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Taxation by Julie Butler, FCA

Julie Butler, FCA, of Butler & Co, explains the tax consequences and outlines some planning ideas in relation to wind farms.Wind farms are a very controversial subject, they have been described as a ‘horrendous blot on the landscape’. However, many people consider wind turbines graceful and think that they represent a cleaner sustainable source of energy for the future but what of the tax position? To date there is no specific direction from case law and there are no clearly presented rules contained within the Inspectors Manuals. Wind farms are of interest to investor, developer and landowner. Venture Capital Trusts (VCTs) have been set up to invest in companies that develop, construct and operate wind farms. So what are the facts behind the operation?

• Landowners have the opportunity to receive regular income for up to 25-30 years with no additional labour or expense required;

• Depending on size and wind speed, landowners can earn £2,000-£4,000 per annum for each wind turbine;

• Once in place normal farming can go on around them with no requirement to fence off. The turbines are on concrete slabs 14m X 14m and 2m deep, however they are below normal ploughing depth, at least 1m below surface;

• Arable farming can continue right up to the base of the 4m tower. The turbines are connected by cables that are below ploughing depth which will usually run along the boundaries to minimise disruption.

• A developer will choose the site and discuss terms with the landowner. At this point there will be no planning permission obtained. It can be as quick as 6 months for small projects and 2-3 years for larger projects. In this planning period, the landowner could receive a nominal income of several thousand pounds per annum. Once planning permission has been obtained, the landowner is either paid pence per KW hour produced by the wind turbines or a fixed sum per annum.

• After a wind farm has been built, over 99% of the land can still be used for farming.

How can the tax planner help their clients? One of the key aims of this article is to show that an arrangement/lease/licence with the wind farm operator should not be undertaken lightly. As will be seen, the terms of the lease can have significant tax consequences.

Income Tax – protect against the disallowance of loss relief

Essentially, the income from the wind farm lease is income from land and property in the hands of the landowner. Income should be included within the landowners accounts but identified separately. With the unprofitable state of many farms, the income will be used to support the farming enterprise and to make the overall operation profitable.

If a farming or market gardening enterprise has sustained losses computed without regard to capital allowances in each of the five preceding years of assessment ICTA 1988, s 397 denies the offset of the losses against other income in the current year under ‘hobby farming’ rules.

The land and property income from the wind turbines cannot stop the farm from falling with the hobby farming rules but with careful structuring, the income could help.

General farm expenses can be allocated against the income from the wind turbines. This will include direct costs and a justifiable proportion of farm overheads that relate to this income. It could be that the loss relief (ICTA 1988, s 380) will not be denied (ICTA 1988, s 397) due to an accounts profit being achieved.

Capturing the income as capital

Tax planners may set themselves the task of seeking to treat the money the landowner receives for allowing the wind farm on their land as a capital sum derived from the asset. Can the grant of the licence by the landowners to the wind farm developer be treated as a part disposal of land?

The Revenue quotes Chaloner v Pellipar Investments Ltd 68 TC 238 (which in turn depends upon Marren v Ingles 54 TC 76) as authority for the statement that the grant to a right to a profit (á prendre) or a licence is not a part disposal of the land. It states that the profit deriving from the granting of the licence arises from the creation of the licence. This is not a asset used in the farming business and as such, business asset taper relief (BATR) is not due.

Once the developer is interested in the site or indeed once the planning permission is obtained, it could be possible to sell the land to a third party for a value which reflects the potential (as opposed to the actual) income stream.

On the assumption that the land qualifies as a business asset and has been farmed up to the date of sale then maximum BATR should apply and the magical 10% (40% tax rate after 75% BATR relief) rate of CGT achieved.

It could be that the landowner would like a right to buy back the land should there be a change of energy policies.

A right to buy back documented in writing could be caught under section 36, ICTA 1988. This section is a further anti-avoidance provision which seeks to tax the difference between the sale price and the lower purchase consideration as a deemed premium. Essentially, the increase in value is taxed as income.

The landowner could sell the land to the wind farm developer/operator and lease back part of the land to farm. A sale with the right to lease back could be caught in part as income and not capital under ICTA 1988, s 799 and therefore part of the disposal will not be eligible for BATR.

The landowner might have concerns as to ascertaining the value of the land and the value of future energy generation. Where the land is sold and there are rights to further monies depending on the amount of ‘energy generated’ then the uplift should be a capital disposal for CGT and eligible for BATR. The wording of the contract will be of paramount importance.

Corporation Tax

If the land is owned in a Limited Company, then the income should be taxable at the company’s marginal rate of Corporation Tax (CT). In practice a few farms trade through the vehicle of a Limited Company because of the lack of BATR, the risk of trapping losses in the company and some potential IHT disadvantages.

Extracting the profits from the Limited Company via the dividend route will result in the eventual capture of the income in the hands of the individual. There can be a greater spread of the income to family members and shareholders resulting in personal tax savings. Retaining the profit within the company at lower corporate tax rates can be attractive.

Transfer of land into a Limited Company could be a useful tax planning tool, although the Stamp Duty Land Tax (SDLT) and the possible question of s.660 introduction of problems with regard to the gifting of shares to family members should be considered.

Pension Fund

The purchase of the commercial land by the landowners’ pension fund is an interesting tax planning tool, which would require the relevant professional help. The need to sell the land when the beneficiary achieves 75 years of age can have distinct disadvantages.

Inheritance Tax

Land used by the wind farm is subject to a lease and we have to look at a number of issues. Does the lease qualify as a farm business tenancy (FBT) in accordance with the Agricultural Tenancies Act 1995? Can vacant possession be achieved within the required 12 months/24 months? What are the terms of the lease? Is the activity agriculture? If the lease to the wind farm developer is not an FBT, will the land qualify for APR/BPR?

Will the wind farm land be an excepted asset under IHTA 1984, s 112 or will relief for the ‘whole enterprise’ be achieved via the recent case law set by Farmer (Farmers Executors) v IRC (1999) STC (SCD) 321 or Marquess of Hertford?

For BPR purposes, the aim is to achieve IHT relief on the whole of the farming activity including the let land. Much will depend on the wording of the lease/licence and on case law as it evolves.

There is every possibility that the tax planner should be able to achieve 100% APR/BPR on the farming/business enterprise. The resultant theme of ‘Farmer’ and the tax planner is that of ‘unified management’ with all aspects of the business being examined. Where this can be demonstrated, the case for the availability of the relief will be much stronger.

Key factors will be:

• Ensuring that the wind farm is incorporated into the farm as one unit;

• Ensuring integrated accounts, i.e. treating all the income from farming and wind farms as one integrated business unit;

• Ensuring the business consisted ‘mainly of farming’. Clearly if the land is used for the wind farm is sold so as to capture the advantage of full rollover relief (TCGA 1992 s155) and reinvested into another business asset them APR/BPR should apply.

Are wind farms ‘agricultural property’ for IHT purposes?

Agricultural property is defined in IHTA 1984, s 115(2) as follows:

‘agricultural land or pasture includes woodlands and any buildings used in connection with the intensive rearing of livestock or fish, if the woodlands or buildings are occupied with agricultural land or pasture and the occupation is ancillary to that of the agricultural land or pastures’

Agricultural land will include any interest, servitude or right over land.

APR is restricted to agricultural value, this is defined as the value which the property would have if it were subject to a perpetual covenant prohibiting its use other than as agricultural property (IHTA 1984, s 115(3)). Where the claim for APR is restricted, then provided the conditions are met (see above) then BPR should apply to any balance not attributable to agricultural value.

Trust Protection

Tax protection might be sought by transfer of the land to a trust. There is no SDLT on the transfer in and there could be the protection of a holdover relief for CGT on the transfer in or the benefit of full BATR if the timing of the transfer is correct. Income distributed to beneficiaries could have income tax benefits. This is a very complex area but should not be overlooked or undertaken lightly.

Disposal of land whilst the lease is in operation

What is the value of the land and what is the value of the lease on disposal? FA 2003, s 160 now allows land let to qualify for BATR post 5 April 2004 but what of the disposal of the lease? This will depend upon the wording of the lease and the arrangement with the third party developer.

Landowner acting as developer

Many landowners want to receive regular income without the responsibility for maintaining the turbines but the landowner can act as developer. There is also scope to have one grid-connected turbine to help provide the farms own fuel.

If the landowner acts as developer this is a new trade and has all the complexities of such a course of action such as what should the trading vehicle be and what is the arrangement between the trading vehicle and landowner? This would give rise to many new tax planning opportunities and the facility to pass income to other family members whether via a company or a partnership.

Conclusion

With landowners and farmers looking for financially rewarding diversification projects, wind farms present an interesting alternative. As with all such projects, the tax planning should be looked at in advance and not left blowing in the wind…

March 2005

Julie Butler, FCA

Butler & Co, Bowland House, West Street, Alresford, Hampshire, SO24 9AT
Tel: 01962 735544
Email: j.butler@butler-co.co.uk.

Julie is the author of Tax Planning for Farm and Land Diversification ISBN: 0754517691 and Equine Tax Planning ISBN: 0406966540. The second edition of Tax Planning for Farm and Land Diversification ISBN: 0754522180 is also now available. To order a copy call Tottel Publishing on 01444 416119.

For more information on wind energy please visit www.bwea.com (British Wind Energy Association).
This article was first published in Taxation Magazine on 31 March 2005.