Farming clients: inheritance tax relief
Background
In broad terms, agricultural property relief (APR) works in a similar way to the better-known business property relief (BPR), in that it reduces the value of qualifying assets when valuing the estate for inheritance tax (IHT) purposes and can apply to both lifetime transfers and inheritance via a will. The applicable rate is either 100% or 50%, like BPR.
However, APR is far more restrictive than BPR and can only apply to qualifying agricultural property. As a result, HMRC looks at all claims for the relief very closely. This means that even clients who on the face of things are clearly carrying out farming, or other agricultural activities, should seek ongoing advice.
The relief is restricted to the agricultural value of the property, not the market value. The impact of this is considered later on.
Practice point. Additionally, the agricultural property in question must be situated on the UK mainland, the Channel Islands or the Isle of Man.
Practice point. Since 22 April 2009, property located in the European Economic Area can also qualify.
Qualifying property
Qualifying agricultural property is defined in s.115(2) Inheritance Tax Act 1984 (IHTA) . It includes agricultural land or pasture used for growing crops or rearing animals intensively, but additionally can also include:
- woodlands occupied with and ancillary to land or pasture
- farm outbuildings, e.g. barns, occupied with and ancillary to land and pasture
- farmhouses and cottages if they are of a “character appropriate” to the land or pasture; and
- land being used for a habitat scheme.
In order for relief to apply to the agricultural property, it must be being occupied for agricultural purposes at the time of the transfer. For the purposes of this article, we will assume we are looking at a potential transfer on death.
This dual requirement means that simply buying a farmhouse with some surrounding fields is not effective IHT planning, despite what some clients (and even a few solicitors!) seem to think. It is the underlying activity that drives the relief, just like BPR. If there is no activity, there can be no relief.
Practice point. Note that the relief is restricted to land, and so cannot apply to equipment and machinery, livestock, crops, or any property subject to a binding contract for sale. However, BPR may be available in some cases.
Shares can qualify for APR if the holding in question gives the owner a controlling interest, i.e. an incorporated farming business is not excluded.
Agricultural purposes
There is no statutory definition of “agricultural purposes” for APR purposes. HMRC’s guidance at IHTM24061 (see Follow up ) gives some guidance. An example of where usage will fall on either side of a fine line would be grazing. Use of a field for grazing horses used in a farming business, or a stud farm would satisfy the condition. However, merely receiving payment for allowing horse owners to graze their animals is not, as there is no tie to an agricultural purpose. Relief may need to be restricted if, say, there are two fields, one of which is used for agricultural purposes and the other is not. Interestingly, the legislation does not require the agricultural endeavour to be a profitable one, it is the scale of the activities that appears to be crucial.
Holding period
There is of course a minimum period of ownership, similar to that for BPR. For APR, the holding period depends on whether the property is used for the qualifying purpose by the owner, or whether it is let out under an agricultural tenancy. The holding period is:
- two years, ending with the date of transfer if the owner occupies the land for agricultural purposes; or
- seven years, ending with the date of transfer if the occupation for agricultural purposes is by someone else.
Rate of relief
The full 100% APR is given where the property:
- is in vacant possession by the transferor
- is subject to a lease granted on or after 1 September 1995
- includes a right to obtain vacant possession within 24 months
- has a tenant which is a company controlled by the transferor.
In all other circumstances agricultural property that fits the eligibility and ownership criteria qualifies for relief at 50%.
Agricultural value?
It is crucial that your clients understand that the relief only applies to the agricultural value of the property in question. This means the value of the land if it were subject to a perpetual covenant prohibiting its use otherwise than as agricultural property.
Practice point. A rule of thumb is to use 70% of the open market value as an approximation of the agricultural value. This generally applies, unless there are particular circumstances that dictate otherwise.
In practice, this value is usually lower than the unrestricted market value, especially if there is potential development value, e.g. for land. The excess cannot attract APR. However, if the owner is carrying on agricultural activity to a sufficient extent to constitute a “business”, the excess value may be covered by BPR. Obviously, this cannot generally apply if the land is tenanted with someone else. If there is a mixture of activities, it will depend on whether the enterprise is mainly of a business nature.
Case study - BPR
In HMRC v Brander [2010] UKUT 300 (see Follow up ), a mixed agricultural estate was held to be a single composite business. There was a mixture of trading (agricultural activities) and investment (letting of property). As the test for BPR is that the enterprise must be “wholly or mainly” of a business nature, the tribunal had to decide whether the investment activities were the dominant ones - in which case, no relief would be due on the non-agricultural assets of the estate. The Tribunal opined that the activities had to be considered as a single entity, and that the investment activities were merely a part of a wider business, namely running the estate. The main activity was farming, and so BPR was allowed in full.
Reliance for planning
If the Brander principle is to apply, it’s essential to ensure that the business is run as a single composite business. This should be done with long-term planning in mind, as HMRC is likely to take a strong stance against any relatively recent action taken to try to dress-up the various business activities as a single entity. It will take more than just drawing up a single set of accounts. Discuss the following possibilities with clients:
Management. Have a single management hierarchy, with the business strategy, accounts, bank accounts and staffing done as a single business.
Ownership. Keep the ownership structure as uncomplicated as possible.
Employee time. Ensure employees work on both trading and investment activities, and that time is recorded accurately to show this.
Use of assets. Where there are assets like cottages, consider letting them to key farm workers.
Practice point. If it appears that the investment activities will dominate the trading ones, it would make sense to segregate them. A simple way to do this would be to form a company to run the investment business. This could also be an opportunity to undertake some more in-depth IHT planning, for example with careful share structuring to bring children into the ownership, i.e. setting up a family investment company.
The farmhouse
Perhaps the biggest concern for clients will be whether the farmhouse will qualify for APR. Again, it’s important to remember that APR can only relieve the agricultural value. The market value may be higher, for example if the property is located in a desirable area. The starting point is that the farmhouse must be occupied for the purposes of agriculture for APR to apply.
This could be interpreted as meaning that APR can’t apply if the agricultural land is tenanted. However, in The Executors of T. Gill (deceased) v HMRC [2019] (see Follow up ), a claim to both APR and BPR was allowed. The deceased had owned and occupied the farmhouse but let out parcels of land for the rearing of animals. HMRC’s objection was that there was no farming activity because he did not own the animals in question. However, the Tribunal found that he was actively involved in the care of the animals, as well as the maintenance of the land. These activities were undertaken with sufficient degree to be comparable to a working farmer, and the appeal was upheld accordingly.
Appropriate character?
If there is farming activity linked to the house, the next test to consider is whether the house is of “character appropriate” to the farming business. This can cause issues where the house is very large, but the surrounding agricultural land is modest in comparison. There are no limits on size or guidance as to what would be considered “disproportionate” in the legislation. However, you should refer to a number of useful cases on the issue. The overarching question is whether the house is really a grand house that just happens to have some land. Possibly the most important case to review is that of Arnander (Executors of McKenna dec.) v HMRC [2006] STC 800 (see Follow up ). The estate in question had a farming history dating back to the 14th century. The house was very substantial, and there were extensive gardens as well as farm buildings. The owner had undertaken about an hour of work daily until illness prevented this. The farming was then undertaken by contractors and managed by a land agent. Upon the death of the owner and his spouse, the claim for APR was challenged by HMRC. The case was heard by the special commissioners, who made the following key findings:
- the house was not a farmhouse based on the tests set out in earlier cases, including that the farmhouse was not the centre of management for the farm, and was not occupied for the purposes of agriculture
- the house would have failed the “character appropriate” test in any case, and a layman would conclude it was a large country house - it probably didn’t help that the house had been sold and marketed as such following the deaths of the owners; and
- most of the outbuildings were not being used for agricultural purposes.
Retiring farmers
Problems can arise for sole traders who retire or at least scale down their farming activities significantly, or need to move out of the farmhouse, e.g. to go into assisted accommodation. One way of avoiding issues would be to set up a partnership, say with one of the children who are intending to take over the business, with the house becoming a partnership asset. That partner can then occupy the farmhouse, potentially satisfying the condition of occupation for the agricultural purposes linked to the farmland.
Tax planning
As with BPR, it usually makes no sense from a tax perspective to leave assets qualifying for APR to a spouse or civil partner. Discuss the possibility of leaving other assets, e.g. cash or share investments, to a spouse instead, with the agricultural property left to the next generation or to a family trust. Of course, the spouse could then buy the land back. Review the wills of farming clients to spot opportunities here.
Practice point. If you are advising the executors of an estate, consider the possibility of using a deed of variation if qualifying property has been left to a spouse.
The earlier that planning is undertaken, the better. If the intention is for children to inherit a farming business, using a farming partnership with the house and land held as an asset, rather than retaining personal ownership, can be a very efficient strategy.
Practice point. However, this is a complex area and you should advise in conjunction with a solicitor who is familiar with agricultural matters when structuring the partnership.
HMRC guidance: IHTM24061
HMRC v Brander [2010] UKUT 300
The Executors of T. Gill (deceased) v HMRC [2019]
Arnander (Executors of McKenna dec.) v HMRC [2006] STC 800
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