Slice of the action contracts

Slice of the action contracts

Didn't find your answer?

Because I can't find any good examples on this. HMRC guidance etc just says that the income is taxable in the period in which the gain is realised - what exactly does that mean?

Company sells investment land for development. Deal is that it will get a small sum up front and 30% of proceeds of all completed houses. Intention is that it will end up with £10m but it could be more or could be less. If we treat the full gain as realised now, and tax £10m as income, what happens to any shortfall or excess? Or is the gain subject to income treated as "realised" only when proceeds are received?

Further question - say land cost £1m and prior to decision to sell/develop its value was £6m. My understanding is that only £4m is subject to income treatment. Commentary talks about apportionment of expenditure etc when computing the gain subject to income treatment - does this mean that we get indexation on only part of the cost, ie £600k? If so, it seems unfair - if the company had decided to develop the land itself there would have been a gain on appropriation with indexation on the full £1m.

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By LyneT
14th Nov 2014 17:23


This seems to be contingent consideration.  Look at Marren v Ingles.

If you look up contingent consideration, both ascertainable and unascertainable in the CG guides, it is quite helpful.

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By Ruddles
14th Nov 2014 18:59

I understand deferred consideration

But not sure how it interacts with transactions in land (if indeed it applies in those cases).

In my example, let's say the value of the right to unascertainable consideration is valued at £10m (assuming no restriction to the amount charged to income). I then presumably have a chargeable gain of £10m. What happens on each subsequent receipt? Normally I'd have a part-disposal with an equivalent base cost, all things being equal - so no gain to charge to income. So it must be the original gain that is chargeable to income. I've never seen Marren v Ingles applied to income.

Yours, confused.

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By Satwaki Chanda
15th Nov 2014 10:52

Marrren v Ingles is about CGT

You have an asset - land. It is sold for:

 

1. Cash plus

2. The right to further consideration - an overage (if it were shares it would be an earn-out right).

Both 1 and 2 are the "sale proceeds in the CGT computation. You need to value the overage right in 1.

The right in 2 is another asset. When you receive payments for this, you are treated as having made a part disposal for CGT purposes.

This is a pure CGT treatment and this is what I understand is normally the case when someone sells land and receives part of the payment as "slice of the action."

Now the developer - he usually buys land with a view to selling on - a "quick profit" - and he is treated as trading for tax purposes. His profits/gains are all treated on income account.

BUT that doesn't mean that the person who sold the land is treated as trading. Just think - a person holding the land for investment purposes sells it to a developer. Why should his tax treatment be affected by what the buyer is going to do with the land?

The overage is part consideration for the sale of a capital asset. One would expect it to be treated also as a capital asset. Can you really say that you acquired the overage with a view to trading? In which case, it would be income treatment.

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By User deleted
15th Nov 2014 12:06

Satwaki

You need to read Part18 of CTA 2010 and related commentary - in particular, BIM60350.

Other than that, I can't really offer much to the OP.

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By Satwaki Chanda
15th Nov 2014 12:22

BDK

Thank you. Yes of course, there are anti-avoidance provisions re transactions in land.

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By Steve Kesby
15th Nov 2014 13:07

Déjà vu

Haven't we already done this HERE

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By User deleted
15th Nov 2014 13:43

Memory

Yours is better than mine, Steve (and apparently that of the OP ;))

But I've looked further at your response there and I'm not sure that I follow it. You seem to be saying that in the first instance the whole amount will be treated as capital, with the subsequent part-disposals possibly giving rise to income treatment? But what if the value of the deferred consideration brought into the initial computation exactly matches the subsequent proceeds? Each A/A+B disposal would give rise to no further gain. So where would the income treatment arise? If you were to argue that is is the proceeds, or  a part thereof, chargeable as income on subsequent disposals, you would have to adjust the original calculation in some way (effectively recognising a capital loss on each subsequent event)? It doesn't sound right to me.

Seems to me that the easiet way of dealing with this is to work out how much of the initial disposal should be treated as capital - and tax it as such at the time (thus excluding the income element as a Marren v Ingles right). The excess of income over capital would then be assessed as and when realised in future periods. Whether or not the deferred capital element is treated as a M v I right probably shouldn't matter). But I have no idea if that approach is correct, or acceptable to HMRC.

 

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By Steve Kesby
15th Nov 2014 15:03

I thought...

... it was agreed that the 70% is not deferred contingent consideration, but unascertained consideration. Ruddles has changed the facts a little since last time

The current consideration is the £3m plus the right to receive further consideration later (of between £0 and £7m+).

Given that the land is now worth £6m, presumably the right to receive the £7m is worth £3m currently. So your current gain is £5m (ignoring the indexation of the £1m cost, that we previously agreed would be fully available). CGT done!

To the extent that the right to receive the £7m is actually worth more than £3m, then that excess is taxable as income at the initial disposal, and the base cost for the subsequent calculations increases.

Now let's say that the outturn is that we actually receive two amounts of £3.5m and £4m (in the original question we were going to get an amount each time a house was sold, I think). That's where A/(A + B) comes in.

When we receive the £3.5m, lets say the remaining right to receive up to perhaps a further £3.5m is also valued at £1.5m.

So our proceeds are £3.5m and our cost is £3m x £3.5m/(£3.5m + £1.5m) = £2.1m, giving us an income "gain" of £1.4m and remaining base cost of our right to further consideration of £0.9m.

So when we then receive the final £4m, we have an income "gain" of £3.1m.

It is probable though that the £7m does include a certain minimum that should be treated as deferred consideration in the original calculation.

I think we are in agreement (at least broadly), but that is how it seems to work in my mind.

EDIT: I've edited my calculations, because I'd balls'd up (technical term) some of the maths!

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By User deleted
15th Nov 2014 14:58

I sort of follow you, Steve

But I don't think that valuing the right to receive further consideration is as simple as taking the difference between the current land value and the initial consideration. If, for example, there was a reasonable expectation that the full £10m would be received over the next couple of years (which would of course depend on factors such as the state of the local housing market) such right could be worth considerably more. My point being that one could find themselves recognising an immediate chargeable gain that is greater than the gain eventually chargeable on the application of the anti-avoidance rules.

Perhaps that is partly the answer?

Given that Part 18 is all about anti-avoidance it is arguably going to be applied in may circumstances once the total amount actually receivable under the contract is known.

EDIT: re your edited maths I'm not sure that the £3.1m is correct. The legislation and guidance seems pretty clear in that you simply exclude from the anti-avoidance calculations the value of the land at the time of decision to develop. In your example, taxpayer will have received £10.5m in total, of which £6m realtes to the "prior" gain. So, chargeable to income under Part 18 is £4.5m. Even if you were to apportion the initial cost, you'd have chargeable income of over £4m.

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By Steve Kesby
15th Nov 2014 15:18

I've just edited it again!

But I agree that we have receipts of £10.5m of which the first £6m is capital and the remaining £4.5m is income.

The cost is £1m, and so ignoring indexation, total gains are £9.5m.

We then have three gains of £5m (CGTable, and against which the indexation gets deducted), £1.4m and £3.1m, the latter two representing the gains that should be treated as income.

I do think we need to deal with the uncertainty over the £7m in the same way that we would for CGT, because you have the same underlying substance.

HMRC's guidance does say we need to use trading income principles, which I interpret as GAAP. I don't know of any particular GAAP that applies in such a situation, but the CGT approach seems to also "make sense" from an accounting perspective.

We start by disposing of the land for cash, perhaps some deferred ascrtained cash, plus a right to unascertained further cash, to which the legislation then separately applies, by virtue of s. 816(2)(b).

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