Leasing businesses should
consider if a recent case affects their view as to whether they are
trading and if there are any steps they can take to protect their
position, says Judy Harrison
The First-Tier Tribunal in
Samarkand Film Partnership No.3 v HMRC (2011) has
held that a film leasing partnership was not trading. The question
of whether an equipment lessor is trading is important because it
allows the lessor to surrender any tax losses it makes (for
example, as a result of claiming capital allowances, the tax relief
available in the UK for depreciation, on its equipment) and to
receive surrenders of losses from other companies in the lessor
group to reduce the lessor’s taxable profits. This decision affects
lessees as well as lessors because of the risk-sharing provisions
in the lease documentation.
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The
facts
Two Jersey partnerships were
created by Future Capital Partners. Future identified leasing
opportunities for the partnerships and negotiated the terms of the
leases. Once the leasing arrangements had been agreed in principle,
individuals would borrow and invest in the partnerships and the
partnerships would acquire the films and lease them back. The
partnerships claimed tax relief for the cost of buying a film.
The trading
question
The tribunal found that the
partnerships were not trading. They reached this conclusion by
looking solely at the partnerships’ activities. The individual
partners’ borrowing and tax reliefs were ignored. Despite taking
this approach, the tribunal noted that if the taxpayer had been a
company they would not have ignored the borrowings and the
availability of tax reliefs. This distinction was unexpected, given
that the partnerships were not separate legal entities.
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By GlobalDataThe tribunal considered that
on a realistic view of the facts that the transaction could not be
viewed as a purchase of the film followed by its lease back to the
seller. Rather the tribunal considered that the transaction was the
acquisition of a right to receive payments in instalments over time
in exchange for the payment of a lump sum. It reached this
conclusion on the basis of the connection between the purchase and
the leasing of the film. Common with many equipment lessors, the
partnerships would not have acquired the films had they not been
certain that they would be able to lease them back.
Other
issues
Although not strictly
necessary, the tribunal considered in detail the arguments raised
by HMRC. Of particular interest in the leasing context, it held
that:
- the expenditure on the
films had been incurred so long as that expenditure did not exceed
the market value of the films; - the partnerships were not
carrying on their trades on a commercial basis, since the present
value of their income was less than their expenditure; - the fees paid by the
partnerships for structuring the transaction, arranging the
partners’ finance, identifying the film and lessee and negotiating
the sale and leaseback were capital under general principles;
and - the fees payable to Future
were deductible in the accounting periods in which they were
recognised for accounting purposes unless those fees relate to
material services which were to be received in later periods.
What this decision
means
It is very likely that the
Samarkand decision will be appealed and there is a
parallel judicial review claim. In the meantime, leasing businesses
will need to consider whether Samarkand affects their view
as to whether they are trading and whether there are any steps they
can take to protect their position. It may be that HMRC will seek
to rely on Samarkand to argue that corporate lessors are
not trading, despite the tribunal attempting to differentiate the
position of a company from that of a partnership comprised of
individuals. The possibility of HMRC raising such an argument is
perhaps surprising given that the courts have accepted in many
cases that leasing is an ordinary mercantile transaction with the
character of a trade. The risk of such a challenge is greatest for
those who are not habitually engaged in financing activities.
Of wider importance is the
view of the Tribunal that expenses may not be deductible in the
accounting period in which they are recognised for accounting
purposes. No explanation was given for this statement.
Given the importance of the
issues raised in Samarkand, it is hoped that the
Upper Tribunal will have the chance to consider the First-Tier
Tribunal’s decision.
Judy Harrison is a
senior associate at Norton Rose
