Norton Rose’s Judy
Harrison and Layla Kattan explain how the Finance Bill 2011 affects
Finance Bill 2011 will
contain two sets of draft legislation aimed at the leasing
industry. The first will seek to preserve the current tax position
of companies affected by the International Accounting Standards
Board’s (IASB) proposed changes to lease accounting.
The second is aimed at a tax
avoidance scheme involving long funding finance leases and residual
The 2011 Budget may contain
further announcements which affect leasing companies, and if so
these will be covered in May’s edition of Leasing
Finance Bill 2011 will
contain legislation which provides that, in calculating the amount
of a person’s taxable profits, one must ignore any changes to a
lease accounting standard on or after 1 January 2011 other than a
change which permits, or requires, a person to account for a lease
in a manner equal to that provided for by the International
Financial Reporting Standard for small- and medium-sized
The reason such change is
needed is that the tax treatment of lease income depends on the
accounting treatment. For example, there are several provisions of
tax legislation where the taxation of a lease
(either as lessor or as lessee) depends upon whether it is a
finance lease or an operating lease.
This change has been
triggered by the announcement of proposals by IASB to change the
way leases are accounted for, although the draft legislation
encompasses all future changes to lease accounting and not just
those currently proposed by the IASB.
The IASB is proposing to
remove the distinction between finance leases and operating leases
from the perspective of a lessee. Lessors will still be required to
classify leases and adopt different accounting practices depending
upon the classification.
The classification will be
based on similar criteria to the finance lease/operating lease
distinction in current accounting standards.
Where a lessor has retained
significant risks in an asset, it will be required to adopt the
performance obligation approach. For other leases, the lessor will
be required to adopt the derecognition approach.
The draft legislation aims to
ensure that businesses that account for lease transactions continue
to be taxed in the same way as they are at present following a
change in the accounting standards. In calculating accounting
profits, companies will need to use whatever accounting standard is
in force at the time.
For tax purposes, companies
will need to compute their accounting profits under the lease
accounting standards in force on 1 January 2011. The need to
calculate a second set of profits will impose a cost on those
businesses that lease assets either as lessor or as
Such cost will presumably
increase over time as it becomes more difficult to find advisers
who are suitably qualified to advise on the accounting standards in
force on 1 January 2011.
Some readers may recall that,
in the context of securitisation, a similar approach was adopted on
a temporary basis in calculating taxable profits.
Nothing in the draft
legislation or guidance indicates that the UK government intends
these changes to be temporary although we understand that this is
intended to be no more than a short- to medium-term
However, it is to be hoped
that in the not too distant future a more practicable long-term
solution is found.
Long funding leases and
residual value guarantees
Legislation will be included
in Finance Bill 2011 to combat a scheme whereby a long-funding
finance lease would be granted and the lessee group provide a
residual value guarantee to the lessor.
On expiry or termination of
the lease, the residual value guarantor would make a payment to the
lessor. The benefit of this scheme was that tax relief was
available for the residual value payment more than once – the
guarantor would get relief for making the payment and the lessee
would have increased capital allowances and a lower disposal value
as a result.
The new rules apply where the
amount payable under a residual value guarantee attracts tax relief
(other than where the lessee is entitled to a greater amount of
capital allowances or to bring a lower disposal value into
They operate to: decrease the
amount of qualifying expenditure available to lessees under long
funding finance leases by the value of the residual value guarantee
for any arrangements entered into on or after 9 March 2011; and to
increase the amount of the disposal value to be brought into
account by the lessee on expiry or termination of the long funding
lease by the value of the residual value guarantee where any
payment is made on or after 9 March.
While these rules have been
introduced to combat a particular tax avoidance scheme, they
potentially have wide application. They will need to be considered
whenever residual value support is obtained for a long-funding
Judy Harrison is a senior
associate and Layla Kattan an associate at law firm Norton