Share this content

Rental property - Long lease renewal costs

Can prof costs incurred by the lessee when renewing a long lease be treated as a revenue expense?

Didn't find your answer?

A client has paid a premium of £7.4k to extend a long lease, and incurred professional fees of £4.5k (legal, negotiator etc).

Ross Martin states "[legal fees relating to] Renewals or replacements of long leases (50years or more) are allowed where there is continuity of the old lease, and the renewal is drawn up in similar terms to the old." (https://www.rossmartin.co.uk/land-a-property/248-property-profits-and-losses#overview-and-faqs) which seems to suggest that it can.

HMRC's guidance manuals, however, appear to state that it would only be allowable if the lease was a short lease (https://www.gov.uk/hmrc-internal-manuals/property-income-manual/pim2120 and https://www.gov.uk/hmrc-internal-manuals/business-income-manual/bim46420)

From speaking to Abbey Tax, they also suggest that the professional costs would not be allowable.

Am I missing something? If anyone can square the circle, that would be appreciated!

Kind regards

Chris

EDIT: Nichola Ross Martin has explained my error – the RM guidance only relates to the professional costs incurred by the lessor of the lease

*This questiom has been edited to include additional amends.*

Replies (26)

Please login or register to join the discussion.

avatar
By Tax Dragon
15th Mar 2021 17:55

As you are talking about paying a premium to extend a lease, I presume you are advising the tenant. If so PIM2120 and RM's comment, which are about the landlord's costs, are not relevant.

BIM46420 though is about the tenant's costs, so it relevant. However, I'd say that the lease extension enhances the asset, is capital, and so too therefore are the related costs such as legal fees. (And my view there seems consistent with BIM46420.)

[PS - I'm sorry to ask this but I'm intrigued as to why anyone would spend £12k for a business benefit that's over 50 years away... you do realise that, in BIM, a 51-year lease that was 47 years old would not be described as 'long'?]

Thanks (1)
Replying to Tax Dragon:
avatar
By chrisacc1985
15th Mar 2021 18:50

Thank you TD. I had wondered if it was something like that, however, I don't think RM makes this clear though.

I take your point on "enhancing asset", however, given the laws around entitlement to extend leaseholds I don't know if it is that straight forward. BIM46420 does speak about "contending" claims, and therefore it may not be black and white. It could be argued that it is a cost of maintaining the property.

Thanks (0)
Replying to Tax Dragon:
avatar
By More unearned luck
15th Mar 2021 18:53

The longer a lease has to run when renewed the smaller the marriage value and thus the less that must be paid to the landlord in compensation. My understanding, at least for residential properties, is that lease renewal should be considered before the years left drops below 80 as leases with 80 or more years left have, by law, zero MV.

Thanks (0)
Replying to More unearned luck:
avatar
By chrisacc1985
15th Mar 2021 21:50

How do you think this affects the tax?

Thanks (0)
Replying to chrisacc1985:
avatar
By More unearned luck
16th Mar 2021 13:02

a) I was responding to TD's postscript.
b) It can have serious tax consequences for the unwary as technically the tenant is disposing of the old lease giving rise to a capital gain. See ESC D39 for when HMRC don't take that point. See also "Tax traps for tenant owned flat management companies" by Leigh Sayliss in Tax Adviser.
c) You don't give sufficient facts, nevertheless the chance that either element of the expenditure is revenue in nature is less than a gnat's crotchet.

Thanks (1)
Replying to More unearned luck:
avatar
By Tax Dragon
16th Mar 2021 14:50

More unearned luck wrote:

a) I was responding to TD's postscript.

Thanks. I'm still not seeing that as a business reason.

Off topic, but you mention the ESC... what's happened to the project to turn these into statute? Have we reached a position where what can be enacted has been and those that are left (such as D39) can be allowed to "untax" because it's not parliament's conscious taxing will that they are overriding, so much as some 'unintended consequences' of the law of the land?

Thanks (0)
Replying to Tax Dragon:
avatar
By More unearned luck
16th Mar 2021 20:28

Of course it's a business reason; the expenditure is W&E for the purposes of the client's property letting business. The fly in the client's ointment is that it is capital in nature.*

I don't know why the enactment of ESC's has dried up (the last SI under s 160 FA 2008 was in 2018 - I've not checked enactments via primary legislation). I agree with you that D39 is ripe for enactment. So to are the unacknowledged concessions in appendix 9 of the CG manual.

Go to the horse's mouth and ask HMRC about progress via a FOIA request . Moving even further off topic, via this method Pinsents have discovered that HMRC have paid costs of £2.5m in 2019/20 (up 88% on the year before) in 43 tax cases which they lost, which seems rather careless of them, as Lady Bracknell might have said.

*not necessarily a fly of course. If he or she sold up the expenditure could attract relief at 28% whereas if IT relief was due it might be at only 20%.

Thanks (0)
Replying to More unearned luck:
avatar
By Tax Dragon
16th Mar 2021 20:50

But if they took >88% more cases overall, that's not a bad result. (Incomplete stats are not useful stats at all.)

Wandering loosely back towards the topic, I wonder what percentage of individuals who extend a long lease on a let property wholly and exclusively so they can still let it in say 60 years' time are in fact still letting it in say 60 years' time.

Thanks (0)
Replying to Tax Dragon:
avatar
By More unearned luck
17th Mar 2021 21:55

You seem to be arguing that if an asset has a life longer than the life of the business (or the proprietor?) it can't be an entirely business purchase. To misquote the chorus to Henry V the farmer who sells the horse to buy the pasture is not doing so for entirely business reasons (OK he might have an eye on IHT relief but that is besides the point) because the land will last beyond the last syllable of recorded time (Macbeth), whereas his life is but a brief candle (Macbeth again).

Presumably this point doesn't apply to companies as they have an indefinite life.

It is the prohibition on relief for capital expenditure that denies IT relief, not the fact that asset has a long life.

Thanks (0)
Replying to More unearned luck:
avatar
By Tax Dragon
17th Mar 2021 22:15

I don't think I'm arguing that at all.

I'm paraphrasing the W&E rule as something like "for the sole purpose of generating income profits for the person incurring the expenditure" (which, by the way, isn't supposed to be original - I hope I am plagiarising, not copyrighting). I'm then questioning the motive for the expense alongside this paraphrase.

Thanks (0)
Replying to More unearned luck:
avatar
By chrisacc1985
15th Mar 2021 21:50

How do you think this affects the tax?

Thanks (0)
avatar
By Tax Dragon
15th Mar 2021 20:03

If it's a residential lease, what's the business purpose? In fact, let's drop the conditional element there: what's the business purpose? (And is this a company or unincorporated business?)

Thanks (0)
Replying to Tax Dragon:
avatar
By chrisacc1985
15th Mar 2021 21:49

It is an individual with a rental property. I guess the argument would be that it is allowing the rental business to continue to trade by maintaining the lease.

It seems odd that they allow a 49 year lease, and not a 50 year one. If they are really concerned with enhancing a capital asset, then surely any lease longer than 2 years should be capital?

Thanks (0)
Replying to chrisacc1985:
avatar
By Tax Dragon
15th Mar 2021 22:07

But the benefit is >50 years away. By then, he'll've sold up, moved in [I'm thinking duality] or passed on. Had you said it was a landfill site, nuclear waste company [needing a 5000 year lease! :-)] or something, I guess I could have seen the (business) argument (you'd still have to get past the capital point).

IIRC, the BIM does say 2 years is, strictly, capital but that this can be ignored in some cases (when there's zilch tax at stake). It also says (still IIRC) that, if there's a premium, or contested extension, you can't ignore the capital point.

Thanks (0)
Replying to Tax Dragon:
avatar
By chrisacc1985
16th Mar 2021 10:50

Thank you your input TD, and completely see your point of view.

I might get in touch with RM directly and ask their opinion. I will let you know if I receive a response.

BR

Chris

Thanks (0)
Replying to Tax Dragon:
avatar
By chrisacc1985
17th Mar 2021 10:32

Hi again TD

Just to update you. RM has now updated there site to state: “Where a replacement lease (long or short) follows closely on a previous one and is in broadly similar terms, a change of tenant will not normally make the associated legal and professional costs disallowable (see HMRC PIM2120)”

It previously stated "renewals or replacements of long leases (50 years or more) are allowed where there is continuity of the old lease, and the renewal is drawn up in similar terms to the old”.

The key difference between the two being "change of tenant".

Thanks again for your help.

Best regards

Chris

*This comment has been moderated.*

Thanks (0)
Replying to chrisacc1985:
avatar
By Tax Dragon
17th Mar 2021 10:52

Yes you should get credit for pointing it out.

The terms of a lease would, I suggest, include its length. So "broadly similar terms" presumably means the new tenant can occupy for broadly as long (?!) as the old tenant could have.

PIM2120 also expressly says (twice, in fact) that any proportion of the legal or other costs that relate to the payment of a premium on the renewal of a lease are, of course, disallowable. So in your situation neither the tenant nor the landlord is due tax relief for their respective fees.

Thanks (0)
Replying to Tax Dragon:
avatar
By chrisacc1985
17th Mar 2021 11:23

Yes, I think I agree. The whole passage in PIM2120 follows on from the passage on professional fees for the renewal of short leases, and therefore I think the passage is just clarifying that a change in tenant doesn't affect this treatment.

In my situation, I think if the lease had been less than 50 years, then the surveyors, negotiators and most of the legals costs would have been allowable.

Thanks (0)
Replying to chrisacc1985:
avatar
By Tax Dragon
17th Mar 2021 12:02

chrisacc1985 wrote:

In my situation, I think if the lease had been less than 50 years, then the surveyors, negotiators and most of the legals costs would have been allowable.

FWIW (not much, as this wasn't your situation), I'm not so sure you are right about that. The costs of many leaseholds of the type I assume your client has are frontloaded. You might have some ground rent, but hopefully this is diddly and your 'heavy' cost was the purchase price. Capital. The premium for the extension is basically a top-up purchase. Another capital cost. The negotiations presumably being largely over the amount of that the premium, and the legals to do with the 'purchase', they too are likely capital. (This is I guess why HMRC distinguishes the cases where there are premiums from those where there are not.)

Thanks (0)
Replying to Tax Dragon:
avatar
By chrisacc1985
17th Mar 2021 12:04

What do you think HMRC means by this then "The normal legal and professional fees incurred on the renewal of a lease are also allowable if the lease is for less than 50 years"?

Thanks (0)
Replying to chrisacc1985:
avatar
By Tax Dragon
17th Mar 2021 12:13

That's a quote from the PIM, relevant to the landlord not the tenant. The next sentence is "any proportion of the legal and professional costs that relate to the payment of a premium on the renewal of a lease are not deductible" - so even for the landlord HMRC distinguishes the situations based on whether there is or is not a premium.

Thanks (0)
Replying to Tax Dragon:
avatar
By chrisacc1985
17th Mar 2021 13:28

I can see what you are saying, and that may be what HMRC do intend to say. The passage is in a general section on "legal and professional costs" for landlords, and it doesn't specify that it only relates to the lessor.

Thanks (0)
Replying to chrisacc1985:
avatar
By Tax Dragon
17th Mar 2021 14:07

Context. It's in the property income manual. Deductions refers to deductions from income from property. The manual relates to landlords - the person that makes income from the contract (the lease) in question.

You've allowed yourself to get confused because your client makes income by letting out the same property. S/he is a landlord to his/her own tenants. His/her income comes from the contracts with the tenants (not from the lease with the landlord). If one of those tenants were to ask for an extension to their occupancy, and your client incurs legal costs in that regard, that is when you should be reading PIM2120 (and the RM paraphrase of it).

I don't know how else to explain it. Maybe, if you still don't see this, I should step aside and let someone else have a go.

Thanks (0)
Replying to Tax Dragon:
avatar
By chrisacc1985
17th Mar 2021 14:43

Thank you Tax Dragon, I take your point.

Kind regards

Chris

Thanks (0)
Nichola Ross Martin
By Nichola Ross Martin
17th Mar 2021 12:27

I can see our name is being taken in vain and I think I need to clear the waters.

The relevant part of PIM2120 says:

"...The normal legal and professional fees incurred on the renewal of a lease are also allowable if the lease is for less than 50 years. But any proportion of the legal and professional costs that relate to the payment of a premium on the renewal of a lease are not deductible.

Where a replacement lease follows closely on a previous one, and is in broadly similar terms, a change of tenant will not normally make the associated legal and professional costs disallowable. Any proportion of the legal or other costs that relate to the payment of a premium on the renewal of a lease will, of course, remain disallowable.

If, however, the property concerned is put to some substantial use other than letting, such as occupation by the owner between lets, or where, say, a long lease replaces a short lease, the legal and other costs will be capital expenditure. In such circumstances, the expenditure is analogous to a physical alteration or improvement to the landlord’s capital asset..."

Reading the whole of that, it can be seen that para 1, relates to short leases, para 2, short or long, para 3, short or long.

Our note said this, on the topic of allowed legal expenses:

Renewals of short leases (less than 50 years) are allowed (this echo's HMRC's para 1)

Renewals or replacements of long leases (50 years or more) are allowed where there is continuity of the old lease, and the renewal is drawn up in similar terms to the old. (this paraphrases HMRC's para 2).

We also added in Disallowed legal expenses 'Proportion of costs that relate to a payment of premium'

I don't believe that our author's paraphasing changes the meaning, as HMRC's para 2 cannot be only talking about short leases because it is unnecessary to do so when para 1 says that they are allowable.

I therefore wholly object to being told that we are wrong because our author is simply agreeing with HMRC.

Thanks (1)
Nichola Ross Martin
By Nichola Ross Martin
17th Mar 2021 12:27

I can see our name is being taken in vain and I think I need to clear the waters.

The relevant part of PIM2120 says:

"...The normal legal and professional fees incurred on the renewal of a lease are also allowable if the lease is for less than 50 years. But any proportion of the legal and professional costs that relate to the payment of a premium on the renewal of a lease are not deductible.

Where a replacement lease follows closely on a previous one, and is in broadly similar terms, a change of tenant will not normally make the associated legal and professional costs disallowable. Any proportion of the legal or other costs that relate to the payment of a premium on the renewal of a lease will, of course, remain disallowable.

If, however, the property concerned is put to some substantial use other than letting, such as occupation by the owner between lets, or where, say, a long lease replaces a short lease, the legal and other costs will be capital expenditure. In such circumstances, the expenditure is analogous to a physical alteration or improvement to the landlord’s capital asset..."

Reading the whole of that, it can be seen that para 1, relates to short leases, para 2, short or long, para 3, short or long.

Our note said this, on the topic of allowed legal expenses:

Renewals of short leases (less than 50 years) are allowed (this echo's HMRC's para 1)

Renewals or replacements of long leases (50 years or more) are allowed where there is continuity of the old lease, and the renewal is drawn up in similar terms to the old. (this paraphrases HMRC's para 2).

We also added in Disallowed legal expenses 'Proportion of costs that relate to a payment of premium'

I don't believe that our author's paraphasing changes the meaning, as HMRC's para 2 cannot be only talking about short leases because it is unnecessary to do so when para 1 says that they are allowable.

I therefore wholly object to being told that we are wrong because our author is simply agreeing with HMRC.

Thanks (1)
Share this content