Stamp duty soldiers on

As those working in the field know, and those afflicted by its produce learn all too frequently, tax is a fast-moving area.  Years of investment and learning by tax advisers can be reduced to the condition of decaying crops by a Chancellor’s whim, as the demise of such gems as development land tax and investment income surcharge are replaced by bright new fields of landfill tax and insurance premium tax.  But in the mixed farm of tax revenues, some perennials seem to be irresistible.  Stamp duty is among the best examples.

The current governing legislation dates from 1891, although the origins of the tax lie two centuries earlier than that.  It has not been consolidated since 1891, despite a wealth of changes over the years - perhaps especially in recent years.  It does not feature highly in the programme for tax simplification.  Most surprisingly of all, perhaps, the death sentence on the duty (at least for one of its main targets) is already on the statute book.  Finance Act 1991, section 110, under the bold heading “Stamp duty abolished in certain cases”, removes the charge on virtually everything except land, from the apocalyptically named “abolition day”.  But like other apocalypses, if they can exist in multiples, this one seems to be slow in arriving.  It is doubtful whether it will ever be introduced, although pressure grows as “tax competition” increases in relation to the transfer of shares in particular.

Thus stamp duty soldiers on, with a new(ish) sibling in the shape of stamp duty reserve tax - a duty with more similarities in the name than anywhere else.  It is notoriously easy to collect, with much of the administration passed to taxpayers and especially their advisers, long before the days of self-assessment.  While enforcement of payment has never been among its strong suits, the basic need for third party registrations of transfers and securities assists greatly in the incentive to pay the correct amount of duty.

Its current yield is some £4billion per annum; and this figure is projected to rise (considerably) as a result of measures already announced.  For a Government which wishes to reduce the overall burden of taxation (albeit slightly), but which appears to prefer reductions in areas which would attract more headlines, this seems too tempting a figure to give up.  But tinkering at the edges is by no means impossible.  Nor are further increases in rates, especially for more expensive transfers of land.  The current top rate is 3.5% for transfers where the consideration exceeds £500,000.  While historically this is quite high in this country, the rate of equivalent taxes in other countries can be much heavier - and on property of much lower value.

Abolition of stamp duty has been touted as a possibility in the press recently, given the likely surplus available to the Government.  The most logical case for this remains in relation to share transfers, where other countries with competing exchanges have much lower or non-existent rates.  Advances in technology make trading in shares progressively easier and less tied to any geographical location, thus increasing the possibility of the revenue from stamp duty disappearing altogether or going elsewhere.  The duty on such transfers is only 0.5%, albeit on a very substantial grand total.  But one distinct possibility is a further reduction of this duty, to be balanced elsewhere by increases in the duty on those notoriously immoveable assets, land and buildings.

Other candidates for reduction or exemption could be other forms of business assets, to encourage entrepreneurial activity.  This, among other ideas for reform, was put forward by the Chartered Institute of Taxation in 1999.  But if the duty does fall or disappear for some transactions, this may lead to increases for others - particularly in relation to land.

When one reads in the general press about increased rates for high value transactions, the emphasis is always placed on domestic properties.  The £500,000 house may be very much more common in the South East of England than in Scotland, but it is still a relative rarity.  In fact, even in other parts of the United Kingdom, the increased rates of stamp duty affect many more commercial transactions; and the yield from these high value transfers is essentially a tax on business.  But this still does not greatly lessen the attractions of increasing the rates on such transfers - the affected constituency is for the most part a combination of millionaire homeowners, property developers and property investors.  It might be difficult to put together a list less likely to attract public sympathy, unless it were possible to add lawyers and journalists to the list.  Thus the prospects of increased stamp duty for at least expensive properties looks to be quite a realistic one.

In this context, stamp duty planning becomes more and more relevant.  A recent case might point to sonic possibilities, although it is very much subject to further stages in the appeal process.

In Swallow Hotels Ltd v IRC [2000] STC 45, the appellant was a tenant under a 30 year lease, granted in pursuance of an agreement made on 26 September 1992.  The lease granted an option to the tenant to take a further lease, this time for 999 years.  There were complex provisions detailing when and how this option could be exercised; and providing a formula to calculate the price to be paid on the exercise of the option by the tenant.

The option was exercised on 26 September 1997; and the result was that the landlord granted a 999 year lease to the tenant, for a consideration in excess of £14 million.  Following changes made by Finance (No 2) Act 1997, section 49 (passed shortly after the current Government came into office), the rate of duty on this consideration would be 2% (doubled from the previous rate of 1%), unless this transaction fell within the transitional provisions.

These were in section 49(6) and were in the form commonly used for increases in stamp duty: “This section shall apply to instruments executed on or after 8th July 1997, except where the instrument in question was executed in pursuance of a contract made on or before 2nd July 1997”.  (The short gap between these dates is another common feature of stamp duty rate changes - 2nd July was the date of the Budget, while 8th July was the date of the necessary resolution passed to give temporary effect to the change.)

When the new lease was presented for stamping, the Inland Revenue made an adjudication that the duty was payable at 2%.  In the appeal, the tenant argued that the only contract between the parties was the 1992 lease, clearly entered into before 2nd July 1997, The exercise of the option was not a new contract.  Any other construction would involve writing additional words into the statute.

The Revenue argued that in effect the exercise of the option was a new contract and that it was this contract which had brought the new lease into existence.  The decision whether to exercise the option was one to be taken by the tenant.  The Revenue accepted that their construction would involve limiting the application of the transitional provisions to options which would bind the purchaser.

The Vice-Chancellor said that the question of options had not been considered in the transitional provisions, but they had to be applied in any event.  The solution had to be found which would produce the same result whether or not it was the landlord or the tenant who could exercise the option.

Applying this view, he was clear that although the 999 year lease had been executed in pursuance of the exercise of the option in September 1997, it had also been executed in pursuance of the provisions contained in the 1992 lease.  Both had to be regarded as relevant, and if that was the case, the 999 year lease fell within the transitional exception.

The question was clearly one of some difficulty and leave had been granted to appeal to the Court of Appeal.  Thus if there are further changes of rates in the next Budget, it cannot be known whether similar arrangements completed before the relevant date for such changes will succeed in preserving the old rates.  The draftsman will be as aware of the possibilities as anyone else and may introduce provisions to deal with options.  But in suitable transactions, it may well be worth inserting option provisions, with a long-term view to keeping the benefit of lower rates for as long as possible.

More simply, the approach of a Budget indicates the desirability of concluding at least contracts before Budget date if at all possible.  (In the unlikely event of a fall or abolition of stamp duty, it will generally be possible to unscramble arrangements should this be necessary.)  More generally, a Budget focuses attention on the need for stamp duty planning, if this is possible.

There are two sides to stamp duty planning.  One involves taking care not to pay unnecessary charges which might catch the unwary.  This can involve structuring transactions in particular ways (especially where there are a large number of parties involved); avoiding full transfers of property more often than is absolutely necessary; and restricting the amount of consideration which may be deemed to pass under a particular instrument (where this can be done legally).  All too often, an unexpected stamp duty charge can emerge long after a transaction has taken place, which may be too late to take avoiding action.

The second side of stamp duty planning is more ambitious.  It too involves careful structuring of transactions, but in this case the aim is actually to remove or reduce a stamp duty charge which would be properly due if a different course of action were adopted.  Such avoidance is perfectly legal.  It is to be distinguished from evasion, which involves the deliberate refusal to pay the correct stamp duty due.

Both types of stamp duty planning share a common characteristic (one which is really true of all effective tax planning) - plans are best carried out early, especially where a Budget is imminent.  If matters get too advanced in a transaction, or a series of transactions, it may no longer be possible to get a hand down the stamp duty drain, to prevent a heavy charge arising.  Careful stamp duty planning may even make property more attractive to an eventual purchaser, who may be prepared to share any savings with the well prepared seller.

One of the biggest developments in stamp duty planning in recent years has been the use of “SPVs” in property transactions.  The initials stand for “Special Purpose Vehicle” (or possibly “Single Purpose Vehicle” or even “Single Property Vehicle” - these are distinctions without a difference).  Such a vehicle is a company whose sole reason for existence is to hold a property to be sold.  The sale then takes place not of the property, but of all of the shares in the company which holds it.  As noted above, sales of shares only attract stamp duty at 0.5%, rather than at rates of up to 3.5%.

The strategy is however surrounded by pitfalls, which require to be addressed from the outset.  The purchaser may not want to buy a company rather than a property.  Buying a company involves more complex investigations and different documentation.  Other tax considerations may come to the fore - for instance, because the sale of shares is outwith the scope of VAT, the VAT on ancillary costs in making the acquisition will not be recoverable.  Although the company should be as “clean” as possible, it may have been in existence for rather longer than a purchaser would like.  There may well be other tax issues arising from the transfer to the company, especially if it is necessary to extract the property at a later date.  Issues of company law may require to be considered.  But all of these difficulties, and indeed others, may very well be worth facing if the alternative is a stamp duty bill of 3.5% on a very large price.

Despite the pitfalls, substantial saving can result from the use of SPVs.  However, it is fully expected that these will be the subject of anti-avoidance legislation.  This has already led to suggestions that it may be more appropriate to use a company based outwith the United Kingdom, but that in itself can lead to other difficulties.  It is possible that any anti-avoidance legislation may attempt to cover that type of company as well, but that illustrates the difficulties facing the Government in drafting effective provisions.  Many companies hold property - perhaps a single property - for reasons other than potential stamp duty savings.  It will be difficult to define a “tainted” company with any degree of precision.  If past record is anything to go by in these matters, it is likely that any anti-avoidance legislation may hit rather more targets than was intended; and this should certainly be watched by anyone selling or buying a company in the wake of any changes.

All of this indicates the need to look ahead for stamp duty and other tax planning.  Unfortunately, the crystal ball is neither clear nor wholly reliable; and thus preparation always requires to be balanced by reaction - even when that means unscrambling some of the preparation!

Alan Barr is Director of the Legal Practice Unit at Edinburgh University and a Consultant to Brodies WS