In light of COVID-19, Julie Butler gives planning advice to tax advisers with clients with farming and equine interests.
Stock valuations and loss claims
Equine stocks are valued at the lower of cost and net realisable value. The calculation of cost includes production costs as well as keep costs. Producing and breeding competition horses for show jumping, racing, eventing, dressage, etc can be expensive. Prior to the coronavirus pandemic and with the Olympic fever at a peak, some very high market prices were being achieved for the right horses.
However, the position changed within weeks with Tokyo postponed for a year and all competitions cancelled until more is known about the pandemic. The value of horses held as stock at year end (often 31 March) of the businesses will have to be written down to reflect market forces. With no auctions and virtually no movement, the responsibility of ascertaining that market value will be challenging. The write-down could be substantial as could the equine income tax loss claims arising from this. Business plans will be changing significantly. HMRC has historically shown a tough approach to claims for equine tax losses (e.g. Murray  UKFTT 338 (TC) and Thorne  UKUT 0349 (TCC)) and has been keen to ensure that the evidence to support the claim is in place (e.g. Cliff  UKFTT 0564 (TC)). With the financial difficulties currently being suffered by the industry (no racing, no teaching and no competitions), help for the businesses will be sought from the tax refunds arising from loss claims.
An early consideration by tax advisers of the dilemma will therefore need to be contemplated. The 25% restriction of losses against income must be considered as well as the point that losses that are set against CGT are not restricted. In the ‘Equine Tokyo boom’ that was being experienced by the industry up until the outbreak, some ‘hobby operations’ had become businesses and had perhaps not been fully recognised as such. Advisers must act fast to undertake a full fact find to help their equine clients identify the correct stock values, loss claims and tax position for 2019/20 and to try and keep the business solvent moving forward. Some very tough judgement calls will be needed based on a forensic understanding of the facts.
Increased gifts and loans
With the coronavirus pandemic resulting in a lot of intergenerational gifts and loans, questions must be asked over the correct recording and the appropriate tax treatment.
There can be confusion as to whether a ‘gift was a loan’ and such misunderstandings can have different inheritance tax (IHT) treatment and, of course, different understandings between family members as to loans and gifts for the ultimate share of the estate. This is particularly important in farming situations where the family members are known to enter into disputes as shown by Guest v Guest  EWCA Civ 387.
There are considerations around whether the donor survived seven years since the date of the gift. If the donor survives less than seven years, then there is a failed potentially exempt transfer (PET).
The debts can be where the deceased lends money or indeed, with the current COVID-19 problems, where they borrow money. Securities for the borrowings must be understood. The basic rule for what constitutes the death estate is found at IHTA 1984, s 5(1), which confirms:
‘For the purposes of this act a person’s estate is the aggregate of all the property to which he is beneficially entitled…’.
Also, at IHTA 1984, s 5(3): ‘In determining the value of a person’s estate at any time his liabilities at that time shall be taken into account…’.
With regard to borrowings:
‘A liability incurred by a transferor shall be taken into account only to the extent that it was incurred for a consideration in money or money’s worth.’
The definition is found in IHTA 1984, s 5(5). This broadly means that a debt is allowable for IHT purposes as long as the deceased received something equivalent in value to the debt during their lifetime. It follows, therefore, that any debts created under a moral obligation (promising or intending to make a gift, for example) or that are legally unenforceable because there is no supporting paperwork, are unlikely to be allowable deductions for these purposes.
Where the deceased farmed in partnership, or indeed there is any trading partnership, it must be understood whether the debt belongs to the partnership or is a debt of the individual. In the same way that the loan and security must be understood to achieve the correct result, so must the underlying farm asset.
It is noted that both agricultural property relief and business property relief survived the Budget on 11 March. With regards to offsetting loans against relievable assets for IHT purposes, the FA 2013 changes must be considered (see IHTA 1984, s 162B). A practical tip is to analyse if the borrowed funds have been used for mixed purposes. By mixed purposes, it means to check if they have been used for business/agricultural purposes and some non-business personal purposes. It is important to retain the supporting documentation for the use of funds to support a deduction against non-relievable property for IHT. There are ordering rules for the offset of debts depending on the security and the assets.
In these difficult times of COVID-19, there will be more need than ever to have documentation, understanding and tax protection consideration with each gift or loan made by family members. When clients are advising of loans and gifts both made and received, it is essential to remind them to document such transactions for tax planning and to protect against family squabbles or disputes that come with greater commercial risk.
(Published in TAXline June 2020 in Practical Points)
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