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HMRC issued a press release on Friday 2 March announcing severe restrictions on the ability of individuals in partnerships which invest in British films to claim sideways loss relief. The rules announced are to have immediate effect.
There then followed a period of uncertainty in response to which HMRC issued a further press release on Wednesday 7 March clarifying that the new rules will not apply to partnerships established for the purposes of investing in sale and leaseback transactions.
Background
A number of partnerships, relying on UK Generally Accepted Accounting Principles (GAAP), have been established. Under these schemes, investors become a partner in, and contribute to, a partnership whose trade involves the production of a film or films. The partnerships combine a real equity investment in the underlying films with a measure of tax relief, which depends upon the actual performance of the film. The partnerships prepare their accounting statements based on UK GAAP and allow investors to benefit from the upside from the underlying films, while using the tax relief that may arise in the early trading years, when it is likely that the partnership will sustain a loss, to limit the downside.
The tax efficacy of these partnerships is based on ‘sideways loss relief’. Individuals who carry on a trade (on their own or in partnership) can set off their losses, or their share of these losses, against their other income under sections 380 and 381 Income and Corporation Taxes Act 1988 (ICTA 1988) or against their chargeable gains under section 72 Finance Act 1991 (FA 1991).
The extent to which relevant partners (being those who spend an average of less than ten hours per week actively involved in the partnership trade) can claim sideways loss relief for their share of trading losses is restricted, broadly to the amount of capital that the partner has contributed to the partnership (sections 117, 118ZB and 118ZE ICTA 1988).
Under the changes announced on Friday additional restrictions will apply to the amounts that a relevant partner may claim as relief for trading losses under sections 380 and 381 ICTA 1988 and section 72 FA 1991.
There will be two changes affecting the amount of trading losses for a tax year for which a relevant partner can claim sideways loss relief, a ‘purpose’ test and an annual limit.
‘Purpose’ test
A partner’s contribution of capital to the partnership for the purpose of applying restrictions in sections 117, 118ZB and 118 ZE ICTA 1988 will exclude any amount of capital paid by a partner to the partnership where the main purpose, or one of the main purposes, for contributing the capital to the partnership is to obtain a reduction in tax liability by means of sideways loss relief.
The ‘purpose’ test will apply to all contributions of capital paid by a relevant partner to a partnership on or after 2 March 2007. Where an individual has entered into an agreement prior to 2 March 2007 containing an obligation to contribute capital to a partnership, the new purpose test will not apply.
Annual limit
The limit on the amount of trading losses for a tax year for which sideways loss relief can be claimed by an individual who is a relevant partner will be the lower of:
- £25,000; or
- the amount of trading losses for that tax year for which the relevant partner can claim sideway loss relief after applying restrictions based on capital contributions ins sections 117, 118ZB and 118ZE ICTA 1988.
Comment
It was feared that the changes announced on Friday would have implications not only for GAAP partnerships but also for partnerships which have been established for the purposes of investing in sale and leaseback transactions.
Following significant lobbying from the film community on this point the Government issued a further press release on 7 March clarifying that the new rules will not apply to losses derived from relevant film-related expenditure in the context of sale and leaseback partnerships. This news came as a great relief to the operators and partners involved in the 90 or so sale and leaseback transactions currently in process. As previously reported, HMRC have extended the date by which sale and leaseback transactions must take place to 31 March 2008, and it is now clear that the new rules announced on Friday will not impact upon partnerships established for the purposes of investing in these sale and leaseback transactions.
Jonathan Blair
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Simkins' early warning bulletins are for general guidance only. Legal advice should be sought before taking action in relation to specific matters. Where reference is made to Court decisions facts referred to are those reported as found by the Court. Please note that past bulletins included in the Archive have not been updated by any subsequent changes in statute or case law.
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