Budget 2006 – Full analysis

grantthorntonlogoFWi, together with Grant Thornton, bring you full converage of this year’s Budget decisions


In-depth

The Chancellor declared that this was a Budget for continued, uninterrupted economic growth. However, the Budget appears to have measures that will specifically benefit farming partnerships, but will penalise the holding of property in trust.


Business Tax

In a U-turn, the Chancellor has returned the tax position of companies to that of 2002, as too many businesses were taking advantage of the perceived ‘loophole’ of a 0% starting rate.

The starting rate and non-corporate distribution rate for companies have therefore been replaced with the original tax banding for small companies.

From 1 April 2006, this will be set at the existing small companies rate of 19% for companies with taxable profits below £300,000.

The main corporation tax rate remains at 30%.

A 50% rate of first year allowances for plant and machinery purchased by small businesses (turnover not more than £5.6m, balance sheet assets of not more than £2.8m and not more than 50 employees) has been re-introduced for expenditure in the year from 1 April 2006 to 31 March 2007.

The rate of first-year allowances for medium-sized businesses remains unchanged at 40%.

Lessees of plant and machinery on long-term leases will now be able to claim capital allowances on the cost of the leased asset as if they had purchased it.

Conversely, lessors are now prevented from claiming capital allowances on their cost of the asset.

However, this change is likely to have a minimal effect on farmers, as leases of less than five years, and in some case seven years, will not be affected.


Inheritance Tax

Grant Thornton published an analysis of inheritance tax and its changing dynamic in November last year (http://www.budgetcomment.com).

This predicted that, if tax threshold increases did not keep up with property price rises, an extra 32,000 estates could become liable to inheritance tax (IHT) each year.

But the number of people whose estate could be liable were they to die, would rise from 2.1 million in 2002 to 3.6 million in 2009, which is when the next general election is expected.

Consequently, 1.5 million more people would have to consider the tax implications of their deaths.

The Chancellor has not increased the slightly above-inflation increases in the IHT thresholds announced last year – the threshold will rise from £275,000 in the current year to £285,000 in 2006/07 and £300,000 in 2007/08.

But perhaps he has taken some notice. He has announced further above-inflation increases in the threshold to £312,000 in 2008/09 and £325,000 in 2009/10.  This will be of limited benefit to farmers who:

  • are still smarting from the predicted increased tax take following the Antrobus II decision last October. The Revenue is likely to argue that farmhouses no longer qualify for agricultural property relief on their full value
  • have been encouraged to diversify away from customary farming enterprises and have converted buildings to residential or commercial lettings. These do not qualify for the IHT reliefs available for traditional farmland and buildings

However, the increases in the allowance are only very modest.

And, while diversifying to improve profitability, farmers still need to be aware of the potentially adverse inheritance tax implications of such diversification.


Trusts

The Chancellor is continuing to “modernise” the tax system for trusts. He announced the increase of the standard rate band for those trusts that pay tax at the rate applicable to trusts from £500 to £1,000 from 6 April 2006.  This will be welcome for smaller trusts.

However, other changes to trusts, that are often used to hold property and pass it down the generations, would appear punitive.
In particular, there was previously no inheritance tax payable on gifts to interest in possession and accumulation & maintenance trusts, provided that the donor survived the gift by more than seven years.

For new trusts of this type, there will be an immediate inheritance tax charge at 20% where the value of the chargeable transfer, plus those in the previous seven years, exceeds the nil rate band.

All trusts will also be potentially liable to an inheritance tax charge on each 10-year anniversary of their creation and on transfers out of trust.

These new rules will not apply where the beneficiaries are disabled or for certain trusts created on death.

These changes will apply to existing accumulation & maintenance trusts from 6 April 2008, unless the assets in trust go to a beneficiary absolutely at 18.

Existing interest in possession trusts are not affected, unless there is a change of life tenant after 6 April 2008.

For many trusts involving farmland which qualifies for inheritance tax reliefs, these new rules may not have a significant impact.
But, where activities have been diversified, there may now be properties in the trust that no longer qualify for relief, in which case the new rules will be an issue.

There are also changes to the definitions used in the trust tax legislation. As anticipated, these are likely to mean that capital gains holdover relief will not be available where the beneficiaries of the trust include minor children of the person making the trust (known as the settlor).

It is not clear whether this will apply, and so the detailed legislation will need to be examined before this is certain. 

In summary, trusts are likely to continue to be an appropriate vehicle for passing assets to the next generation, but the new rules will make this more difficult to achieve in a tax-efficient manner.

It will be necessary to review all existing and proposed trust arrangements to ensure that they remain appropriate.


Stamp Duty Land Tax

The exemption on stamp duty land tax (SDLT) for domestic property is to be increased to £125,000 from £120,000.
The threshold on sales of commercial property remains at £150,000.  There has been no change in the rates of SDLT.

The Government has announced that the potential SDLT charge on partnership transactions will be removed from Royal Assent (expected in July) for all partnerships whose main activity is the carrying on of a trade (other than a trade of dealing in or developing land). 

This is excellent news for farmers, removing uncertainty for normal partnership transactions that potentially fell foul of the previous complex anti-avoidance legislation.

The Government had originally imposed SDLT on partnership transactions from July 2004, where a charge potentially arose on:

  • the transfer of land by a partner into a partnership
  • change in income profit sharing ratios within a partnership
  • the transfer of land out of a partnership

The legislation was complex and difficult to understand, creating uncertainty over the SDLT consequences of straightforward partnership transactions, especially as the legislation was based on income profit sharing rather than ownership of the underlying property. 

The pressure applied by firms such as Grant Thornton appears to have brought a welcome relaxation.


Fuel

Biofuels continue to enjoy a tax break of 20p/litre in the form of a reduced duty rate, which has now been guaranteed until 2008/09. 

The rate of fuel duty is set to rise, although this increase has been deferred until 1 September 2006.

The rates will then increase by 1.25p/litre for both the main road fuels and for red diesel.  

Reforms to vehicle excise duty include the introduction of a top band of £215 for cars with the highest emissions. This category may include some 4×4 vehicles.


VAT

There have been no significant changes to VAT that have a direct effect on the farming industry.
The annual turnover limit for registration has increased from £60,000 to £61,000 from
1 April 2006.

As usual, changes in fuel scale charges have been announced and businesses must use the revised rates from the start of their first accounting period beginning on or after 1 May 2006.

The legislation regarding the option-to-tax is being rewritten and the rules for partial exemption tightened. However, it is not currently thought that this will have a significant impact on farmers.


Planning gain supplement

Other than a mention in the Chancellor’s speech that local communities should retain more of the planning gains generated in their area, there was no further mention of the proposed planning gain supplement in the Budget.

Whilst this should be welcome news for farmers, who could be liable to the proposed new tax when developing property on-farm that would not be subject to the existing “Section 106” charge, there is as yet no evidence of a U-turn by the Chancellor.


Pensions

A new simplified tax regime for pensions comes into effect from 6 April 2006 when there will be one set of tax rules for all pension schemes.

Pension contributions by an individual will be limited to a single lifetime allowance of £1.5m of pension savings that can benefit from tax relief.

There will be an annual allowance for contributions (£215,000 for 2006/07).

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