As if herd basis elections are not complex enough in their implementation, the difficulties of deciding whether to elect and what to disclose can be increased to a whole new level through Financial Reporting Standard (FRS) 102. Having said that, many farmers (and bankers) may actually prefer the new arrangement. Valuing the herd in the balance sheet to show the true result of fair value, but taking advantage of the herd basis election for tax, can be seen as very attractive.
Farm animals and other livestock are normally treated as trading stock but a production herd may effectively be treated as a capital asset if an election is made for the herd basis (ss111-129, Income Tax (Trading and Other Income) Act 2005 and ss109-127, Corporation Tax Act 2009). The effect of the election is that the initial purchase of the herd, and any subsequent purchases of animals, get no tax relief, but a renewals basis applies where animals are replaced or there is a minor disposal, with the sales proceeds taxed as receipts and the replacement cost as a deduction. Disposal of all or more than 20% of the herd with no replacement is not a taxable receipt as it is the sale of a capital asset.
Although herd basis elections are mainly used by farmers within the dairy industry, the legislation is widely drawn with the election available in relation to any production herd or flock (or any other collective name), for any kind of livestock of the same species used “wholly or mainly for the products obtainable from the living animal which the animals produce for the farmer to sell”.
With the introduction of FRS 102, where herds are placed onto the balance sheet as fixed assets, they will need to be reclassified as stock in order to meet the requirements for biological assets, and must be valued on a consistent basis with other elements of stock. FRS 102 does allow biological assets to be valued using the production cost or the model of a fair value (with a deduction for costs to sell). The result is that we may well see an increase in the carrying value of herds on the balance sheet, most of which have traditionally been carried at their tax cost under the previous FRSSE. Therefore, the adjustments for the herd basis will be within the tax computations rather than the accounts. Under the FRSSE the accounts included the low tax value, not the fair value. Further information is available in HMRC help sheet HS224.
The herd basis election is not a flexible weapon for tax planners; once it has been made it is irrevocable. The election has stringent time limits, running from when the herd is created, within which the election must be made. For unincorporated businesses the limit is 31 January following the end of the tax year in which the first relevant period of account ends. For companies it is two years from the end of the first relevant accounting period. The herd basis cannot be claimed where profits are calculated on the cash basis.
Any change in a partnership will require a new election for the herd basis, with a single election being made for the farming partnership, even though the partners are assessed individually. The claim will be lost if it is not made within the allotted time limits.
Contributed by Julie Butler, Butler & Co
TAXline November 2017