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TaxationWeb by Laura Hutchinson ATT ATII

Normally, the decision whether to dispose of land rests with the landowner. However, what is the situation if this decision is taken out of the taxpayer’s hands? This article considers the position where land is compulsorily acquired by an authority with appropriate powers (e.g. local authorities), giving the owner of that land a legal entitlement to compensation. Laura Hutchinson ATT ATII of Forbes Dawson considers the tax consequences.

Compulsory Purchases of Land

Under normal circumstances, the decision whether to dispose of land rests with the landowner. This decision will usually be commercially (or possibly even tax) driven. However, what is the situation if this decision is taken out of the taxpayer’s hands? This article considers the position where land is compulsorily acquired by an authority with appropriate powers (e.g. local authorities), giving the owner of that land a legal entitlement to compensation. What are the tax consequences? (references in this article are to the Taxation of Chargeable Gains Act 1992, unless otherwise stated).

The main legislation dealing with purchases of land under compulsory powers is found at s245 TCGA 1992. This section attempts to distinguish between compensation that arises on the land directly, and compensation that arises as a result of an asset which is derived from the land. The compensation received on the land directly is discussed later in this article.

Compensation on an asset derived from the main asset

An asset derived from the land could be, for example, a right over the land. Compensation may arise on its surrender under a compulsory purchase. Another example is the loss of goodwill on a compulsory purchase, and again compensation would arise on its loss.

An apportionment is made between compensation arising on the actual asset and that arising on a separate asset derived from the land. This apportionment is decided by s22 TCGA 1992.

Section 22 gives a list of the types of assets which are derived from the original asset. Usually, for capital gains tax purposes any gain that arises on an asset that is derived from the main asset is calculated by reference to the main asset. Under s22, provided that the individuals making the compulsory purchase do not receive an asset this is overruled and s23 will apply.

Section 23 TCGA 1992 allows the compensation that is received to be effectively rolled over into the existing asset. This relief is only available if the compensation is reinvested in the existing asset.

In the case of compulsory purchases there are few occasions where the asset will be retained. One example is goodwill. Loss of goodwill may arise on the compulsory purchase of land. This would be an asset derived from the land and provided the compensation received is reinvested in the goodwill, no disposal will take place on the receipt of the compensation.

There are also other conditions that allow the rollover into the existing asset, such as if the compensation received is small, compared to the value of the asset.

In general full rollover is only allowable if the allowable expenditure (indexed cost and other appropriate expenditure) of the asset is greater than the compensation received. If the allowable cost is less, only the part of the compensation to cover the cost is rolled over, reducing the cost on the next disposal to nil. The remainder of the compensation is treated as a disposal and chargeable to capital gains tax.

Compensation on the main asset – land

The receipt of compensation on the compulsory purchase of land is treated as a disposal of the asset and is chargeable to capital gains tax.

If the land bought under the compulsory purchase forms part of a larger block of land, the disposal will be treated as a part disposal under s42 TCGA 1992.

As with the compensation arising on the asset derived from the land, there is ability to rollover the capital gain that arises on the disposal of the land.

The main provisions to rollover are found at s247 TCGA 1992.

The relief is only available on:

• A compulsory purchase by an authority that has compulsory powers i.e. local authorities;

• No steps have been taken by the individual to sell the property before the compulsory purchase. This includes, no advertising of the land for sale or show of willingness to sell to the authorities;

• The compensation received is used to purchase new land. This land must not be a dwelling house that would apply for Principal Private Residence exemption within the first 6 years).

The rollover relief allows the gain to be reduced to nil, provided:

• The gain that would arise (before any reliefs such as relief and taper etc are given) could be deducted from the allowable expenditure of the new asset i.e. the allowable costs exceeds the gain.

If not all the compensation is reinvested:

• The capital gain that would arise is reduced to the amount of unexpended consideration i.e cash has been received and will therefore be taxed; and

• The new expenditure will be reduced by the amount that the gain was reduced.

The reinvestment in the new asset must take place within the usual time limits – 12 months before the disposal and three years after.

An extension to this time limit is given under Inland Revenue Statement of Practice D6. This is available if the authority that has made the compulsory purchase, leases the land back the original owner for use in his business, until the authorities begin work. The relief is extended to 3 years after the land ceases to be used in the business.

If the authority decides they no longer need the land and sell back to the individual this is treated as a new purchase under D16. This allows rollover back into the same asset but causes problems with taper relief, as it will restart the period.

Timing of Compulsory Purchase

The date of the sale under a compulsory purchase order is the last date of the period specified in the declaration of the authority. If any of the dates below are earlier than the last day of the period of declaration, the earlier date is taken to be the date of sale:

• Date compensation is agreed or otherwise determined; or

• Date the authority enter onto the land under their powers

Finally any compensation received for loss of earnings or stock etc will be treated as a receipt of Schedule DI or II. This is reported in Inland Revenue Statement of Practice 8/79.

Further Information

For further information on the compulsory purchase of land, or on CGT matters generally, contact Laura Hutchinson by telephone on 0161 245 1090, or by e-mail at laura@forbesdawson.co.uk.