FINANCE BILL 2016 DRAFT CLAUSES DEDUCTION FOR REPLACEMENT OF FURNITURE ETC Response by the Association of Taxation Technicians 1 Introduction 1.1 The Association of Taxation Technicians (ATT) is pleased to have the opportunity to comment on the draft paragraphs on Deduction for replacement of furniture, etc published on 9 December 2015 as Schedule to Clause 40 (the Schedule) with a view to inclusion in Finance Bill 2016. 1.2 Paragraph 32 of the Explanatory Notes (the Notes) indicate that the measure has been introduced to give relief for the cost of replacing furnishings to a wider range of property businesses as well as a more consistent and fairer way of calculating taxable profits. 1.3 Paragraph 1 of the Notes indicates that the proposed provisions: introduce a new deduction for capital expenditure incurred by a lessor on replacing furnishings, appliances and kitchenware provided for the use of a lessee in a dwelling-house; will have effect for expenditure incurred on or after 6 April 2016 for Income Tax and 1 April 2016 for Corporation Tax; and repeal the wear and tear allowance and the renewals allowance for property businesses. 1.4 We comment on the detailed working of the proposals in section 3 below after making some general observations in section 2. 1.5 Section and paragraph references in this response are to those used in the Schedule unless otherwise stated. 1.6 For convenience, we refer to the person carrying on the business as P. 1.7 Our comments are mainly made by reference to the Income Tax provisions (paragraph 1 of the Schedule) but apply equally to the parallel Corporation Tax provisions (in paragraph 2 of the Schedule). Registered in England and Wales Registered Office: 1st Floor, Artillery House, 11-19 Artillery Row, London SW1P 1RT A company limited by guarantee: Number 2418331 Registered as a charity: Number 803480 VAT Registration: Number 497539090
2 General observations 2.1 We welcome the general clarity and simplicity of the provisions. Subject to our comments in this section and in section 3 below, they appear to achieve their stated objective (see 1.2 above) effectively. 2.2 We note from the Reform to the Wear and Tear Allowance: Summary of responses published by HMRC on 9 December (the Summary) that (in relation to improvements) to minimise uncertainty, HMRC will produce comprehensive guidance to enable taxpayers to apply this rule to their circumstances, particularly around what constitutes a modern equivalent. We pause at that point to note that the reference to modern equivalence is not of course reflected in the Schedule. Section 311A(9) focuses on whether or not the old and new items are substantially the same and could apply equally where the old item had only recently been purchased but required replacing (for example because of flood damage). We see the concept of modern equivalence as having a part to play in considering the application of section 311A(9) but we think that guidance will be required in respect of various other factors to which we refer in section 3 below. In principle, we have a very strong preference for clear legislation which does not need to be supplemented by non-statutory guidance. We do, however, recognise that this is a situation where clear and well-considered guidance will be very helpful to taxpayers and their advisers. As always, we would be pleased to review any draft guidance on a confidential basis if that would be helpful. 3 The specific proposals 3.1 Section 311A(2) indicates that the new provisions will apply to a property business in relation to land which consists of or includes a dwelling house. We cannot find any definition of the term dwelling-house within ITTOIA 2005. Particularly in view of the application of the new provisions to unfurnished accommodation, does the term require clarification? 3.2 Section 311A(3)(a) requires the old item to have been provided for use in the dwelling house. In the absence of any requirement for the old item to have been provided solely for the use of the lessee (the wording in section 311A(3)(c)), is it correct to read subsection (a) as extending to the situation where the old item was acquired for the property when P was living there as an owneroccupier? 3.3 Section 311A(3)(a) and (b) both refer to items provided for use in the dwelling-house. Does the word in require that the item is kept and used only inside the dwelling-house? Would the provision apply for example to garden furniture, a hot tub or play equipment (trampoline, etc)? 3.4 Section 311A(3)(c) requires the new item to have been provided solely for the use of the lessee. Two points arise: P/ATTTSG/Submissions/2016 2
3.4.1 Presumably the word solely does not exclude the provision from applying where the property is occupied by more than one person (for example a house in multiple occupation)? 3.4.2 Does the reference to lessee confine the application of the new provisions to situations where there is a formal lease or do they apply equally to other arrangements which generate income from residential property - for example a licence to occupy or a tenancy at will or even short holiday lets that did not qualify for Chapter 6 treatment (furnished holiday accommodation)? 3.5 Section 311A(3)(d) indicates that the new item replaces the old item. Does that necessitate the physical removal of the old item from the property? Suppose for example that a dining room table requires replacing so the old table is removed from the kitchen-diner and a new table is sited in the kitchen-diner but that the old table is left at the house (for example for use in one of the bedrooms or perhaps in the garden or put into storage in the loft). Common sense suggests that the old item has indeed been replaced and that the removal of the old item is not required. We think that it would be helpful if the point was clarified (preferably) in legislation or (otherwise) in departmental guidance. 3.6 Section 311A(7) excludes a deduction for expenditure in a tax year where the dwelling-house constitutes some or all of the accommodation used in a furnished holiday letting business. We think that clarity is needed in two situations: 3.6.1 A furnished holiday letting business can fail in a particular year to meet the qualifying conditions for treatment under Chapter 6 and thereby be treated for that tax year as an ordinary residential property business. Would expenditure incurred in such a year be eligible for the replacement deduction? If not, would that expenditure qualify for capital allowances in a subsequent year when the Chapter 6 conditions were met? 3.6.2 A dwelling-house can permanently cease to qualify for Chapter 6 treatment but continue to be let. Would expenditure incurred after the change meet Condition B (section 311A(3)) if it related to the replacement of an item that was acquired during a period when the business did qualify for Chapter 6 treatment? 3.7 Section 311A(8) prevents a deduction under the new provision where P derives rent-a-room receipts from the dwelling-house. In the situation where P previously derived receipts which were dealt with under the rent-a-room provisions but then incurs replacement expenditure in a subsequent year when the dwelling-house is let outside of the rent-a-room provisions or where P had elected to disapply the rent-a-room provisions, would a deduction be available? We note that section 311A(8) does not include a reference to in a tax year in the way that section 311A(7) does. However, the use of the present tense ( derives ) does suggest that a deduction would be due where the rent-aroom receipts arose in an earlier tax year. Again we think that clarification is required. 3.8 Section 311A(9) introduces a distinction in the amount of the available deduction depending upon whether or not the new item is substantially the same. In 3.9 below, we identify some of the situations where we think that the implications of this test will need to be addressed in guidance. In more general terms, we think it will be important to provide an understanding of the criteria to be applied. P/ATTTSG/Submissions/2016 3
3.9 We assume that the substantially the same test has to ignore any ageing and dilapidation of the old item. However, in applying the sameness test, what (if any) weight must be given to factors such as: Function? Price (historic for the old and current for the new)? Quality/brand? Materials? 3.10 Section 311A(9)(b) limits the allowable element of the expenditure actually incurred by P to the hypothetical cost of a new item that was substantially the same as the old item. Two points occur to us here: 3.10.1 What evidence will P be required to maintain to justify or verify the hypothetical cost? 3.10.2 Will it be sufficient for P to keep evidence that they could have paid H for the hypothetical item (for example by buying at Harrods) whereas they actually purchased the new (and not substantially the same) item online from a discount outlet or have they got to apply the same diligence in achieving the keenest price for the hypothetical purchase as for the actual purchase? 3.11 Given that section 311A(9)(b) anticipates there still being a deduction available where the new item is not substantially the same as the old item, is there any point at which the difference between the old and new items is so substantial that the new item cannot be said to replace the old item (within the meaning of section 311A(3)(d))? A brief reference to a dictionary suggests that the verb to replace means to substitute something in the place of something else. One dictionary example refers to workers being replaced with robots, suggesting that in the ordinary use of language the replaced and the replacement can be radically different in their characteristics. Has this been considered? We think that the guidance may need to consider circumstances such as the following: 3.11.1 Armchairs are replaced by a sofa or vice versa (common function but different item); 3.11.2 A bed is replaced by a futon or vice versa (functionality increased/decreased and a different item); 3.11.3 A wardrobe is replaced in the same room by a bookcase or shelving (different function and different item); 3.11.4 A freezer is replaced by a tumble-drier in the same place in the kitchen (different item, different function, common location); 3.11.5 A standard domestic item is replaced by a different type of item at the request of a tenant with special needs; 3.11.6 An old item in the room of one tenant in a house in multiple occupation is removed and scrapped and a new (and substantially the same) item is purchased for use in a different room by a different tenant in the same house. P/ATTTSG/Submissions/2016 4
3.12 We note that the Policy Paper Reform of the wear and tear allowance published by HMRC on 9 December states: The relief given will be for the cost of a like-for-like, or nearest modern equivalent, replacement asset, plus any costs incurred in disposing of, or less any proceeds received for, the asset being replaced. We appreciate that this wording was only used to provide a general description of the measure but we think it is essential to ensure that guidance in respect of the test to be applied is based on the statutory wording (whether or not substantially the same) rather than any approximate paraphrase (like-for-like). 3.13 Section 311A(11) requires any money or money s worth received for the old item to be brought into account by reduction of the deduction otherwise allowed in relation to the purchase of the new item. The money s worth provision is of itself perfectly understandable. It means for example that the part-exchange value of the old item has to be deducted from the gross cost of the new item. It could, however, involve a double deduction of the part-exchange value if the expenditure incurred by P referred to in section 311A(9) was confined to monetary expenditure (as distinct from consideration given whether in monetary or money s worth form). Are we correct in thinking that the expenditure referred to in 311A(9) is the gross cost of the new item prior to any part-exchange allowance so that there is no risk of double deduction in establishing the cost of the new item? 3.14 Section 311A(11) includes the phrase or is entitled to receive. Paragraph 10 of the Note adds emphasis to the point by simply stating: Subsection 11 reduces the deduction by any disposal proceeds that P is entitled to receive for the old item. We think it would be helpful if the guidance could identify the circumstances where such an entitlement to receive (as distinct from an actual receipt) might arise. Would it for example apply if P purchased a new item of furniture from a charity shop and donated the old item to the shop for resale (not under Gift Aid)? 3.15 Also on section 311A(11) and the question of entitlement to receive, a solicitor member has drawn attention to the fact that it can sometimes take months of negotiation or litigation to determine what part of a deposit P is entitled to retain in respect of damage or dilapidations to items which have to be replaced. In such a situation, would P be required to estimate what they might be entitled to retain out of the deposit or could they simply account for the amount when it was ascertained? 3.16 Section 311A(12) defines domestic item as an item for domestic use but then somewhat unusually identifies four categories of item as examples of domestic items. Note 11 helpfully confirms that those four categories do not comprise a finite identification of domestic items. Although most domestic items are likely to belong within the four categories, there are some that will not. (Would a piano be classified either as furniture or a household appliance?) It will be important that the guidance does not suggest that the items have to fall within one of the four categories. Consistent with our comments in 3.9 above, we also think that it would be possible for an old item in one of the P/ATTTSG/Submissions/2016 5
four categories to be replaced (within the meaning of section 311A(3)(d)) by a new item in another of the four categories. 3.17 Paragraph 12(4) provides in relation to companies for the parts of the straddling period falling before and from 1 April 2016 to be treated as separate accounting periods. Does a comparable provision need to be made for property businesses that operate in partnership with an accounting date other than 5 April? 3.18 Finally, are we correct in assuming that there is no need for any provision to partially reverse a deduction that was made under the new provisions when a relevant new item is eventually taken out of qualifying use (for example upon the cessation of P s property business when P retains the item for private use)? That seems to be the corollary of no deduction being allowed for the initial expenditure. 4 Contact details 4.1 Should you wish to discuss any aspect of these comments, please contact our relevant Technical Officer, Will Silsby, on 01905 612098 or at: wsilsby@att.org.uk. Yours sincerely Michael Steed President of the Association of Taxation Technicians P/ATTTSG/Submissions/2016 6
5 Note 5.1 The Association is a charity and the leading professional body for those providing UK tax compliance services. Our primary charitable objective is to promote education and the study of tax administration and practice. One of our key aims is to provide an appropriate qualification for individuals who undertake tax compliance work. Drawing on our members' practical experience and knowledge, we contribute to consultations on the development of the UK tax system and seek to ensure that, for the general public, it is workable and as fair as possible. Our members are qualified by examination and practical experience. They commit to the highest standards of professional conduct and ensure that their tax knowledge is constantly kept up to date. Members may be found in private practice, commerce and industry, government and academia. The Association has over 7,700 members and Fellows together with over 5,600 students. Members and Fellows use the practising title of 'Taxation Technician' or Taxation Technician (Fellow) and the designatory letters 'ATT' and 'ATT (Fellow)' respectively. P/ATTTSG/Submissions/2016 7