There are various tax issues that arise in relation to transactions between landlords and farm tenants, and the Inheritance Tax (IHT) changes announced in the 2024 Autumn Budget will bring huge challenges for both parties. Regardless of which side of the transaction you are on, it is important to understand both points of view.
Under the new rules, due to be effective from April 2026, the value of any estate above the new threshold will only receive 50% relief, resulting in a significant IHT liability. Landlords will need to reassess their estate plans to mitigate the increased tax burden. This might include restructuring ownership, making lifetime gifts or utilising trusts to manage the tax impact.
Trusts are under a different regime, whereby IHT is charged every 10 years. This is at a lower rate of 6%, and could result in an effective IHT rate of 3% being payable.
For older tenancies, under the Agricultural Holdings Act 1984, the position becomes more complicated and only 50% relief may be available. Specialist advice is needed in this area.
Impact on farm tenants
While the primary burden of IHT falls on landlords, tenants are not immune to the ripple effects. Landlords may increase rent or make changes to tenancy agreements as a result of the reforms.
As many agricultural estates are owned by trusts, the changes to IHT may also mean some choose not renew tenancies in order to obtain vacant possession so that they can sell land to pay the tax, leading to uncertainty and instability for tenants.
An added complication for tenants is the valuation of a farm tenancy, which, due to IHT changes mentioned above, now becomes more relevant. Before 1992, when APR increased from 50% to 100%, HMRC would often argue that a tenancy had a value. Since then, there has been little point in HMRC considering this as 100% APR meant there was no tax at stake. Land agents and valuers will need to consider this issue under the new system, and tenant farmers may have an IHT liability on the deemed value of their tenancy.
Tax on compensation at the end of a tenancy
If a landlord wants to sell the land with vacant possession, or indeed they wish to farm the land themselves to obtain tax advantages, a tenant may receive money when a tenancy ceases.
There will be parts of the payment to the tenant that are subject to Income Tax, for example growing crops or crops in store. Other payments, by contrast, may be subject to Capital Gains Tax (CGT). This is an extremely complex area, as in certain circumstances at least part of the capital sum can be classed as statutory compensation and be tax-free. This requires specialist advice to ensure the correct paperwork is prepared, and the tax-free sum is usually limited to the equivalent of five years rent. There is also a further exemption in respect of improvements made by the tenant.
Wider tax issues around farm tenancies include Stamp Duty Land Tax and VAT.
Stamp Duty Land Tax on commencement
Stamp Duty Land Tax (SDLT) is often overlooked, but can be payable by the tenant. This is based on the Net Present Value of the rents payable and if this is more than £150,000, the SDLT payable is 1% of the excess.
Another trap here is where an initial tenancy of 10 years, for example, is extended for a further 10 years. When a tenancy is extended in this way, a new calculation should be undertaken as if it was a single 20-year tenancy.
VAT on improvements and rent
Many landlords are not VAT registered and therefore cannot recover VAT on expenses, particularly new buildings and other improvements. A landlord wishing to finance a new building may ask the tenant to pay the costs and then repay the net amount by way of a ‘landlord contribution’.
In most cases this will be effective, but HMRC may try to argue that VAT should be payable by the tenant on the money received from the landlord. Provided there is nothing in the tenancy agreement obliging the landlord to pay for improvements, VAT should not be due. The tenant will be able to reclaim the VAT on the building as long as it is being used for farming purposes.
As mentioned above, landlords cannot normally recover VAT on expenses as rent is an exempt supply. However, by making an ‘option to tax’ election, the rent becomes a standard-rated supply rather than exempt. This means the landlord adds VAT to the rent and VAT on expenses can then be reclaimed by the landlord, such as improvements above.
This should not be undertaken lightly as it remains in force for 20 years and VAT will have to be charged on a future sale of the land. Similarly, a future tenant of land and buildings who is not VAT registered will be disadvantaged if an Option to Tax is in place.
If you are a farm landlord or tenant and would like further advice and support, please get in touch. Call 0808 144 5575 or email help@armstrongwatson.co.uk.
