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Stamp Duty Land Tax (SDLT)
Guidance on changes to stamp duty for short residential leases and tenancies
Commencement:
The new Stamp Duty Land Tax (SDLT) system came into force on 1 December 2003.
Introduction:
In his Budget Statement on 9 April 2003 the Chancellor of the Exchequer
announced that a modernised system of stamp duty, renamed 'Stamp Duty
Land Tax', would apply to most land transactions on or after 1 December
2003. This change has important repercussions for private
landlords and letting agents, all of whom were previously required to
have tenancy agreements stamped where the rental value of the tenancy
exceeded £5,000 (either per annum, or over the term of the
agreement). In summary, the SDLT system introduces a replacement
tax for stamp duty called SDLT which, for residential tenancies, will
only need to be paid where the lease value exceeds the SDLT threshold -
currently £125,000 , or, strictly speaking, £125,000 at net present
value (NPV - explained further below). Below this threshold, for
the vast majority of private tenancies, no SDLT tax will be payable and
so this change will be a welcome simplification for landlords.
New System:
The SDLT system replaces the previous archaic system of impressing a
physical stamp on documents with a regime in-line with that for other
taxes. People acquiring interests in land are required to submit
a 'Land Transaction Return' to the Inland Revenue along with payment of
the duty. Stamp Duty Land Tax applies (subject to some
transitional provisions) to all 'land transactions' completed on or
after 1 December 2003. 'Land transaction' includes the conveyance or
transfer of a freehold (in Scotland, transfer of ownership), the
assignment or assignation of an existing tenancy and the grant of a new
tenancy. It replaces stamp duty, which is abolished except for
instruments relating to stock and marketable securities, and for
instruments relating to some partnership transactions. We are
likely to see further minor changes to the SDLT rules in the future as
the system is ‘fine-tuned', and further anti-avoidance measures are
incorporated.
Execution Date:
The SDLT rules apply to all land transactions executed after 1 December
2003. In the context of shorthold residential tenancies, this
means that the system will apply to all new tenancies granted or with
commencement dates after this date. Transition rules will apply
to existing tenancies where the tenancy is extended after 1 December
2003.
Net Present Value:
The Finance Act charges Stamp Duty Land Tax on the 'Net Present Value'
('NPV') of rent payable under a lease or tenancy. NPV simply
applies a discount to allow for inflation. For short tenancies
(i.e. 1 to 2 years), the difference between the total rental value and
the NPV rental value will be small enough that, in most cases, the
total rental value will be a close approximation for deciding whether
SDLT will be payable (see examples below). A temporal or discount
rate of 3.5% currently applies to the NPV calculation.
Tax liability and SDLT Thresholds:
The Finance Act sets a threshold of £150,000 for commercial leases,
£125,000 for residential leases. If the NPV rental does not exceed the
threshold, no Stamp Duty Land Tax is charged on the rental element.
If the lease or tenancy appears to be above the threshold, then it will
be necessary to make a calculation of the SDLT payable, based on the
total rental value of the lease adjusted for net present value.
The SDLT is then levied at a rate of 1% on the amount of NPV-adjusted
rent in excess of the threshold. The example 2 below demonstrates
how this calculation works.
Example 1:
John rents a house for his family for twelve months. The rent is
£1000 per month; therefore the rental value over the year's duration of
the lease will be £12,000. The net present value of the rental
over this rental period is £11,594. Because the NPV rental value
is less than £125,000, no SDLT is payable. Calculation:
NPV (year 1) = 12,000 / 1.035 = £11,594.20
Example 2:
Peter rents a house for his family for three years. Under the
tenancy, the rent is £4000 per month for the first year rising to £4400
per month for the second and third years. The NPV calculation is based
on the total rent due each year over the term of the tenancy, and so
for tenancies granted over several years, it will be necessary to split
the rental up into yearly amounts before applying the NPV
calculation. The NPV-adjusted rents in each year period are then
added together to give the total NPV-adjusted rental value.
The NPV of the rental for this example is calculated as follows:
Year 1: 48,000 / (1 +
0.035)
£46,377
Year 2: 52,800 / (1 + 0.035) x (1 +
0.035)
£49,289
Year 3: 26,400 / (1 + 0.035) x (1 + 0.035) x (1 + 0.035) £47,623
The net present value (NPV) of the rents under the lease is £143,289
(the sum of the calculated annual values). Because this is more
than £125,000, the rate of tax is 1%, and the excess over the threshold
is £18,289. SDLT tax payable on this transaction will be £18,289
x 1% = £182.89.
Partial Periods:
If the tenancy is not for an exact number of years (e.g. 18 months),
then a reduced level of rent will be receivable in the final part
year. The NPV discount is applied to the actual rent receivable
in this part year in a similar way. There should be no attempt to
annualise or average the rents.
Tenancy Extensions:
Where a tenancy is extended during the currency of its term, perhaps by
invoking an ‘option to renew' clause in the tenancy agreement, then
this extension is treated as the grant of a new tenancy for the period
by which the term of the tenancy is extended. The NPV's of the
individual transactions should be calculated, and further SDLT tax may
be payable on this second transaction.
However, because this extension will be treated as a transaction linked
with the original tenancy (a ‘linked transaction'), a SDLT liability
may arise even if the original tenancy transaction was below the SDLT
threshold. In this case, the NPV's of the series of exempt
transactions should be added together, and if over the threshold, SDLT
will be payable on the amount of NPV-adjusted rent that exceeds the
threshold.
Periodic Tenancies and Rollover:
If the original fixed term tenancy comes to the end of its term but the
landlord does not require possession of the property, this extension is
treated, in England and Wales, as a periodic tenancy which extends the
term of the tenancy. In Scotland, there is a similar treatment called
tacit relocation. For the purposes of SDLT, the
continuation of an existing tenancy will be deemed to be the grant of a
new tenancy for a further period of 12 months, and so on as the tenancy
extends for each 12 month period. The effect of this implied
extension to the tenancy is the same as for Tenancy Extensions' (see
above), and a further SDLT liability may arise on each extension.
Where a tenancy is granted for an indefinite term, for example as a
contractual periodic tenancy from the outset, the tenancy will be
deemed to be for an initial period of 12 months, for SDLT purposes. As
above, should the tenancy continue after this period, the continuation
will be deemed as the grant of another tenancy for 12 months and so on
with each deemed grant being treated as a ‘linked transaction' - linked
with those previously.
Extension and Break Clauses:
Any break clauses incorporated into the tenancy agreement should be
disregarded for the purposes of calculating the total NPV rental value,
and do not entitle a refund if the tenancy is ended early.
Equally, a clause allowing the option for the tenant to renew is
disregarded in the initial NPV calculation (although SDLT liability may
occur at the point an agreement is made to extend the tenancy - see
‘Tenancy Extensions', above). The initial rental calculation should be
based purely on the stated term of the lease.
Rent Review Clauses:
If the lease contains a rent review clause, then this may affect the
SDLT calculation. If the rent increase is certain, then the
annual amounts of rent used in the SDLT calculation should be adjusted
to allow for the rent increase (see example 2 above). If, on the
other hand, the future rent is not fixed because it is linked to the
retail price index (E.g. RPI plus 5%) then the review amount will be
based on the known amount (i.e. 5%) and the unknown RPI element of the
increase may be disregarded.
Who pays the SDLT ?
For tenancies, it is the lessee or the person to whom the lease is
granted (i.e. the tenant) who is liable for payment of the SDLT (where
applicable), and when there are joint tenants, they become jointly
liable for the SDLT charge. As for house sales, it is the buyer
of the freehold or lease who is liable for paying the SDLT.
Premium Leases:
When a new lease is granted, which includes the tenant paying a premium or an up-front payment, this is called a premium lease.
The value of the premium should be combined with the NPV-discounted
value of the rental payments when deciding whether the lease will
attract SDLT, but the premium should not be discounted using the NPV
method as the premium is received at the beginning of the lease.
The same residential threshold will apply (£125,000) in deciding
whether SDLT is payable on the premium lease, and the amount of tax
payable will be the same provided that the total lease value, including
premium and rental, does not exceed £250,000. Higher SDLT tax
rates will apply for higher lease values.
Transitional Provisions:
The SDLT guidance is not clear regarding the tax position with regard
to the extension of tenancies already in existence. The
suggestion is that SDLT would be payable if the NPV-discounted value of
any rental payment for the term of the extension (if taking place after
the SDLT commencement date) exceeds the published SDLT threshold.
If this situation applies, you are advised to contact the Inland
Revenue Stamp Office for further guidance.
Temporal Discount Rate:
The annual discount rate used for the NPV calculations is called the
temporal discount rate and it discounts future values (mainly to allow
for inflation). The current discount rate is prescribed in the
regulations as 3.5% but is likely to vary if the inflation rate rises or falls significantly.
Enforcement:
We currently have little information on how the new rules are likely to
be enforced on tenants (if indeed they will be for residential
tenancies).
Other Issues:
1. Under SDLT, it makes no difference whether the property is unfurnished or furnished.
2. Provided that the lease is for a residential tenancy, the
different types of residential tenancy (company letting, assured
tenancies etc.) are all liable for SDLT in the same way. Equally,
the type of tenant (individual, company etc.) will not normally make
any difference.
3. There is no longer any relevant distinction between the
original or counterpart copies of the tenancy agreement for tax
purposes. SDLT is not a duty on paper documents; it is the
transaction itself that incurs the tax liability.
4. The old system of granting tenancies for "one year less one
day" for stamp duty avoidance no longer applies. The NPV
calculation is based on the total rent due each year over the term of
the tenancy and it is simply the total rent payable that is important.
Duty of Agent:
Where SDLT applies or is likely to apply to a tenancy, a letting agent
should alert the tenant to his liability to notify the Inland Revenue
of the transaction, and the extent of his liability for SDLT.
NPV Calculator:
The Inland Revenue plans to include a calculator on their website (web
address given below) so that lessees can enter the details of their
lease, and it will calculate their SDLT liability. In the
meantime, most popular spreadsheets (E.g. Excel) include an NPV
function which can work out the values for you automatically.
The Paperwork:
Where SDLT is payable, there is a requirement that the relevant
declaration forms (SDLT1 and SDLT4) must be completed and submitted to
the Inland Revenue. It appears from the guidance, that neither a
landlord nor his agent are responsible for submitting the declaration
forms, although there may be an implied duty of care to inform tenants,
as the responsible parties, of their liability for SDLT.
The regulations include a requirement to notify the Inland Revenue
Stamp Office of relevant transactions. This is done by completing
a Land Transaction Return (LTR) within 30 days of the effective date of
the transaction. In response, the Stamp Office will issue an SDLT
certificate (replacing the current need to get documents stamped).
What happens if you sent in your return late ?
Finance Act 2003 introduces a penalty for late notification and
payment. The fixed penalty is £100 where the return is delivered within
3 months of the filing date, or £200 in all other cases. There is also
provision for tax geared penalties to be charged where the return is
more than 12 months late.
Sources for Further Information:
- Stamp Office SDLT Handbook - available on the Inland Revenue website (below)
- Inland Revenue Stamp Office Website: www.hmrc.gov.uk
- The Letting Centre, website: www.letlink.co.uk
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