Last month a high court judge ruled that, for the purposes of inheritance tax, all let property is classed the same and despite the fact that the owner may deal with weekly (or more frequent) changeovers, be cleaning, gardening, doing repairs and constantly on hand to deal with customer queries and requests then it is still classed an investment, not a business.
The court case concerned was the Pawson case and it arose because of the peculiar way the inheritance tax legislation is phrased and the fact that H M Revenue & Customs aren’t sure how to treat holiday accommodation properties.
Prior to 2008, HMRC thought such properties qualified for relief from inheritance tax as business property. Then they decided that the owner must provide a substantial level of services. This was disputed and the family of Mrs Pawson (deceased) took HMRC to a first tier tribunal which decided that HMRC were wrong in their change of interpretation. HMRC appealed to the upper tribunal (formerly the High Court where Justice Henderson ruled in favour of HMRC – but still disagreed with their interpretation of the rules).
The first tier tribunal had said that "an intelligent businessman would not regard the ownership of a holiday letting property as an investment as such and would regard it as involving far too active an operation". By contrast, Justice Henderson in the upper tribunal said "the need to find new occupants is on any view an activity which falls on the investment side of the line".
And that is the issue. If you have a complex of several letting units with a swimming pool, a children’s play area and a games room then on the basis of the latest decision, the property will be liable to inheritance tax at 40% on a death. The tax bill will be so large that the business would not be able to finance the liability arising. Therefore if the worst happened, the business would have to be sold.
Such businesses should support an appeal against this decision and whilst it is hoped that the Pawson family will appeal and the courts support such an appeal, that is by no means certain. In the meantime, or if there is no successful appeal, then what should owners be doing?
Well there are some sensible actions that could be considered. It is important to make sure that wills are up to date and married couple owners are in a better position because of the spouse exemption on the first death. Early consideration of passing a business on to a younger generation will be important and owners should consult their professional advisers. Otherwise, increasing life assurance cover for death duties is probably the best course of action for those young enough to be able to get affordable premiums.
Succession planning will be key. For properties that do not qualify for business property relief then capital gains tax is often a barrier to gifting, but that should not be the case with furnished holiday lets that meet the qualifying day count limits of being available for 210 days a year and actually let for 105 days. A benefit of those rules is that a gift relief is available for capital gains tax purposes such that no tax liability would arise on the gift.
However, there are caveats. Tax rules, can, and do, change. If such properties do not qualify for inheritance tax relief then they are exposed to a future change in the rules that could remove the capital gains tax relief – as part of a "simplification." Further, it may not be possible for some owners to pass on properties early because they continue to need the income from the properties into their later years. So, succession planning is not without its limitations.
Providing additional services is unlikely to help in view of the nature of the decision and the categorisation of such properties. Based on the reasoning of Justice Henderson it would be necessary to expand the other activities until the accommodation became only part and parcel of an overall experience. Such as living on a "working farm" and helping with the duties, or being on a nature weekend. That isn’t the experience that those looking for self–catering holiday accommodation are mostly after, so isn’t much help. It does however, hopefully mean that farms and hotels providing accommodation are probably safe from attack, but even then there are VAT issues to consider.
An appeal against this decision deserves the support of those who want to protect the vital self catering accommodation element of our tourist industry and the role it plays in the wider South West economy.