1. Taxation
Taxation, 23 February 2012, 7
23 February 2012
Beside the seaside
Features
Inheritance Tax
Priya Dutta
is a senior consultant
Ian Maston
is a partner with Gabelle LLP, which provides independent tax support to accountants and other
professionals.
Priya can be contacted on Priya.dutta@gabelletax.com or phone: 020 7182 4740 and Ian can be contacted
by email on Ian.maston@gabelletax.com or telephone: 020 7182 4746.
© Reed Elsevier (UK) Ltd 2012
Can a furnished holiday letting qualify for inheritance tax business property relief? Priya Dutta and Ian
Maston report on a positive tribunal decision.
* * * * * *
Key Points
· A part-owned holiday let was supplied with services.
· McCall and Lord Fisher cases used to determine whether there was a business.
· The change in HMRC's view on furnished holiday lettings.
· Decided cases and the difference between active and passive property management.
· The Pawson case seems to set a low bar for business property relief.
* * * * * *
The First-tier Tribunal -- in the case of Mrs NV Pawson's Personal Representatives v HMRC [2012] UKFTT
51 -- has allowed inheritance tax business property relief in the case of a furnished holiday cottage. The
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2. decision will come as a blow to HMRC -- which, relatively recently, published guidance suggesting a more
restrictive application of the rules in this area -- but will be welcomed by the owners of furnished holiday
lettings. Whether the decision is of wider significance remains to be seen because, to some extent, it is
difficult to reconcile with earlier decisions.
The facts
The deceased, Nicolette Vivian Pawson, partly owned a cottage, 'Fairhaven', near the seaside resort of
Thorpeness, Suffolk, typically letting it out for one or two weeks at a time. Members of her family also
occupied the cottage for three weeks during the holiday season, but they paid rent calculated with reference
to HMRC's literature on payments for private use.
The following services were provided to the holidaymakers who stayed at the cottage:
· Use of a television and telephone.
· The property was cleaned before each letting and the garden was attended to.
· The property was fully furnished and heated. The hot water was turned on before visitors
arrived and the kitchen was fully equipped.
· A cleaner/caretaker inspected the property regularly and bought cleaning materials for the
cottage. Repairs were made as required.
· Clean bedclothes were arranged through a laundry service (but this service only started
after Mrs Pawson's death).
Specific reference was made to the fact that the property had been advertised, although this had not kept up
with modern developments, such as advertising on the internet.
Evidence was provided by an estate agent who stated that, in her opinion, holidaymakers paid a premium
rent compared to longer-term tenants because of the value of the services provided.
In the three financial years prior to Mrs Pawson's death, a profit was made in all but one year. The loss in
that year was as a result of substantial expenditure incurred in decorating and improving the property and
had it not been for this expenditure a profit would have been made in that year too.
The tribunal considered the following issues:
· did the operation of the holiday cottage constitute a 'business'; and
· if it did, was the business one which consisted of the holding of an investment?
A business?
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3. In order to qualify for business property relief, a holiday let must constitute a business carried on for a gain.
There are few reported court cases on the meaning of business for inheritance tax purposes, but for VAT
there is a considerable body of case law. The tribunal decision specifically refers to the inheritance tax
decision in McCall [2009] STC 990 and the VAT case of Lord Fisher [1981] STC 238.
Six factors were considered:
(1) The operation of the property as a holiday cottage was a serious undertaking earnestly
pursued. The tribunal noted the inconvenience suffered as a result of the need to travel to the
cottage from time to time to deal with emergencies and the efforts made to advertise the
cottage.
(2) There was a reasonable continuity of operation. The property was let every year without
fail. The fact that the property had usually been let only in summer months did not mean that
there was not a reasonable continuity of operation.
(3) The activity had a measure of substance. It seemed clear to the tribunal that the activity
had a measure of substance and the activities could not be considered de minimis and this
point was not discussed further.
(4) The property was being run on sound business principles. The tribunal appreciated that it
was possible to criticise 'the effectiveness of the operation', but stated that, nevertheless, the
letting business was being run on sound business principles. It was also noted that private use
by the family for three weeks a year reduced the level of overall activity and profit of the
business, but that this was not enough to say that the operation of letting the holiday cottage
was not being run on sound business principles.
(5) The activity was clearly intended to amount to making supplies to consumers. Except for
the three weeks of the year when the holiday cottage was used by the family, the whole of the
activity consisted of making supplies to consumers.
(6) The supplies were of a type that are commonly made by those seeking to profit by them.
A profit had been made in two of the three years before Mrs Pawson's death, and in the (part)
of the year in which she died. The loss in the other year was as a result of unusual expenditure.
The tribunal was therefore happy to conclude that that the cottage was let with the intention of
making a profit.
On the basis of all of the above, the tribunal was able to conclude that the operation of the holiday cottage
constituted a business. Indeed, it is quite difficult to imagine when a holiday cottage let to third parties on
commercial terms would not satisfy this condition.
The tribunal's decision in relation to the second question -- whether the business was one of 'investment' -- is
more interesting. Before considering the tribunal's reasoning on this point, it is perhaps helpful to set the
scene.
Departmental guidance
HMRC's guidance in relation to furnished holiday lets in earlier versions of their manuals read as follows.
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4. 'The HMRC Solicitor has advised the office that in some instances the distinction between a business
of furnished holiday lettings and, say, a business running a hotel or a motel may be so minimal that
the courts would not regard such a business as one of "wholly or mainly holding investments".'
By contrast, the current version of the Inheritance Tax Manual at IHTM25278 states that:
'In the past we have thought that business property relief would normally be available where:
· the lettings were short term; and
· the owner, either himself or through an agent such as a relative, was substantially involved with
the holidaymakers in terms of their activities on and from the premises.
'Recent advice from Solicitor's Office has caused us to reconsider our approach and it may well be
that some cases that might have previously qualified should not have done so. In particular we will be
looking more closely at the level and type of services, rather than who provided them.'
This change was understandable. There is body of business property relief case law, particularly a series of
cases involving caravan sites between 1997 and 2004, which emphasise the need to weigh the 'investment'
side of a business against its other elements -- particularly, its 'service' elements. Hence the reference in
HMRC's current manual to the need to the look at the 'level and type' of service provided in relation to a
holiday let.
It is important to note in this context that the other side of the equation in these earlier cases was that the
part of a business which involved the provision of the land to an occupier was generally considered to be an
'investment' element.
Investment or not?
The tribunal found that Mrs Pawson's business was not an investment business. The following comments
(paragraphs 45, 47, 49 and 50 of the decision) were made in coming to this conclusion.
'On the facts of this case there are clearly significant services provided to the occupiers of the
property. Those services are a significant part of the reason why the occupiers are prepared to pay
what they do pay for the package of benefits they receive when they book to use the property as a
holiday destination. The fact, even if it is a fact, that the appellants can provide those services at a
relatively low cost to themselves compared with the amount they can charge for the package appears
to us to be irrelevant.
'We ... ask ourselves whether a holiday let is really to be equated with a landlord's obligations under a
lease at all. Certainly, the right the holidaymaker has to occupy the premises is under the same
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5. contract as the provision of the services that are promised (such as cleaning, heating, etc.), but it is
unrealistic to equate that with a formal lease typically of much longer duration and under which the
services are very much secondary to the right of occupation.
'...No doubt some of the services provided in this case are not specifically required to be carried out
under the holiday letting contract, but such services can hardly be said to be incidental to the holding
of the property as in investment.
'We have no doubt that an intelligent businessman would not regard the ownership of a holiday letting
property as an investment as such and would regard it as involving far too active an operation for it to
come under that heading. The need constantly to find new occupants and to provide services
unconnected with and over and above those needed for the bare upkeep of the property as a property
lead us to conclude that no postulated intelligent businessman would consider such a property as
'Fairhaven' to be correctly characterised as an investment. He would consider it to be a business asset
to be exploited as part of the provision of services going well beyond an investment as such.'
Two main factors thus appear to have led the tribunal to its decision:
· first, that none of the 'services' provided to the holidaymakers could be considered to be
part of the 'investment' side of the business; and
· secondly, that an intelligent businessman would not consider this to be an 'investment'
business.
Previous decided cases
What is curious about the decision in Pawson is that although four paragraphs (46 to 49) are devoted to a
conceptual analysis of the different types of 'service' which could arise in a business context -- by reference
to the comments of Carnworth LJ in the important Court of Appeal decision of George & Loochin (Stedman's
Executors) v CIR [2004] STC 163 (but which comments appeared to have only the most tangential
significance in Mrs Pawson's case) -- there was no real acknowledgement that any part of Mrs Pawson's
business should be considered as on the 'investment' side of the equation.
The significance of this omission is that if any general theme can be derived from earlier cases it is that
holding land or property in anticipation of any form 'rental' income is invariably considered an 'investment'
activity by the courts and, historically, it has been very difficult to demonstrate that the level of service
provided is more significant than the fact that in essence what is going on is that land is being let. This is
illustrated by the following cases.
In Martin & Horsfall (Moore's Executors) v CIR Sp C [1995] SSCD 5, the deceased let industrial units on an
industrial estate. Her husband was at the property most days from 7am and was there, more often than not,
managing the premises. The Special Commissioner held that the business was one of investment. A
distinction could not be made between active and passive investment.
In Powell & Halfhide (Pearce's Personal Representatives) v CIR [1997] SSCD 181, the deceased operated a
caravan site hiring out pitches on long and short lettings. She and her family performed daily tasks of site
maintenance, which were so burdensome that she was required to live at the park. Both the long and short
lettings were categorised as 'investments'. The Special Commissioner noted that the deceased had 'actively
managed the caravan park business'. Nevertheless, these services were held to be incidental to the holding
of property as an investment.
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6. In the case of Clark & Southern (Clark's Executors) v HMRC [2005] SSCD 823, a company owned a large
number of properties from which it received rents. It also managed 141 dwellings for which it charged a
commission. The company had its own workforce for carrying out building work, maintenance and
refurbishment on all the properties. The Special Commissioner held that -- as the rents were essentially
income from ownership of property -- the business carried on by the company consisted mainly of holding
investments.
In PN McCall & BJA Keenan (Personal Representatives of Mrs E McClean) v HMRC [2009] STC 990 the
deceased owned a number of fields let for grazing. Her son-in-law spent approximately 100 hours per annum
carrying out maintenance work, management and finding tenants. The Court of Appeal of Northern Ireland
held it was clear that the landowner derived income from land. The business was one of holding an
investment.
Finally, in George & Loochin (Stedman's Executors) v CIR [2004] STC 163 -- the case extensively referred to
by the tribunal -- the following commentary on the Martin decision sums up this principle succinctly:
'It was argued that the landlord's activity in managing and maintaining the properties was sufficient to
take it out of the "investment" category, on the basis that it was "active" rather than purely "passive"
property investment. Mr Oliver rejected that contention. That conclusion is unimpeachable. On any
view, the business was at least "mainly" that of holding property for letting, and thus for investment.'
It is perhaps not for the authors to query the tribunal's findings of fact in the Pawson case, but 'Fairhaven'
does not appear to have been a furnished holiday letting where the services provided to the holidaymaker
amounted to much more than the bare minimum necessary to let the property on a short-term basis
(electricity, hot water, a fully equipped kitchen). We should remember that it was not until after Mrs Pawson's
death that there was any laundry service providing clean bedclothes to the holidaymakers!
However, the tribunal found that the services provided were a significant reason why the occupiers were
prepared to pay what they did for the package of benefits they received; and that the fact that the cost of
these services was relatively low compared to the amount charged to stay at the cottage was held to be
irrelevant. What appears not to have been addressed is that, presumably, a very large part of the price the
holidaymakers were prepared to pay derived not from any 'services', but simply from the fact that 'Fairhaven'
was a habitable property which was made available for occupation in (mainly) the summer months in an
attractive seaside location!
The wider significance of the case?
Future claims for inheritance tax business property relief in the context of holiday lettings will continue to turn
on the facts relevant to each particularly property; however, the decision is nevertheless a useful indication of
the approach a future tribunal will take. It is fair to say that the bar has been set low and there will be very
many holiday lets where a far greater level of service is provided to holidaymakers and where the owners
might now reasonably expect business property relief to be available.
There might also be a temptation to think that the decision opens the door to other letting-based businesses
to try their luck again before the tribunal -- perhaps seeking to rely on the 'intelligent businessman' test to
argue that theirs is not an 'investment' business.
It is important not to get carried away. While the taxpayers in some of the cases referred to above --
particularly Martin and Powell -- might be understandably aggrieved that the late Mrs Pawson's business
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7. attracted relief when theirs did not, the earlier case law is consistent and clear and the starting point for any
business involved in the provision of land in exchange for some form of income must still be that this is an
'investment'.
Is it possible to reconcile Pawson with this general principle? The difficulty is perhaps that in the context of
income tax and capital gains tax, a furnished holiday let can -- by dint of a specific statutory provision -- be
considered to be a 'trade' and not an 'investment'. Thus, one might expect that some furnished holidays lets
might also qualify for business property relief. The difficulty, of course, is that in order to qualify for the
favourable income tax and capital gains tax treatment, very specific requirements must be met in terms of
the frequency and duration of the holidaymakers' visits. (Broadly speaking, from 2012/13 the property must
be: available for 210 days; let for 105 days; and not be in the same occupation for more than 31 consecutive
days during seven months of a 12-month period.)
The fact that the nature of a furnished holiday let is that its lettings are short term and of high turnover is
probably the real reason why an 'intelligent businessman' would not consider them to be 'investments' and
why they might be seen as akin to hotels or B&Bs in business property relief terms, but if this is the case is it
time for a statutory rule for this relief too?
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