Plant and machinery leasing - Anti-avoidance: Long funding lease / Non-long funding lease interaction: Financial concerns dealing in long funding leases
Transactions involving long funding leases were undertaken by businesses whose trades consisted of dealing in financial assets, including income streams which were held on trading account, in other words ‘financial concerns’. These arrangements involved the purchase of plant or machinery which was then leased out on a long funding lease.
The financial concern claimed to have acquired this plant or machinery on trading account. Consequently, the rules removing the right to capital allowances from a lessor under a long funding lease had no effect because all of the expenditure on the purchase of the plant or machinery was claimed as a trading deduction.
It should be noted that whether the asset is in fact bought on trading or capital account is a matter of fact and will have to be considered on a case by case basis.
The aim of this was to create a mismatch under which -
- the leased plant or machinery is acquired on trading account and the cost of the plant or machinery is claimed in full as a trading deduction, but
- the taxable income is received under a long funding lease so was restricted under sections 502B - G ICTA 1988 (or sections 148A - F ITTOIA 2005) to the interest element only,
- this creates an artificial tax loss as a deduction is claimed for the full the cost of the asset but only the interest element of the rental receipts are brought into tax.
A financial concern buys plant or machinery on trading account for 100 in order to enter into a finance lease with a business which will repay the 100 at interest over the term of the lease. The lease is for a term of more than 7 years so it is a long funding finance lease.
Shortly after the financial concern has entered into the lease it sells the right to the rental stream for 99 representing the capital element of the rentals outstanding. As the capital element of the rentals would not be brought into account by the lessor the sale of the right to this amount is not brought into tax as income either. The financial concern may then retain legal ownership of the plant or machinery or it may sell it. What matters is that the plant or machinery is held on trading account and, once the lease rental stream has been sold off, it is worthless. It will generate no further income in the hands of the financial trader and, under the terms of the finance lease, any proceeds from the sale of the underlying plant or machinery are due to the lessee.
The financial asset will therefore be written down to nil (on a mark to market basis) in the financial concern’s accounts. A trading deduction is therefore claimed for the 100 paid for the plant or machinery but only the finance element of the rentals is ever brought into charge to tax.
The treatment of the rental receipts in the hands of the lessor under sections 502B - G ICTA 1988 (sections 148A - F ITTOIA 2005) was only intended to apply in the situation that the owner of the plant and machinery was not entitled to capital allowances because it was leased out under a long funding lease. It is appropriate only in the circumstances that the transaction is in substance a loan.
HMRC take the view that sections 502B - G ICTA 1988 (and sections 148A - F ITTOIA 2005) only applied where the leased plant or machinery is held on capital account.
If sections 502B - G ICTA 1988 or sections 148A - F ITTOIA 2005 are applied where the long funding lease is claimed to be on trading account then please submit the case to CTIAA (CT&BIT).
Expenditure incurred on or after 9 October 2007
Although HMRC do not accept that sections 502B-G ICTA 1988, or sections 148A-F ITTOIA 2005, applied where a deduction was available on trading account the position was put beyond doubt by legislation at sections 502GA and 502GC ICTA 1988 and sections 148FA and 148FC ITTOIA 2005.
For expenditure incurred on plant or machinery after 9 October 2007, or where a company claims a deduction for plant or machinery forming part of its trading stock after that date, sections 502GA ICTA 1988 (section 148FA ITTOIA 2005) then applied to prevent sections 502B-G ICTA 1988 (sections 148A-F ITTOIA 2005) from applying. If a trading deduction was claimed in respect of the plant or machinery leased on a long funding lease then any lease rentals received and any sum received for the sale of the lease rental stream were taxed in full.
If sections 502B-G (or ITTOIA equivalent) had already applied, and a deduction on trading account arose subsequently, then any amounts to be taken into account in calculating the profits or losses of the company are subject to such adjustments as are just and reasonable. These adjustments can be made by assessment or by adjustment of assessments already made.
Wider anti-avoidance legislation (at sections 502GC ICTA 1988 and sections 148FC ITTOIA 2005) was also applicable where the main purpose, or one of the main purposes, of the arrangements of which the long funding lease forms a part, was to create a tax loss where there was no commercial loss. The difference between the tax loss and the commercial loss has to be attributable wholly or partly to the application of sections 502B-G ICTA 1988 or sections 148A-F ITTOIA 2005.
Accounting periods ending on or after 1 April 2010
The legislation at sections 502B-G ICTA 1988 has now been rewritten to sections 360-369 CTA 2010 and the legislation at sections 502GA-GD ICTA 1988 has now been rewritten to sections 370-376 CTA 2010.