Stamp Duty Land Tax – The Pitfalls of Buying or Taking a Lease on Commercial Properties
On completion of a purchase or lease of a property or land, the buyer or leaseholder is more than likely liable to pay Stamp Duty Land Tax ("SDLT") on their acquisition.
Whilst it is easy to assess the liability for SDLT on a purchase, it is not entirely straightforward when acquiring a lease.
Calculating SDLT on a lease is complicated and the rules are often incorrectly applied. The HMRC provides an online calculator facility on its website for assessing SDLT on a lease but this does not fully address more complex transactions where a lease is involved.
It goes without saying that both leaseholders and their lawyers should be familiar with the HMRC rules to ensure that the correct amount of duty is paid to avoid any financial penalties and interest. A good working knowledge of the rules is also beneficial to clients acquiring a lease to enable them to consider the value of any SDLT benefit which may be available to them.
We are now going to look at a number of leasehold scenarios which are common place:
Break Option or Option to Renew?
A break clause is a common feature in negotiating a new lease as it enables the leaseholder to exit without penalty before the end of the term of the lease. The majority of leaseholders prefer the security of a break clause in a long lease as opposed to entering into a short lease with an option to renew at the end of the term. A short lease relies on the leaseholder serving notice on the landlord within a particular given timeframe.
But irrespective of choice, is the leaseholder aware of the implications of SDLT?
Taking the example of a ten year lease with an opportunity to break at five years, SDLT is based on the annual rent being multiplied by a temporal discount rate over the full ten year term (to take into account inflation at 3%). The calculation gives what is known as the "Net Present Value" which will define the amount of tax due. However, if the leaseholder decides to exercise the break at year five, there will be no reimbursement of the duty paid in respect of the full ten year term.
This being the case, the leaseholder may wish to consider the alternative of a short lease with an option to renew which will prove more tax efficient. So, by taking, for example, a five year lease with an option to renew, SDLT will only be payable on the term. Thus, should the leaseholder decide at this juncture not to renew the lease, there is no financial loss in overpaid revenue which cannot be recovered. If the lease is subsequently renewed, SDLT will be payable on the basis of the term of the new lease.
Renewing a lease
This is an area where use of the online calculator falls short.
On the grant of a renewal, there are a number of consideration to take into account; firstly has there been any holdover period between the expiry of the old lease and commencement of the new upon which SDLT is payable? This payment will be in addition to any duty payable on the term of the new lease. Other considerations to be taken into the equation are:
- Did the old lease provide any security of tenure;
- Was the term of the new lease backdated to coincide with the expiry of the old lease;
- Has the new lease been granted within a year of the expiry of the old lease?
If you are renewing or entering into a period of holding over under the terms of an old lease, it is prudent to seek advice from a person experienced in lease renewals to ensure that the correct amount of tax is paid.
A linked transaction is defined as one which involves the same parties (i.e landlord and tenant or buyer and seller) or any person or entity connected to them.
In these circumstances each separate transaction will be added together and treated as one for the purposes of taxation. If a transaction is not notified as being linked and is instead picked up by the HMRC for further assessed, not only could the buyer/tenant by liable for additional duty but also for penalties and interest for late filing if HMRC does not complete its assessment within fourteen days of the date on which the transaction completed.
Filing a correctly assessed return to HMRC does not solely rely on calculating the Net Present Value on a lease. One needs to consider any "reliefs" which may be available to a client. Whilst the common reliefs available are group relief and charities relief, a good practitioner should be aware of the wider range of reliefs available, in particular, when dealing with a renewal or a surrender and re-grant "overlap relief" (although not widely understood) can be advantageous.
It is worth mentioning that any review which is due to fall after the fifth anniversary of the term of a lease is not taken into consideration for SDLT purposes. However, if the commencement of the term is significantly prior to the grant of the lease, this can mean that a where a review falls within the first five years of the term, the higher rent will have an impact on the level of SDLT paid. This is important to note as where, in the case of an open market rent, the increase cannot be identified until the exercise of the review, the leaseholder will be required to file an additional return within thirty days of the rent review. Failure to file a return within this period will result in not only increased duty (if payable) but also a penalty and interest.
Where there was previously a thirty day period within which to file a SDLT return to HMRC, from 1 March 2019 this period will reduce to fourteen days. It is usually incumbent upon a lawyer to calculate and file SDLT returns on behalf of a client. With complex rules, it is worth considering SDLT at Heads of Terms stage of a transaction to avoid delays and mitigate errors in calculations.