BIM61185 - Leasing: Finance lessees: fixtures

Special problems are raised in the case of fixtures which count as machinery and plant for capital allowances purposes. As a matter of general law it is not possible for a fixture to be leased by anyone other than the freeholder. This is because an asset is leased when the owner (the lessor) hires it out to the user but does not transfer title. A fixture will normally belong to the freeholder of the real property to which it is attached and the freeholder will not normally be the finance lessor.

Deemed leases of fixtures

Nevertheless, the capital allowances fixtures code contemplates that a lease of a fixture may exist for capital allowances purposes where the lessor does not own the fixture (often referred to as a `deemed lease'). This can happen where either:

• the lessor has an interest in the land in respect of which the expenditure on the fixture is incurred; or
• there is an election by lessor and lessee.

In both cases the lessor is treated as owning the asset and title to capital allowances passes to the lessor, see CA26200.

The principles set out in SP3/91 apply to leases of this nature. But the tax treatment of the lessee on the termination of leases of this kind can raise specific points.

Deemed lease – lump sum paid to terminate

In particular a specific point arises where:

• leased machinery or plant takes the form of fixtures in a building;
• the circumstances are those set out in CAA01/S177, see CA26200 onwards;
• an election is made to ensure that the lessor obtains capital allowances;
• the lessee negotiates release from the agreement by the payment of a lump sum;
• the machinery and plant fixture is treated for capital allowances purposes as ceasing to belong to the lessor and as belonging to the lessee, see CA26700 onwards;
• any `capital sum' paid by the lessee to the lessor is treated as being the price obtained by the lessor for the sale of the fixture and as being the expenditure incurred by the lessee on the provision of the fixture.

In these circumstances it may be necessary to analyse the `lump sum' payable by the lessee to the lessor between an adjustment to past revenue outgoings (which would itself be revenue) and the balance consisting of the `capital sum' dealt with under the capital allowances code.

How that amount should be analysed into its various components is a question of fact. In practice, the `capital sum' attributable to the machinery and plant fixture can be accepted as being equal to the smaller of the book value of that asset in the lessee's hands immediately prior to the termination of the lease or the `lump sum' paid on the termination. However, this treatment can only be used where:

• both lessee and lessor agree to adopt the same basis, and
• the fixture has been depreciated by the lessee prior to the transaction in accordance with correct accountancy principles.

Any balance of the lump sum (after deducting the capital element calculated in this way) is a revenue outgoing deductible in the period in which the termination takes place, to the extent not reflected in deductions for earlier periods.

Deemed lease – lease period shorter than life of asset

The fixtures may cease to be subject to the `deemed lease' before the end of the useful economic life of the asset. For example, with a sale and leaseback, as a matter of general property law the lessee may always own the fixture and will actually keep the asset when the `deemed lease' ends.

In these circumstances the rentals should be allowed as revenue deductions over the full economic life of the fixtures concerned in the user's hands, whether or not the fixture remains subject to the fixtures lease. The rate of depreciation of the asset in accounts drawn up under SSAP 21 is likely to provide a means of ensuring an acceptable spread. This is because the lessee actually owns the asset as a matter of general law and so the depreciation will be based on the true life of the asset and not on the length of the finance lease.

To give a deduction for unallowed rentals in the year of termination of the deemed lease would be contrary to the intention behind SP3/91, which is to ensure that rentals are matched with the income the asset can be said to generate in accordance with the accruals concept.