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HMRC internal manual

Business Leasing Manual

From
HM Revenue & Customs
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Taxation of long funding leases: long funding finance lessors: example of rental earnings other than finance charges

Example

When a finance lease comes to an end, the lessee benefits from the value of the plant or machinery. For example, assume a finance lease comes to an end early, at a point when

  • the lessor’s net investment in the lease is £100,000, and
  • the market value of the plant or machinery is £120,000
  • and that, under the terms of the lease
  • the lessee is required to pay a termination rental equal to the lessor’s remaining net investment in the lease,
  • the lessee is entitled to receive a rental refund equal to the full value of the plant or machinery up to the lessor’s net investment in the lease plus 95% of the excess of the value of the plant or machinery over the net investment in the lease at the end of the lease.

So here there would be a termination rental of £100,000 and a rental refund of £119,000.

In practice the lessee may just receive a rental refund of £19,000.

The termination rental, or a combination of the sale proceeds and termination rental, will reduce the lessor’s net investment in the lease to nil.

In this example, £100,000 of the sale proceeds of £120,000 will be used to reduce the lessor’s net investment in the lease to nil. Of the excess of £20,000 the lessor will refund of £19,000 to the lessee. The difference of £1,000 will be reflected in gross earnings and so will be taxed as rental earnings under ICTA88/S502B.

The underlying accounting entries that give rise to gross earnings may show both the £20,000 and the £19,000 or just the net £1,000. But, whichever is the case, only the net £1,000 will be credited in the profit and loss account.

See also BLM410130 regarding the treatment of the £19,000 refunded to the lessee.