Plant and machinery leasing - Anti-avoidance: Long funding lease rules: Disposal values: Lessor disposal value reduced by pre sale of the lease rental stream
Leases commencing on or after 1 April 2006
In some cases lessor companies would finance the purchase of the plant or machinery to be leased by pre-selling some, or nearly all, of the rental stream to be received from the lease. The lessor’s net investment in the lease was therefore restricted to the present value of the rentals to which the lessor remained beneficially entitled.
The lessor enters into agreement to lease plant or machinery to the lessee. The lessor then sells the rights to the majority (say 99%) of the income due under that lease before it commences, and the cash it receives is then used to purchase the plant or machinery which it then uses to fulfil the lease commitments. This should ensure that:
- the lessor receives a lump sum that is commercially equivalent to the loan, and
- that as the right to almost all the income is sold the lessor’s net investment in the lease is very substantially reduced, to say 1%, of the expected income.
This analysis was on the basis that GAAP requires the net investment in the lease to be quantified at commencement of the lease term. As the lease does not commence until the asset is provided, and the right to lease rentals were already sold before that date, the net investment in the lease would only represent the present value of the rental income beneficially retained by the lessor.
To prevent continued manipulation of the net investment in the lease in this way the method of reaching the disposal value for disposals within item 5A of the table at section 61(2) CAA 2001 was amended, avoiding reliance on an accounting concept.
Leases commencing on or after 13 November 2008
The disposal value on the grant of a long funding finance lease, for leases incepted on or after 13 November 2008, is the greater of:
- the market value of the plant or machinery at the commencement of the term of the lease, or
- the qualifying lease payments.
The qualifying lease payments (QLPs) as defined in section 61(5A) CAA 2001, means the minimum payments under the lease including any initial payments (this covers premiums as well as day one or advance payments) but excludes:
- the finance charge element of the lease rentals (this is the amount treated as the gross return on the investment in accounts prepared in accordance with GAAP).
- any amount included in the lease rentals in respect of services provided by the lessor, and
- any amount paid to the lessor representing qualifying UK or foreign tax. Qualifying tax is corporation tax or income tax.
The amount of the qualifying lease payments should be clear from the lease documentation. If the lease is later altered or varied then this has no effect on the QLPs which are calculated at the date the lease commences.
If a disposal value is based upon market value or the qualifying lease payments and a premium is paid under the lease then the legislation at sections 785B-E ICTA 1988 or section 809ZA ITA 2007 does not apply to tax the amount of the premium brought in as part of the disposal value as the lessor’s income.
Sections 785C(9A) and 809ZB(9A) ITA 2007 act to restrict the “relevant” part of the capital payment only to the extent to which it exceeds the disposal value.
Accounting periods ending on or after 1 April 2010 tax years 2010-11 onwards
For accounting periods ending on or after 1 April 2010, and for tax year 2010-11 and subsequent tax years the legislation at sections 785B and C ICTA 1988 was rewritten to sections 890-894 CTA 2010.