CGT effects. This depends on the nature of the asset and whether or not a gain on disposal would be within the scope of that tax. There could be a deemed disposal for CGT purposes at the moment the appropriation takes place and this will have implications for valuation of the asset and the allowable expenditure for trade purposes, including pre-trading expenditure (see BIM46350 onwards).

Supervening trading for profitable transactions is usually only worth pursuing if the amounts involved are substantial and there is evidence of a clear change of intention.