BIM56405 - Film and audio products: tax deferral schemes for qualifying films: overview

The accelerated deductions for qualifying British films at F2A92/S42 (Section 42), F2A97/S48 (Section 48) and ITTOIA/S138 to S140 (see BIM56325 and BIM56380) are rarely accessed directly by film producers. Instead, producers usually obtain a cash benefit from the reliefs indirectly through arrangements with third party investors, who are usually partnerships of wealthy individuals or subsidiaries of banks, and who have taxable income to shelter.

The most common arrangements are sale and lease back schemes, although other schemes have also been marketed which purport to achieve a similar effect through production and licence arrangements. The schemes enable third party investors to defer their tax liabilities for up to 15 years in return for making an investment in films. Broadly the schemes work by the investor incurring expenditure on the acquisition (or production) of the master version of a film and then leasing (or licensing) the film back to the film producer or a distributor for up to 15 years, with the lease rentals (or licence fees) providing an income stream which is spread over this period. The investor obtains the benefit of a relievable loss through the accelerated deduction, which it uses to shelter other income and gains from tax.

The investment is usually funded by cash (of an amount proportionately less than the marginal tax rate of the investor) and a secured loan. The producer has to provide security for the loan – usually by making a balancing deposit. The producer is able to keep the difference, less arrangement and administration costs, between the security deposit and the amount paid for the film. The investor obtains a cash flow benefit after claiming loss relief, but must pay tax on the income stream, which also has to be used to repay the loan – the net result being a deferral of tax, which is financially equivalent, from the investors perspective, to a low interest loan over the period of the lease or licence.

Detailed examples showing how these arrangements work for a partnership of individuals and a company are shown at BIM56455 and BIM56460 respectively.

The remainder of this chapter looks at the tax treatment of these arrangements, and highlights particular avoidance issues to look out for. Most film investment has been through sale and leaseback schemes and this chapter concentrates on these arrangements. Production and licence schemes are often designed to be financially similar in effect to sale and leaseback, although a large proportion of those that we have seen appear to be part of tax avoidance schemes involving double dipping (see BIM56360) or partnership loss manipulation (see BIM56535). Early investigations into these schemes suggest that it is doubtful whether many of these schemes meet the statutory requirements for relief, and all production and licence schemes should therefore be referred to CT&VAT (Technical) for advice.

It is also possible that, where a production and licence scheme is used as part of a double dip, relief claimed for acquisition expenditure in a subsequent sale and leaseback transaction may be inadmissible because of the provisions in FA02/S101 (see BIM56530). These sale and leaseback schemes should also be referred to CT&VAT (Technical).

Principles of sale and leaseback

Leasing arrangements are often attractive to the users of assets that qualify for tax reliefs. Leases of chattels fall into two categories, operating leases and finance leases.

An operating lease is one where the risks and rewards of ownership rest with the lessor and is primarily aimed at providing the lessee with the use of an asset for a period of time. A finance lease is one where the risks and rewards of ownership rest with the lessee and, as the name suggests, is primarily concerned with providing finance to the lessee. Generally, film sale and leaseback arrangements involve finance leases.

Finance leases are a means of providing finance at rates that are generally more beneficial than straightforward loans secured on an asset because the lessor can pass on some of the benefits obtained from being able to access the tax relief. They are commonly used in the acquisition of master versions of qualifying films that are leased back to someone, generally the person who has produced the film, who can then exploit the film commercially. The lease rentals are economically (and for accountancy purposes – see BIM56410) equivalent to repayments of interest and capital on a loan, but for tax purposes the lease rentals are revenue deductions treated the same as rental payments under an operating lease ( BIM56420).