The Holiday Business

JOHN T NEWTH FCA, FTII, FIIT, ATT examines the taxation treatment of holiday caravans and furnished holiday accommodation.

THE HOLIDAY HABITS of the British public have altered immeasurably during the past thirty years. Settled and sunny continental weather has provoked a vast exodus to the Mediterranean and further afield. The annual summer fortnight at a British seaside hotel with bucket and spade is almost a thing of the past.

However, two elements of the British seaside scene remain and continue to thrive. Visitors to numerous holiday towns and villages will observe vast caravan parks. Those requiring something a little more upmarket can sample the delights of furnished holiday accommodation. This can vary from the basic to the extremely smart. But how are these ventures taxed?

Income tax

On the face of it, the income from the letting of both furnished holiday lettings and caravans is assessable under Schedule A. This is not so disastrous as it used to be, as, generally speaking, expenses similar to those claimable for Schedule D, Case I under section 74(1)(a), Taxes Act 1988 are claimable.

Furnished holiday lettings

Sections 503 and 504, Taxes Act 1988 define treatment as a furnished holiday letting. Basically, the property must be available for letting during 140 days in a 12-month period, and be actually let for 70 of those days. The property must not be in the same occupation for more than 31 consecutive days or 7 months in a 12-month period. The Inland Revenue Inspector's Manual confirms that occupation by the owner outside the holiday season does not prejudice any relief.

The advantages of treatment as a furnished holiday letting are that:

• Relief for losses under sections 380 to 390, Taxes Act 1988 is available.
• Income is treated as earned and can be used for that purpose in connection with retirement and taper relief and personal pension contributions.
• Capital allowances can be claimed – but not in addition, nor in fact as an alternative, to the 'rule of thumb' 10 per cent depreciation allowance, which is not available for furnished holiday lettings.

Furnished holiday lettings are considered in the Inland Revenue Property Income Manual at paragraphs 4100 to 4130. Further Revenue instructions are set out in leaflet IR 150.

The above principles have to be qualified by the decision in two Special Commissioner's cases regarding the availability of tax losses. In Walls v Livesey SpC 4 a taxpayer who purchased three flats in an old castle in Cornwall had his claim for loss relief allowed. It was held that the test in section 504(2)(a), Taxes Act 1988 (letting must be on a commercial basis to realise profits) was a subjective one, whereas the test for loss relief purposes in section 381(4), Taxes Act 1988 was an objective test – which the taxpayer satisfied.

The opposite view was taken in Brown v Richardson SpC 129 where an accountant who purchased a three-bedroomed bungalow in Cornwall failed in his claim for loss relief. Although let on a commercial basis, the property had been let 'with a view to generating revenue to offset costs, rather than with a view to the realisation of profits'.

It is most unlikely that a case could be made for a furnished holiday letting to be assessed under Schedule D, Case I, although owners who provide services such as weekly cleaning, laundry, maintenance and other services will continue to attempt for this treatment. Success would undoubtedly aid the inheritance tax picture, as will be seen later.

Caravans

In the case of caravans, the situation is more flexible. Income from the letting of immobile caravans is specifically within the charge to Schedule A. However, income from letting caravan pitches, i.e. site rents, is assessable under Schedule A to the extent that it arises from the exploitation of land, but by concession, where the site proprietor carries on associated activities (e.g. shops and the purchase and sale of caravans) which constitute trading and account for a substantial part of the income, the letting income may be included as receipts of the trade under Schedule D, Case I. (Inland Revenue press release, 17 May 1984 and Inland Revenue Pamphlet IR 1, B 29.)

Capital gains tax

As far as capital gains tax is concerned, 'commercial' letting of both furnished holiday accommodation and caravans confers the availability of certain reliefs. Such lettings, assessed under Schedule A, have the result that the following capital gains tax reliefs are available:

• retirement relief (up to its cessation) (section 163, Taxation of Chargeable Gains Act 1992);
• rollover relief (sections 152 to 157, Taxation of Chargeable Gains Act 1992);
• reliefs for gifts of business assets (section 165, Taxation of Chargeable Gains Act 1992);
• relief for loans to traders (section 253, Taxation of Chargeable Gains Act 1992);
• taper relief (Schedules 1A and 2A to the Taxation of Chargeable Gains Act 1992).

In some instances, a single property used for furnished holiday letting may at some time have been used by the owner as his principal private residence (or may be during the winter months). Accordingly, the principles of that relief will then come into play, including the possibility of the 'lettings' relief. See Tolley's Taxation of Private Residences by Matthew Hutton for a full discussion of this subject.

Furnished holiday lettings are considered in the Inland Revenue Capital Gains Manual at paragraphs 73500 to 73508.

Inheritance tax

We now turn to the subject of inheritance tax. Having established that a letting of furnished holiday accommodation and caravans is a 'commercial' operation, admittedly taxed under Schedule A, except in certain prescribed circumstances, one would have expected business property relief under sections 103 to 105, Inheritance Tax Act 1984 to be available.

However, section 105(3) denies relief if the business is concerned wholly or mainly in 'holding investments'. Let property has traditionally been regarded as an investment for inheritance tax purposes, although this is not always as clear cut as may first be thought.

Furnished holiday lettings

The deemed 'trade' of furnished holiday lettings accepted for capital gains tax purposes has not applied for inheritance tax purposes in the past. In the past one had to demonstrate that there were sufficient holiday cottages available to indicate a business.

This consideration appears to have been quietly dropped and the Capital Taxes Office Advanced Instruction Manual at paragraph L99.3 now states:

'The Revenue solicitor has advised the office that in some instances the distinction between a business of furnished holiday lettings and, say, a business running an hotel or a motel may be so minimal that the courts would not regard such a business as one of 'wholly or mainly holding investments' for the purposes of section 105(3), Inheritance Tax Act 1984.

'You should normally allow relief where:

• the lettings are short term (for example, weekly or fortnightly); and

• the owner – either himself or through an agent such as a relative or housekeeper – was substantially involved with the holidaymaker(s) in terms of their activities on and from the premises even if the lettings were for part of the year only.

'You should continue to refer to Litigation Group cases where relief is claimed and:

• the lettings are longer term (including Assured Shorthold Tenancies); or

• where the owner has little involvement with the holidaymaker(s) – for example a villa or apartment abroad; or

• where the lettings were to friends and relatives only;

• where it is clear that no services were provided to the holidaymaker(s).'

While this statement is generally welcome, it is not completely clear, but it should be noted that the instructions make no specific reference to the provisions of section 504, Taxes Act 1988.

Caravans

The issue of business property relief on caravan sites is far more problematical, and the Revenue has so far held firm to the 'holding investments' principle. It seems that the taxpayer(s) must demonstrate that the purpose of the business does not consist wholly or mainly in 'holding investments'.

The score in cases heard by the Special Commissioners and courts is currently 3-1 to the Revenue. Appeals by the taxpayer failed in Hall and Hall (Hall's Executors) SpC 114, Powell v Halfhide (Pearce's Personal Representatives) SpC 120 and Weston (Weston's Executor) [2000] STC 164 on the basis that the relevant business consisted in 'making or holding investments'.

However, in Furness SpC 202 the taxpayer managed to convince the Special Commissioners that the business did not consist 'wholly or mainly with the holding of investments'. A father and son operated a large holiday park in partnership, licenced for 218 static caravans and 8 touring caravans. The crucial point was that less than 50 per cent of the park's profits came from caravan rents, with a significant percentage from the sale of caravans. Additionally, the maintenance of the caravan park involved the employment of three full-time employees.

One awaits successful appeals in the High Court and above. It is clear that demonstration of a business rather than a letting is the key to a successful claim for business property relief.

Value added tax

Those with a cursory knowledge of value added tax, such as the writer, would expect that the income of caravan parks and furnished holiday lettings would be exempt.

However, this is not correct and furnished holiday lettings are normally standard rated under the provisions of Notes 11 to 13, Item 1(e), Group 1 of Schedule 9 to the Value Added Tax Act 1994. Paragraphs 10 to 12 of VAT leaflet 709/3/93 deal with this issue.

Under Item 3, Group 9 of Schedule 8 to the Value Added Tax Act 1994, and Item 1(e), Group 1 of Schedule 9, standard rating also applies to holiday accommodation provided in any type of caravan already sited on a pitch. This treatment does not extend to permanent residential caravan parks, where the pitch fees are exempt.

Conclusion

It can be seen that treatment of furnished holiday lettings and holiday caravan parks as businesses still has some tax anomalies, notably within the inheritance tax legislation and practice. It is to be hoped that the more lenient line taken by the Capital Taxes Office to furnished holiday accommodation will now be extended to holiday caravan parks.

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