- Payment for an asset – the lease
- Not to be confused with rent paid in advance
- Part subject to income tax up to fifty years term, balance subject to Capital Gains Tax
SHORT LEASES (UP TO FIFTY YEARS TERM)
A premium is a price paid for a lease. A lessee (tenant) may be willing to pay such a price if the rent is below market value or because there is some other reason why he wants to rent a particular property.
A lease always specifies a rent. This can be as little as a peppercorn and as much as many millions of pounds. The “premium lease” is usually for periods longer than one year and often confers on the lessor more rights and obligations than would be found in, say, a one year lease.
A Premium is not to be confused with rent paid in advance. A lease with only rent will not mention a premium. A “premium” lease (or the assignment of a lease) will specify the amount of the premium as well as the rent.
The premium is subject to both Income Tax and Capital Gains Tax. The calculation of the amount of the premium (of a lease of fifty years or less) subject to income tax as follows: The taxable amount, which is taxed in the year the lease is granted is
Where P is the premium and Y is the number of complete periods of twelve months after the first. (ITTOAI 2005, part 3, Chapter 4)
For example, if the premium is £100,000 and the term of the lease is 25 years the arithmetic is
£100,000 x (50-24) = £52,000 / 50
It follows that if the lease is for one year the whole of the premium is subject to income tax and none is subject to CGT. If the lease is for two years then 49/50 (98%) of the premium is subject to income tax. The remainder of the premium (that is not subject to income tax) is subject to Capital Gains Tax.
Any rights the tenant has to extend the lease may be taken into account. Where the premium is paid by installments, the tax may be paid in installments.
If the lessee assigns the lease to a new lessee for a premium then a similar calculation applies: The amount of the premium paid on assignment and subject to income tax is found by the formula above, however there is relief available when it is a “taxed lease” (i.e. one that has been a charge to income tax). The relief is given by the formula
Where PC is the amount subject to income tax in the previous transaction, LRP is the receipt period in the present assignment and TRP is the receipt period in the previous transaction. There are various anti-avoidance provisions so that relief cannot exceed the amount from which it is deductible.
If you acquire a lease of less than fifty years term on a property that is to be part of your lettings business then the relief you get for the premium paid is even more complicated. The relief is the amount assessed to income tax on the assignor/lessor expressed as a daily rate. This is then subject to the normal “wholly and exclusively” rule. If however the lessee or assignee is entitled to relief as shown above then he may only claim relief as an expense for the lettings business to the extent that the daily amount exceeds the amount already relieved. (You cant claim the relief twice!)
LONG LEASES (OVER FIFTY YEARS TERM)
This most often occurs when a leasehold flat is bought. The purchase and the costs of purchase are deductible from the sales proceeds when calculating the chargeable gain for Capital Gains Tax purposes. It follows that there is no relief for the cost of a long lease or the expenses incurred in acquiring it for income tax purposes.