Rollover and replacement potential for farms needs the correct understanding of ownership

The tax logic is simple – a large number of homes need to be built and farmers are obtaining very reasonable returns per acre on development projects and often seek tax shelter by further farm acquisition. The purchase of farmland is a very efficient shelter for capital gains tax (CGT) via the rollover relief route.

The tax consequences when a farmer sells a parcel of land that has potential for housing development are complex. There can be the sale of part of a farm for a high price rolling over the gain into a new farm. All development projects must be reviewed on a case-by-case basis and full tax planning put in place well in advance of the final transaction. A review for tax planning can also look at the question of eligibility, ie whether assets sold are genuinely used in a business.

When considering the CGT relief, the advantage of rollover relief from an inheritance tax (IHT) viewpoint must be considered. Rollover relief for CGT by definition can also mean qualifying for ‘replacement relief’ for IHT. In order to maximise tax relief on potential development land, whether this is large or small, the actual ownership and occupation of the land should be forensically examined, particularly where the land has been let in earlier periods so that tax relief is maximised.

Rollover qualification

Rollover relief is an alternative to enterprise relief (ER) for sheltering development land gains and is available when the proceeds from the disposal of the old asset are reinvested into replacement assets. Rollover and replacement can have the advantage of minimising CGT and IHT. Both assets must be used for the purposes of a trade. Relief is given by treating the old asset as having been disposed of for no gain/no loss (so long as the proceeds are fully reinvested). An effective use of rollover relief is a farmer buying new farmland after selling farmland for development purposes and intending to retain the replacement land until death and taking advantage of ‘replacement relief’ for IHT. The next generation could inherit the land at the probate valuation without the worries of historic CGT activities. 

The grazing agreement can be a classic choice of use of small farmland areas which can have weaknesses for tax relief on potential development land. Grazing agreements have been scrutinised in the Allen case (Allen v HMRC TC05100) and generally the tax relief on the grazing agreement has been attacked by HMRC. The critical issue of grazing agreements is not just the legal nature of the arrangement between the landowner and the livestock owner, but more importantly, whether what the landowner does on the land amounts to a trade. Where the landowner seeks to carry on the trade of farming, he or she must show that the grass is being grown as a crop. Generally grazing agreements are risky for tax planning on potential development land. 

Replacement property for inheritance tax

As mentioned, one of the advantages of rollover relief for CGT is the potential to also comply with replacement relief for IHT. Rollover relief can be achieved on acquisitions 12 months before and 36 months after the date of the disposal. A problem of rollover relief for CGT is the elderly farmer might die prior to the rollover/replacement property being found. This would have serious negatives for CGT and IHT reliefs as there would be no qualification for both rollover and replacement without an actual purchase. 

Assets that qualify for rollover relief

A recent farm tax tribunal, Maurice and Shirley Bell v HMRC [2018] TC 06575, looks at farm assets that might not qualify for rollover relief for CGT. As part of reaching its decision, the tribunal considered the evidence available, what the property was used for, how it was marketed, and whether it was a partnership or non-partnership asset. The overall question of the Bell case was whether a newly constructed farmhouse (Chapel Grange) owned outside of the partnership could qualify for rollover relief where the proceeds had been reinvested into a new farm. Mr and Mrs Bell Senior had owned the farm and obtained planning permission on land previously used for sheep pens to build a house (Chapel Grange) for their son Andrew who worked on the farm. It was argued by Mr and Mrs Bell that the disposal was of a farm worker’s cottage, however HMRC disagreed. The case shows the need for detailed research over rollover qualification must be made at an early stage.

Who owned the farm property being sold?

The first issue of the Bell case was the confusion over who actually owned the property. Mr and Mrs Bell had originally argued that the disposal of Chapel Grange was eligible for principal private residence relief as it was thought to be owned by their son Andrew Bell. The building warrant was not in the name of the parents but was in both Andrew and his wife’s name and the accounting treatment also implied such information on the basis that the funds for the build were reflected as a loan to Andrew from his parents on the balance sheet. 

This case shows that understanding of ownership of the farm must be a priority before work is undertaken. The evidence as to ownership in this case appeared to contradict itself as the VAT self-build claim asked for VAT to be repaid to Mr and Mrs Bell’s bank account even though the claim was made in Andrew’s name. However, whilst it was believed by the partners that a declaration of trust had transferred the property to Andrew, it was found that this had not been correctly documented causing more confusion. As a general rule with farming the difference between what is fact and what the farmers ‘believe’ must be researched. In the Bell case Chapel Grange was also marketed as part of the whole farm estate but was also available in lots. 

The evidence of whether an asset is essential

The second issue in the Bell case was the lack of evidence to support Mr and Mrs Bell’s claim for rollover relief. The argument that Chapel Grange was ‘essential’ to have a decent house for a prospective farm manager was not supported by evidence. Whilst the farm was ultimately sold as a whole, it was considered that such detail was further evidence that it was not an integrated essential part of the farm, rather a separate asset in its own right. The understanding of what is an ‘integrated essential asset’ must be undertaken by farm tax advisers and documented. The Bell case is a useful reminder on the need for evidence of both ownership and eligibility for tax relief, to plan ahead and really understand how farm property is owned in the tax planning context. It is imperative for any prospective property sale to have a well-thought through tax strategy and corroborating evidence ready and waiting ahead of the actual sale. 

The availability of farm ‘development monies’ and the tax advantages associated therewith can produce a positive position to those selling farms and the various agents associated therewith. However, eligibility for CGT relief must be reviewed prior to sale and there could be tight deadlines to challenge both the farm owners and their advisers. Rollover relief for CGT can be linked with the advantage of ‘replacement property’ for inheritance tax (IHT). With the variety of tax reliefs that present themselves it is worth carrying out the appropriate tests for ownership and eligibility as was shown by the Bell case

ICAEW Farming & Rural Business Community newsletter March 2019

Julie Butler F.C.A. is the author of Tax Planning for Farm and Land Diversification (Bloomsbury Professional), Equine Tax Planning ISBN: 0406966540, Butler’s Equine Tax Planning (2nd Edition) (Law Brief Publishing) and Stanley: Taxation of Farmers and Landowners (LexisNexis), and editor of Farm Tax Brief.