The general rules for the allocation of rental business receipts and expenses to the correct tax year are outlined below. In brief, the principles that apply to a trade also apply to a rental business.
Receipts are recognised in accordance with normal accountancy
principles. This means that a taxpayer includes all incomings
earned in the tax year regardless of when they are due or when they
are received. For a trading or professional partnership it is
normally the incomings of the accounting period ending in the tax
year that are included, not the year to 5 April (
Rent is not brought into a year’s tax computation merely because it is received in the year or because it is due to be paid in the year. Equally, rent is not excluded merely because it is received outside the tax year or it is due outside the tax year. Bring in the proportion of the rent which is earned in the year from the tenant’s use of the property in the year. Exclude the proportion which is earned from the tenant’s right to use the property outside the year.
Where, therefore, a lease provides that rent is payable in advance:
Where rent is payable in arrears the same principles apply in reverse:
Andrew lets a property. He charges a rent annually in advance as follows:
Taking account of the odd days from 1 - 5 April the rent chargeable for 2005-06 is worked out like this (rounding each calculation up or down to the nearest pound):
The part of the rent charged for the use of Andrew’s
property in January, February and March 2006 is included in his
2005-06 computation even if none of the rent due on 1 January 2006
is received until after 5 April 2006. See below for more about the
methods of splitting receipts and expenses between tax years.
References to ‘receipts’ throughout this manual assume that the ‘earnings basis’ treatment outlined above is applied.
It follows that receipts may need to be brought in before they have been received in cash. Don’t exclude receipts merely because they have not actually been paid by the year end or because the debt may be bad. But you can, as a separate matter, deduct as an expense the amount of any receipt which has been included in the profit or loss computation and which is genuinely bad or doubtful. There is more about bad and doubtful debts at BIM42700 onwards.
Expenses are also brought into the tax computation using normal
accountancy principles and are the converse of the approach to
receipts. This means that you deduct any allowable expenses (
PIM2000 onwards) which relates to work
done for the rental business, or goods and services supplied to the
rental business, for a particular tax year to 5 April. For a
trading or professional partnership you will normally look at the
expenses of the accounting period ending in the tax year, not the
year to 5 April (
It does not matter whether a bill is paid before or after the end of the tax year. But, obviously, only genuine business expenses can be deducted. A person can’t, for example, claim a deduction for an uncommercial expense, which they never intend to pay.
There are also special rules for the payment of salaries and wages to employees. You can only deduct amounts actually paid in the tax year or within nine months of the end of it - see BIM47130.
Judy owns a property which she lets:
Judy deducts the full amount of the bill from the rental income
for the year ended 5 April 2006. This is the year to which the work
related. That same bill can’t, of course, be deducted again
in the year ended 5 April 2007 when it is paid. This is because the
expenditure isn’t for maintenance work for the year ended 5
April 2007 (and relief has been given in the previous year).
Suppose Judy was also due to pay the following insurance premiums on the property:
Just under three quarters of the £1,000 paid on 1 January 2005 (about £750) provides cover for the period 6 April 2005 to 31 December 2005 (just under nine months). Just over a quarter of the £1,200 paid on 1 January 2006 (about £300) provides cover for the period 1 January 2006 to 5 April 2006 (just over three months). So the total insurance premium deductible for the year ended 5 April 2006 is £1,050, being:
As you will have seen from the examples, it is sometimes
necessary to time apportion figures to find the amount attributable
to the tax year ending on 5 April. To simplify the computations for
the purpose of explaining the principle in Judy’s example,
the five odd days at the beginning and end of the year (1 April to
5 April) were ignored. This can be done provided it is done
consistently for all items in the computation (both receipts and
expenses) and the figures are small. Strict daily apportionment
calculations are needed where the figures are substantial and a
strict comparison would produce a materially different result.
For example, in the case of Judy’s insurance premiums, the apportionment was made using whole months (see example above). A strict daily calculation of the premiums attributable to 2005-06 is as follows (rounding answers up or down to the nearest pound):
The total amount Judy can deduct on the strict basis is therefore £1,052, compared to £1,050 on the whole month basis. The difference here is negligible and the whole month basis is acceptable.
Sometimes landlords will grant a lease with an initial rent-free
period. For example, a landlord may grant a 20-year lease with five
years to run to the next rent review. No rent is payable in the
first year and a rent of £10,000 a year is payable in years 2
to 5 inclusive. There are many variations on this theme.
Accountancy practice in this area is developing. Under UK accounting practice (UITF28) the total rent due is spread evenly over the period of the lease to which it relates. This normally means over the period to the next rent review. Even spreading applies both to the tenant paying the rent under a lease of a property and to the landlord who gets the rent.
In the example, the total rent due in the first five years (£40,000) is split evenly between the years so that £8,000 relates to each of the first five years. The landlord brings in £8,000 of receipts each year. The tenant deducts £8,000 rent each year. This treatment reflects the substance of the matter; there isn’t really a rent-free year - the total rent under the lease secures the property for the whole five years.
A straight-line spread isn’t necessarily the only correct basis, but any other basis needs to be properly justified as being, in all the circumstances, a more rational and systematic solution. In most cases there will be no better way of dealing with the problem.
For periods of account beginning on or after 1 January 2005 companies and other entities, for example partnerships and unit trusts, may use international accounting standards for tax purposes. The international standard equivalent to UITF28 is SIC15 (lease incentives). They give different results:
For more about the relationship between tax and accountancy – see BIM31000 onwards.
The ‘earnings basis’ treatment of receipts and expenses as outlined above follows ordinary commercial accountancy methods. Accruing income and expenses in this way gives the correct measure of business profits. However, rental business profits based on cash received and paid in the tax year may not be materially different from the strict earnings basis profits where:
We are, therefore, prepared to accept the use of a ‘cash basis’ (profits based on the cash paid and received in the year) provided all the following conditions are met:
We reserve the right to apply the strict basis where there are
unusual features; for this purpose we take into account any
material effect on other people, including in particular anyone on
the strict ‘earning basis’.
The summary given above includes a broad outline of the principles that apply for computing trading income. For detailed guidance refer to the Business Income Manual.
The trading income rules which apply to a rental business include the following:
In certain ways the computation of property income is different.
Many of the Case I statutory rules apply to Schedule A.
ICTA88/S21A (1) as amended by FA98/SCH5 requires the profits or
gains, or losses, of a Schedule A business to be computed as if the
provisions in Part IV Chapter V of ICTA88 apply to it as they do in
computing the profits or gains of a trade under Schedule D Case I,
unless there is express provision to the contrary. Express
exclusions are dealt with in
Part IV Chapter V includes many Case I computational provisions. In particular, it includes ICTA88/S74 so that the familiar ‘wholly and exclusively’ rule applies to Schedule A.
Certain other statutory provisions also apply to Schedule A as they do for Case I - see PIM1102.
Case I profits are computed by determining profit on ordinary commercial lines and then adjusting if necessary to take account of specific provisions of the Taxes Acts. (See the Tax Case references in BIM42100 onwards.) Apply the same principle to Schedule A.
The trading income rules in Part 2 of ITTOIA05 that apply for the purposes of computing the profits of a rental business are set out in ITTOIA05/S272 (2) – see PIM1103. In particular the familiar ‘wholly and exclusively’ rule applies to property income. ITTOIA05 has not changed the law, but it has made the computation rules easier to follow.