A fine line between investment and trading
A case concerning relief from ATED (rather than penalties for late submission of returns) raises some interesting points regarding the definition of a property development trade.
The dispute was whether Hopscotch Limited (TC07127) was carrying on a property development trade or not, and thus the fact that the tax concerned was ATED is largely irrelevant.
Hopscotch was incorporated in the British Virgin Islands and had acquired a residential property in London in 1993 for £1.25m. Owing to declining use, the directors took the decision to sell the property and it was placed on the open market in 2011.
The house failed to sell at its asking price of £13.5m, and in March 2014 the directors, on advice from the estate agent, decided to carry out substantial redevelopment work to broaden the property’s appeal to buyers. Planning permission was granted in December 2015 and construction work commenced in April 2016. The renovated property was relisted for sale in October 2017.
ATED returns for 2013/14, 2014/15 and 2015/16 were filed by Hopscotch and the ATED charges were paid. Relief from the ATED charge was claimed for 2016/17 and 2017/18 on the grounds that Hopscotch was carrying on a property development trade in accordance with FA 2013 s 138.
HMRC enquired into the 2016/17 and 2017/18 ATED returns and eventually issued closure notices withdrawing the relief claimed. Hopscotch appealed to the first tier tribunal.
Property development trade
A property development trade is defined as “a trade that consists of or includes buying and developing for resale residential or non-residential property, and is run on a commercial basis and with a view to profit” (FA 2013 s 138(4)).
Hopscotch argued it had formed comprehensive plans to redevelop the property and carried out the redevelopment as a scheme for profit-making which went beyond merely attempting to make the property more saleable. External finance had been raised to fund the redevelopment project. That the transaction was a one-off did not prevent it amounting to a trade, nor should relief be denied on the grounds the original acquisition of the asset was on capital account.
Whilst accepting that Hopscotch had undertaken substantial redevelopment work on the property, HMRC considered that the company’s activities did not amount to carrying on a property development trade. In HMRC’s view, Hopscotch had done nothing more than maximise the value of its capital investment. This was supported by the company’s failure to register for corporation tax or file returns in respect of its property development trade in the UK, or to prepare any business plans setting out the expected profits from the redevelopment.
The FTT held that Hopscotch’s activities fell short of the carrying on of a property development trade, and that relief from ATED for 2016/17 and 2017/18 was not therefore due. The lack of financial forecasts and business plans was a key factor in the judge’s conclusion that no trade was being carried on, as this was not typical of the way in which a property development business would be conducted.
Matters of construction
HMRC further contended that even if Hopscotch was carrying on a property development trade, relief under FA 2013 s 138 would not be due as the words: “buying and developing for resale” should be construed conjunctively, ie requiring property to be bought for resale and then developed for resale. If this construction were correct, a company which acquired property as an investment and subsequently appropriated it to trading stock as part of a property development trade would always be denied relief from ATED.
Fortunately, in this case the judge took a more sensible view and held that the phrase should be construed disjunctively, ie requiring first “buying” and then “developing for resale”, thus avoiding the potentially anomalous situation where the development of a property for resale depending on the intention (and indeed method) of acquisition. In the present case, nothing turned on the point but it is reassuring to see a common sense approach being adopted.
Whilst the ATED charge due for the periods under appeal (and subsequent periods, assuming the property remains unsold) is over £100,000 a year, by concluding that the company was not carrying on a property development trade in the UK, the judge has possibly done Hopscotch a significant favour by removing the liability to corporation tax on its development profits.
The line between property trading and investment transactions can be extremely narrow, and individuals and companies alike can draw some comfort from the judge’s comments that carrying out substantial work to a property prior to sale should not, of itself, cause a transaction to move from the boundaries of investment to trading.
*Correction - 10 June 2019: The banner image for this article was switched to more accurately reflect the contents of the piece*
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Jacquelyn Kimber is a tax partner at Newby Castleman LLP in Leicester, where she advises on a range of tax issues affecting individuals and businesses, including offshore matters and trusts. She can be contacted on 0116 254 9262 or by ...