BLM00515 - Introduction: Lease taxation: lease not long funding lease: lessors basis for recognising finance lease income

This manual is being updated to reflect FRS 102 (2024 amendments). For guidance on the tax treatment of accounts prepared under IFRS 16 or the revised FRS 102, please refer to pages within the BLM50000 chapter.

In broad terms the taxation of rentals can be thought of as based on an accruals basis, with the rentals receivable in respect of a particular period being taxed as income of that period.  As such, a finance lessor is taxed on all the rental income it receives even though only the ‘interest’ element is shown as income in the accounts. 

Capital and interest elements 

What this manual refers to as the ‘capital’ element in the rentals is part of what are, for tax purposes, revenue earnings. The gross rentals are only split into ‘interest’ and ‘capital’ elements in an economic sense.  Since the ‘capital’ element is a revenue receipt for the lessor it is necessary to establish the basis on which it should be recognised for tax purposes. 

For the tax treatment of the ‘interest’ element in the rentals, the aim is to follow the accountancy.  As in other situations, the accountancy often provides a ready-made measure of the income for tax purposes - however, in this case, accountancy only provides a measure of part of a finance lessor’s income. 

For the tax treatment of the ‘capital’ element in the rentals, there is no accountancy model which can be followed. Unless the lease is a long funding lease, even though for accountancy purposes it is loan repayment and a balance sheet item, the capital element in the rentals is income for tax purposes. 

Timing 

Where the lease is not a long funding lease (‘LFL’), the following general principles should be borne in mind in connection with the timing of a finance lessor's rental income: 

  • there is no principle of tax law which requires symmetry between lessor and lessee in the timing of rentals; 

  • where the lessor's rentals are chargeable as trading income the rentals should normally all be recognised over the primary period (BLM00620) of the lease (even if the lessee's rental payments would be recognised over a longer period) since normally the lessor's economic stake in the transaction virtually comes to an end at the conclusion of the primary period of the lease; 

  • you should apply whatever method of recognising rental income for tax purposes is in use to all finance leases written by the same lessor and by connected lessors, especially other leasing companies in the same group; in particular, you should resist attempts to adopt different methods of recognition for leases with different rental profiles (whether flat-rate, front-end loaded or back-end loaded). 

Long funding leases 

See BLM20000 for guidance on the timing of the taxation of rentals on long funding leases.

Income into capital schemes and back loaded leases 

You should also be aware of the rules in Part 21 CTA 2010 / Part 11A ITA 2007. These are covered in detail at BLM70000 and counter 

  • arrangements that turn what would normally be the lessor’s rental income into a capital gain 

  • arrangements that deferred the recognition of income for tax purposes, thus producing a mismatch between the commercial accounts earnings and the tax earnings. 

Sale and finance leaseback and lease and finance leaseback 

In addition there are rules that in some circumstances restrict the taxable element of a finance lessor’s income in the case of a sale and finance leaseback and lease and finance leaseback, see CA28000 and CA28900 onwards. 

Further details are at BLM33015.