Business Property Relief for IHT – furnished holiday letting – Pawson v HMRC [2012] UK FTT 51

 In Tax

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Not all the badges of trade need be satisfied by the activities of offering a property as a furnished holiday letting in order to have that use qualify as a business, which is a trading activity for the purposes of business property relief (BPR) for inheritance tax (IHT). However, they must be pursued with a view to making a profit. The useful case of Pawson identifies the practical issues involved in making a successful claim for BPR in relation to property used for furnished holiday letting purposes.

The facts

Nicolette Pawson (Mrs Pawson) owned a 25% share in the property known as Fairhaven at Thorpeness, Suffolk at her death. The bungalow is situated on the Suffolk Heritage Coast near Aldeburgh and so is located in a holiday area. It overlooks the sea and has direct access onto the beach. It was used as a furnished holiday let.

Mrs Pawson died on 20 June 2006 aged 81 after being ill with cancer for about 18 months before her death. The income and profit/loss from the property in the last three financial years of her life and in the year of death was:

2003/4 – income £4,342.99; profit £680.27

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2004/5 – income £6,072.51; profit £802.32

2005/6 – income £8,120.00; loss of £2,071.61

2006/7 – income £16,589.67; profit £4,449.66

Family members occupied the property for three weeks each year paying an adjusted amount in accordance with HMRC’s guidance for private use compared to the same amount as a holiday maker would have paid. Otherwise, it was let out to the public.

The evidence indicated that the loss in 2005/6 was caused by re-decorating costs and improvements to the property which were needed to improve letting income. The services offered had increased in line with the expectations of holiday makers e.g. clean bed linen had to be provided rather than the holiday makers bringing their own. As a result laundry services were used. Also, a cleaner and caretaker were employed to clean the property between lettings, tend the garden, inspect the property and repair it and replenish supplies.

The property was let fully furnished with heating, hot water, TV and telephone and a fully equipped kitchen.

The law

In order to qualify for business property relief (BPR):

  1. Fairhaven would need to have been used as a business for two years before Mrs Pawson’s death
  2. If it was used as a business it would be relevant business property within the meaning of s.105(1)(a) IHTA 1984 as it would be a property consisting of a business or an interest in a business
  3. However, it could only be relevant business property if that business was carried on for gain
  4. Equally, even if the use to which Fairhaven was put amounted to a business which was carried on for gain it could be excluded from relevant business property if that business consisted wholly or mainly of ‘holding investments’ – s.105 (3) IHTA 1984

Three cases were considered as to whether there was a business at all:

Commissioners v Lord Fisher [1981] STC 238 – which is the case in which Gibson J set out the six indicia of business – the so called ‘badges of trade’.

Morrison’s Academy v Commissioners [1978] STC1

McCall v IRC [2009] STC 990

HMRC argued that all six indicia in the Lord Fisher case would need to be satisfied to a meaningful degree before the activities of providing holiday accommodation could amount to a business.

As to whether or not exploiting a property could be said to be a business which was wholly or mainly the holding of an investment, reference was again made to the McCall decision but also to the significant judgement in the Court of Appeal in IRC v George  [2003] EWCA Civ 1763 which was not of the view that simply because services or facilities are required, in that case by a lease, and their cost is included in the rent they lose their character as services and become part of the ‘holding’ of an investment.

The decision

The Tribunal found that the exploitation of Fairhaven amounted to the operation of a business for the years considered and therefore for more than two years prior to Mrs Pawson’s death. It was a serious undertaking earnestly pursued.

Although some criticisms of the effectiveness of the operation could be made (i.e. that she did not advertise on the internet) given the age of Mrs Pawson this was understandable  Nevertheless, the business was sound – the property was maintained to a reasonable standard and kept clean, there were no debts and the property was advertised to let. The use of the property for three weeks a year by family members did not obviate the business being run on sound principles.

The supplies of services were clearly of a type made by those seeking a profit and therefore the business of letting Fairhaven was being conducted with a view to gain since in the year when a loss was made it was because money was expended on ensuring future profitability.

As to whether the business was one of wholly or mainly holding investments the Tribunal decided that it was not because of the three types of activities identified in the George case:

  1. Landlord activities which are an obligation under the lease – is a holiday ‘let’ really a lease at all? It is called a ‘let’ but really it is a licence with which comes a package of services not usually associated with a lease of much longer duration and therefore although there is an obligation on the owner to provide the services included in the contract it is not the sort of services which a ‘landlord’ would provide.
  2. Separate provision of services for a gain – If there were any of these they would not be part of holding an investment.
  3. Services which are not required under the lease but which are provided without separate consideration – they would only be within the net of  ‘holding an investment’ if they were connected with and incidental to the holding of property as an investment –  some of the services carried out under a holiday letting contract may not be specifically required but they cannot be said to be incidental to the holding of property as an investment.

Overall, the Tribunal regarded a furnished holiday letting property as something which a businessman would see as needing too active management to be regarded as a passive investment. The Judge cited the usual features as distinguishing it from a longer lease – the need to constantly find new tenants and to provide services unconnected with and over and above those needed for the bare upkeep of the property as a property.

Practice points

  1. HMRC had been anxious to avoid this outcome and made critical comments about the preparation of the case by the family who represented themselves. All to no avail – therefore do make sure you identify those cases in estates under administration where furnished holiday letting evidence is available and claim BPR appropriately.
  1. The key to claiming BPR is for the client to have a trading business and this means that where clients do own property which is in a holiday area they need to consider the prospect of matching what letting they do currently against the badges of trade to ensure that they have a business, that they run it on sound business principles and that it is therefore run with a view to making a gain. If losses have arisen there must be a practical and relevant reason connected to running a business, not just the fact that the owners have been running it as a retirement ‘hobby’.

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