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Julie Butler looks at the special tax rules for Furnished Holiday Lettings and how they are changing.

Introduction

There has been much written about Furnished Holiday Lets (FHLs) and the plethora of rule changes and the impact this will have in practice. The real worry for the taxpayer is if the new rule of 105 days actually letting out the property (the “letting condition”) is not achieved and what action should be taken. The letting condition comes into force from 6 April 2012 so there is time to plan.

Election to Treat Minimum Letting Period Condition as Satisfied

The new section ITTOIA 2005 s 326A allows a “period of grace”. Once a property qualifies as holiday accommodation in one tax year the owner may elect to treat the property as continuing to qualify for up to two later years even though it does not meet the “letting condition” (based on 105 days) in those years. The grace election may only be made if an averaging election under ITTOIA 2005 s 326 has NOT been made in respect of the same year. The grace election has to be made in the first tax year in which the letting condition is not met.

The election for a period of grace can only be applied provided that the FHL status is failing ONLY on the 105 day test, i.e., it is imperative all the other conditions be met. This election must be made on or before the first anniversary of 31 January for the tax year concerned. If the election is not made for the first year, it cannot apply to the 2nd year, i.e., it can apply to the first year, and the first and second year together, but not the second year in isolation.

Therefore it is important to be looking at future plans for FHLs in 2012/13 and 2013/14 to see how marginal properties can meet compliance.

Averaging

An added complexity is the condition of not being able to apply averaging in the new “period of grace” provisions. The current FHL legislation already allows for the “averaging claim”. Existing rules allow a claim to average two or more FHL properties let by the same person so that the existing 70 days test for actual letting is reached by all the properties within the averaging claim. It is possible to specify and restrict those properties that the taxpayer wants within the claim. This allows a property that might otherwise ruin an averaging claim (if all properties had to be included) to remain outside the claim. The claim must have been made by no later than the first anniversary of 31 January following the tax year to which the claim is to apply.

The new rules as implemented by FA 2011 still include the averaging claim except that of course the actual let period must now be 105 days from 6 April 2012 (new ITTOIA 2005 s 326), and non UK (but EEA) properties cannot be within a claim for UK property averaging. Therefore UK and non UK properties will have their own separate averaging claims to consider (new ITTOIA 2005 s 326(7)). The averaging calculations will have to be based on separate pools of United Kingdom properties and ‘elsewhere in the EEA’ properties.

There are those that would argue that prior to the current changes the FHL rules have been so generous with regard to the “letting condition” of 70 days that not many FHL owners have had to resort to the complexity of averaging and this will be a new procedure to consider. Clearly as the period of grace can only be claimed when averaging has not been claimed there is going to have to be a serious review of all FHL eligibility moving forward. It would appear that an “FHL eligibility audit” is required for all FHL properties.

For those properties that cannot be “saved” and will not be able to remain in the FHL category despite greater marketing or the benefit of averaging, then the period of grace will have to be considered. As a planning point the owners of some types of FHLs which can only be let for a limited period might consider purchasing an FHL which achieves a high number of let days to help ‘average’ a weak property.

Capital Allowances and the FHL

Another practical tax planning point facing the FHL industry is the historic lack of claims for Capital Allowances for FHL owners. A large number of FHL property owners are being approached by “Capital Allowances specialists” who will inspect the property and identify “unclaimed” Capital Allowances. This situation can arise on the purchase of an FHL property where those advising are not identifying the elements that qualify for Capital Allowances or with a new build, conversion or improvements where the eligible Capital Allowance claims are not properly identified.

It is, however, essential that the claim by the FHL owner is not too “over enthusiastic” in the attempt to define plant. The case of McMillin (TC 943) raises issues on claiming Capital Allowances on plant and machinery in respect of “eco-plant” for FHLs. In this case the First-Tier Tribunal denied Capital Allowances on flooring, windows, stone floors, organic paint and an earth bund. These items might be environmentally friendly but do they have the function of plant?

What are the facts of the case? The taxpayer, an accountant, bought a house which included barns and land. McMillin had the barns demolished. The house was then renovated and four holiday cottages built. In the 2006/07 Tax Return, the taxpayer claimed Capital Allowances in respect of stone floors, windows, paint and decorating, and an earth bund, all of which HMRC declined to accept. The taxpayer appealed against this decision.

Windows

McMillin claimed that the windows were plant because as well as letting in light, they kept draughts out. The Tribunal said that the windows could be opened, which defeated any insulation advantages. The Tribunal commented that the windows in question were in fact not so different from any other windows which were treated as part of the building and were excluded from being defined as plant and machinery.

The Paint

The taxpayer argued that the paint applied to the cottages’ walls was an organic paint which helped keep the air clean. The Tribunal dismissed this argument saying that the paint did not have a separate identity from the walls it covered and was effectively part of the premises and did not qualify as plant and machinery.

Sideways Loss Relief - Claim Soon!

As the deadline for claiming sideways loss relief on FHLs to 5 April 2011 is 31 January 2012 there is a limited “window” (please excuse the pun) for taxpayers to make the claim for Capital Allowances on FHL plant with enough impact to generate the sideways loss claim. As a large number of 2011 Tax Returns are still on the “production line” there is a practical tax planning point to consider the unclaimed Capital Allowances. Post 5 April 2012 FHL loss relief will have to be carried forward.

DIY Housebuild VAT Schemes for an FHL

For those FHL owners who are not VAT registered due to perhaps turnover limits there is some good news regarding the ability to reclaim input VAT on the FHL new build.

A “DIY Housebuilders' Scheme” allows input VAT to be reclaimed when a house is built by the owners themselves. A fairly recent VAT case of Jennings has ruled that holiday homes are not excluded from the effective VAT advantage.

It is advised that all submissions for the reclaim of VAT should be accompanied by:

• planning permission
• certificate of completion
• building plans
• all original VAT invoices, bills and credit notes in respect of the holiday home.

A ‘holiday home’ includes a dwelling which cannot lawfully be occupied throughout the year as the owner’s principal private residence (for example, because of planning restrictions).

HMRC’s policy has been to refuse claims under the DIY Housebuilders' Scheme for holiday homes, on the grounds that a sale of a completed holiday home by a developer would be a standard-rated supply. However, the First-Tier Tribunal in the case of Susan Jennings held that HMRC has misinterpreted the legislation and that the exclusion from zero-rating of new holiday homes cannot be integrated with the DIY Housebuilders' Scheme.

In HMRC Brief 29/10 claims are invited from ‘DIY Holiday Homebuilders’ with a Certificate of Completion dated no earlier than 16 March 2006 (four years and three months before the Brief was published on 15 June 2010). Claims already made and refused may now be resubmitted (including cases where the Certificate of Completion was issued before 16 March 2006).

Pro-active time for the FHL

There are lots of “windows” for tax planning opportunities for the FHL in the months and years ahead. With the period of grace, the emphasis of averaging and the possibility of buying and selling FHL properties together with trying to identify Capital Allowances that might have been forgotten - now is the time to review all FHL properties from a practical tax planning perspective.