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James Bailey CTA, explains why claiming Inheritance Tax Agricultural Property Relief on a farmhouse can be problematic.

James Bailey

Types of farmer

In Devon where I live, there are two distinctly different kinds of farmer.

There are the “professional” farmers, ranging from tenant farmers on Dartmoor struggling to make a living from their sheep (one of whom once remarked to me that it seems to be the ambition of every lamb to die from disease or get itself run over before it is ready for market) to the larger farmers (both the farm and the farmer are usually larger) who seem to be doing quite well despite constantly pleading financial hardship.

Then there are the “lifestyle” farmers (who are quite often some other sort of “professional” such as a surgeon or a barrister), who are in it for the big old farmhouse and the lovely view, and are not really fussed if they make a profit or not.

The lifestyle farmers generally either employ a manager to run the farm, or they have one form or another of partnership with a local “professional” farmer who does it in exchange for a share of the profits.

As well as the obvious benefits of living in a fine old house in one of the most beautiful parts of the country, and having their own land (once described to me as “owning the view from your windows”), these lifestyle farmers may well have an eye on the tax benefits of owning a farm, and in particular, the inheritance tax breaks they hope to get when they depart for the Great Agricultural Show in the Sky.

Inheritance Tax and Agricultural Property

When you die, inheritance tax (IHT) is charged on your estate, at 0% on the first £300,000 and at 40% on the rest, but there are certain reliefs that reduce this charge, including Agricultural Property Relief (“APR”).

APR reduces the value of agricultural property charged to inheritance tax by 100% in the case of a farm that you “occupy for the purposes of agriculture” yourself. If the executors of a lifestyle farmer can convince HMRC that he “occupied” his farm “for the purposes of agriculture”, then there may be no IHT to pay on the value of the land and the farmhouse.

What is a Farmhouse?

As a general proposition, the question of whether farm land is “occupied for the purposes of agriculture” presents fewer difficulties than the same question applied to the farmhouse.

HMRC have been getting increasingly strict as regards the eligibility of the farmhouse for APR, and they have won several tax cases in the last few years, denying APR to what is often a very valuable asset.

A recent case (the McKenna case) went before the Special Commissioners, and by the luck of the draw, the Special Commissioner was Nuala Brice (who gave the judgement against the Joneses in the Arctic Systems case).

Dr Brice denied APR on the McKenna’s farmhouse, and in doing so gave a useful summary of how the law currently stands on this issue.

These are the principles (and pitfalls) the lifestyle farmer needs to consider:

• A farmhouse is the building where the farmer lives and from which the farm is managed – so if the farm is actually run by another farmer from the next valley, no relief will be due;
• A farmer is the person who actually runs the farm on a day-to-day basis, and this is not necessarily the owner of the farm and the farmhouse

What sort of Farmhouse is it?

The law says the farmhouse must be “of a character appropriate” to the land being farmed, so a Georgian manor house on 10 acres of cabbages is not going to work. The question of how “appropriate” the farmhouse is should be decided by considering:

• The relationship between its size and value to the size, value, and profitability of the land being farmed
  
• The layout of the house – so a bigger farm office and a smaller indoor swimming pool might be a good idea
  
• The layout of the farm outbuildings – if the nearby outbuildings are stables for your horses (not a farming activity) and all the machinery is kept half a mile away in a modern barn, this will go against you
  
• Would an “educated rural layman” look at it and say “that’s a farmhouse”, or would he say “what a magnificent country mansion” – this is known in the trade as “the elephant test” (hard to describe, but you know one when you see one).

“Agricultural value”

Even if you get over all the above hurdles, you may still not get full relief for the value of the farmhouse, because APR only applies to the “agricultural value” of the property. Some farmhouses have a “tie”, meaning they can only be occupied by someone who makes their living from farming, and this reduces their value somewhat. APR is only due on that reduced value, so if there is no “tie” on the farmhouse, the difference between the “tied” value and the normal open market value does not qualify for APR. The difference depends on the particular case (any “hope value” for future planning permission?), but the general rule seems to be that the agricultural value is only about two – thirds of the open market value.

Dirty Hands?

All this means that if you are a lifestyle farmer, and you end each day without dirt under your fingernails, you may have an IHT problem. Even if you do get your hands dirty, then if as you scrub them clean you can see through the bathroom window to where a new development is being built just on the border of your land, you still may find that not all the value of the farmhouse will be free of inheritance tax!

The above article is reproduced courtesy of Property Tax Portal.