Plant and machinery leasing - Anti-avoidance: Long funding lease rules: Disposal values: lessor disposal value on the grant of long funding lease
Leases commencing before 1 April 2006
Prior to the introduction of the long funding lease rules the lessor, as legal owner of the plant or machinery, had the entitlement to capital allowance (section 11 CAA 2001).
Leases commencing on or after 1 April 2006
Following the introduction of the long funding lease rules, where there is a long funding lease arrangement the lessee is deemed to own the plant or machinery and is entitled to claim capital allowances on their capital expenditure on the provision of that plant or machinery, calculated under sections 70B and 70C CAA 2001 as appropriate, subject to the lessee making a tax return on this basis (section 70H CAA 2001).
The lessee’s entitlement to claim capital allowances on entering into a long funding lease means that it is necessary to bring a disposal value into the computation of the asset owner, if they had incurred qualifying expenditure on the asset.
This is the case whether or not the lessee has elected to treat the lease as a long funding lease and claim the capital allowances.
Section 61 CAA 2001 was amended with the introduction of section 61(1)(ee) CAA 2001 to include a disposal event when the plant or machinery begins to be leased under a long funding lease. This was to ensure that there were no double claims to capital allowances in respect of the same plant or machinery.
Leases commencing before 13 December 2007
However, some lessors entered into arrangements with the aim of reducing the disposal value that was brought into account on the grant of the long funding lease.
Before 13 December 2007 section 61(2) CAA 2001 gave the disposal value for the lessor on the commencement of a long funding finance lease as the lessor’s net investment in the lease in accordance with GAAP, on the date on which that net investment in the lease was first recognised in the financial records of the lessor.
Note: under normal practice accounts would be drawn up at the end of the day.
The arrangements seen claimed that the net investment in the lease was reduced by the following:
- a large premium was paid for the grant of the lease and the rentals charged were consequently lower. The lessor’s net investment in the lease then only reflected the lease rentals outstanding.
- an advance payment of rentals was made on the first day of the lease (a day one payment) so that the net investment in the lease at the end of the day when the lease was first recognised in the accounts of the lessor would not reflect the amount paid during the day.
- the lessor borrowed funds on a non recourse basis in order to fund the purchase of the leased asset so that their net investment in the lease was reduced by the amount of this borrowing.
- the lessor company issued share capital, which in accordance with GAAP was accounted for as a liability of that company, so reducing the net investment in the lease by the amount of that liability.
- the lessor company financed the purchase of the leased asset by pre-selling the lease rental stream from the asset so their net investment in the lease only included the remaining rentals to which the lessor remained beneficially entitled.
Details of the amendments made to legislation to address these various types of disposal value avoidance are set out in the following sections. See BLM62205 for page references.