CG71170 - Short leases: disposal: lease subject to sub-lease not at rack rent
CGA92/SCH8/PARA1 (2)
If
- a lease is subject to a sub-lease at the time that it is acquired, and
- the sub-lease is not at a rack rent (a full market rent),
the lease may not become a wasting asset until the sub-lease ends.
This is because the value of the lease, whilst the sub-lease continues, is depressed by the low rental payable under the sub- lease. Hence its value will not waste away in the manner envisaged by the table in TCGA92/Sch 8/Para 1.
In such a case, a special rule applies if the value of the lease at the time when the sub-lease comes to an end, estimated at the time that the lease is acquired, will exceed the cost of the lease.
The special rule is that the lease does not become a wasting asset for the purposes of TCGA92/Sch 8/Para 1 until the sub-lease comes to an end.
This means that:
- if the lease is disposed of before the sub-lease comes to an end, no reduction in the allowable expenditure is made under TCGA92/Sch 8/Para 1 (4), see CG71141;
- if the lease is disposed of after the sub-lease comes to an end, the period of ownership, see CG71141, for the purpose of TCGA92/Sch 8/Para 1 (4), begins on the date that the sub-lease ends.
Where, under TCGA92/S35, the lease is deemed to have been disposed of and reacquired at 31 March 1982, see CG16700C, the above rules will apply if the relevant conditions are satisfied on that date, even if the lease was not subject to a sub-lease at the actual date of acquisition.
The following example illustrates how this rule applies in practice.
Example
Mr M acquired a 45 year lease of a property on 31 March 1980 in return for the payment of a premium of £30,000. On 31 March 1981 he granted a 10 year sub-lease of the property, at less than a rack rent, in return for a premium of £20,000.
On 31 March 2013 he disposed of the lease, which then had 12 years left to run, for £25,000.
The Valuation Office Agency valued the lease, subject to the sub-lease, at £22,000 at 31 March 1982 and, taking account of the factors known at 31 March 1982, at £30,000 at 31 March 1991 (the date on which the sub-lease ended).
Mr M had made an election under TCGA92/S35 (5) and therefore no ‘kink test’ comparison was required.
- Since the lease is deemed to have been disposed of and reacquired on 31 March 1982, Mr M’s period of ownership began on that date, see CG71141, for the purposes of TCGA92/SCH8/PARA1.
- The conditions set out above are satisfied at 31 March 1982 since the sub-lease was worth more at the date on which the sub-lease ended than it was at 31 March 1982. Hence, the lease did not become a wasting asset until the sub-lease ended.
The gain arising on the disposal of the lease is calculated as follows:
Value of lease at 31 March 1982 = £22,000
Amount to be excluded:
[ ( P(1) - P(3) ) / P(1) ] x expenditure otherwise allowable under S38(1)(a)
P (1) is the percentage derived from the table in TCGA92/Sch 8/Para 1 (6) for the duration of the lease at the beginning of the period of ownership;
P (3) is the percentage derived from the table in TCGA92/Sch 8/Para 1 (6) for the duration of the lease at the date of disposal.
= [ (91.156 - 53.191) / 91.156 ] x £22,000
= £9,162
Allowable expenditure:
Value of lease at 31 March 1982 £22,000
Less amount of expenditure to be included £9,162
= £12,838
Chargeable Gain
Disposal proceeds £25,000
Less allowable expenditure £12,838
= £12,162
Valuation
If it is thought that the rule above applies, and in particular if the taxpayer contends that it applies, you should refer the matter to the Valuation Office Agency. No special form is provided but a form CG20 (New) should be used, along with a covering memo explaining:
- why the valuation is required; and
- that the Valuation Office Agency should make the valuation on the basis of the factors which would have been known at the date of acquisition, or deemed acquisition, of the lease.
Copies of both the lease and the sub-lease should be sent to the Valuation Office Agency along with the valuation request.