Tax Planning – Farmland
With the many tax reliefs available, there are opportunities for tax planning with farmland, in order to mitigate the liabilities that may arise in the absence of planning.
Farming and land ownership are both long-term activities in which businesses have traditionally been passed down the generations. As farmers have held their capital in relatively illiquid assets, such as land and buildings, capital based taxation has been severely damaging to farms and farmland in the past. However, there are some capital tax reliefs that can mitigate the impact.
Where may investment in farmland be appropriate?
Tax planning with farmland may be appropriate where:
- the potential inheritance tax (IHT) reliefs are attractive
- significant capital gains from the sale of business assets need to be rolled over (and therefore deferred).
Other perceived attractions of owning farmland are the lifestyle and status it confers upon the landowner.
What is farmland for these purposes?
Farmland is land in the UK occupied wholly or mainly for the purposes of husbandry such as the production of cereals, milk, dairy products, livestock and their products. For IHT purposes, farmland is extended to include ancillary woodlands and any buildings used in connection with the farming business and the occupation of which is of a character appropriate to the farmland. This can include cottages, farm buildings and farmhouses. Farmland is also extended to include stud farms.
What inheritance tax reliefs are available?
There are two principal reliefs from IHT, namely Agricultural Property Relief (APR) and Business Property Relief (BPR). Both of these reliefs, subject to certain ownership conditions, operate by reducing the value of qualifying assets liable to IHT. The reductions are as follows:
- 100% for the agricultural value of farmland, including farmland under certain tenancies which commenced after 31 August 1995
- 50% for the agricultural value of most other tenanted agricultural land
- 100% for interests in business assets owned by a sole trader or by a partnership and shares in private companies carrying on a business
- 50% for land, buildings and certain other assets used in a farming partnership or company, but owned personally (and not otherwise covered by agricultural property relief)
The effect of these reliefs is to remove much farmland from the charge to IHT. However, care is needed if the land or farm buildings have development or amenity value and are owned personally and used by a farming partnership or company. In these cases, relief may be restricted to 50% of the development or amenity value and hence the business structure can be important.
The availability of APR on the farmhouse is unique, reflecting the close involvement of the farmer with the business. However, this means that the appropriateness of the farmhouse is closely scrutinised by HM Revenue and Customs (HMRC). There have been a number of Special Commissioners’ decisions dealing with the availability of relief. A recent Lands Tribunal case decided that the agricultural value of the farmhouse was less than the market value, so that APR was restricted accordingly. This is a developing area of tax law and further advice should be sought in order to consider how relief can be maximised.
What are the ownership conditions?
To qualify for APR, the farmland must either:
- have been farmed in hand by the farmer for two years,
- or have been owned by the farmer for seven years and used by someone else (eg tenant) for the purposes of farming.
Land ownership has often been linked with tenancies in the past, as this allows the landowner to divest himself of the day–to–day management of the farm. However, the capital tax disincentives have encouraged new vehicles for carrying on farming on the farmland, such as share farming and contract farming. Provided that these agreements are structured carefully, these allow the landowner to be treated as a farmer by HMRC while reducing day-to-day farm management.
What capital gains tax (CGT) reliefs are available?
If farmland is farmed in hand or by share or contract farming then the following capital gains tax reliefs are available:
- Rollover relief on the replacement of land and farm buildings with other qualifying business assets and vice-versa
- Holdover relief on gifts, even where the farmland is tenanted, provided that it would qualify for APR
- Entrepreneurs’ relief on certain qualifying disposals
Entrepreneurs’ relief was introduced as just one change to the CGT rules on 6 April 2008 and gives an effective tax rate of 10% on certain business disposals, up to a lifetime limit of £1 million of gains per individual. Taper relief was abolished for disposals on or after that date. Please ask to see our separate factsheet if you would like more information on Entrepreneurs’ relief. Farmers purchasing land following the introduction of the single payment (SP) regime on 1 January 2005 should be aware that part of the cost could relate to the purchase of SP entitlement, which is separate from the land. The disposal of SP entitlement will be treated as a separate asset for capital gains purposes.
Are there special income tax rules?
There are special income tax rules for farmers that reflect the special nature of an agricultural business. These include:
- the ability to average the individual’s farm results between tax years, if this reduces the tax liability
- an election to treat a herd of breeding animals as a capital asset rather than trading stock
- rules to treat all farming as one trade, even if the farms are in different areas
- the ability to claim capital allowances (agricultural buildings) on farm buildings and other permanent structures that would not otherwise qualify for capital allowances (to be phased out by 2011).
It should also be borne in mind that because HMRC considers that farming attracts investors because of the lifestyle, it has specific legislation which disallows farm loss relief against general income if the farm has made losses in the five previous years (10 years for stud farms). This is in addition to the restrictions applicable to all trades where HMRC perceives that the trade is not being conducted on a commercial basis or where there is no active involvement by the taxpayer.
Farmland remains an attractive long-term capital tax shelter for individuals with significant capital gains, and those wishing to obtain the attractive IHT reliefs associated with it, without the risks normally associated with business assets.
In recent years the profitability of farming has been affected by the Common Agricultural Policies and reductions in EU support due to successive GATT rounds. Arable prices have currently recovered, but various other factors such as foot & mouth, market prices and blue tongue have further reduced income from what has been traditionally a business with low profitability. However, the availability of tax reliefs can help to mitigate the effects of variable farming incomes.