FTT decision confirming tax deductibility of deferred revenue expenditure

On 21 May 2021, the First-tier Tribunal (FTT) decision in West Burton Property Ltd v The Commissioners for HMRC [2021] UKFTT 160 (TC) was released. The issue at stake was whether deferred revenue expenditure (DRE) incurred on an asset becomes tax deductible on a sale of the asset. The taxpayer won their appeal as the FTT confirmed that such DRE is deductible on a sale.

The case involved much accounting evidence as to whether, when a sale occurs at net book value, the equal and opposite proceeds and cost are ‘recognised’ or ‘taken into account’. The Tribunal Judge, Tony Beare, politely rejected much of the accounting evidence as failing to hit the nail on the head and he proffered his own analysis, which led to the same conclusion as the taxpayer’s.

Facts

The taxpayer (a company in the EDF group) had a UK property business: it owned a coal-fired power station which it leased to another group company. The taxpayer incurred expenditure on maintenance of the power station. This expenditure was capitalised and depreciated over four years for accounting purposes. For tax purposes however the expenditure was revenue in nature and the tax deduction available was therefore for the accounts depreciation per s210 CTA 2009 (which imports s46 CTA 2009 into the rules for taxing a UK property business).

The power station was sold to a group trading company at net book value (NBV). No accounting profit or loss therefore arose. This was a s171 TCGA 1992 transaction so the purchaser acquired the seller’s indexed historic base cost (which would exclude the DRE, per s39 TCGA 1992). We note the purchaser would not become entitled to a trading deduction for the DRE as their entire consideration for the purchase was on capital account, being acquisition of an adequately maintained power station.

Argument

The taxpayer argued that the unamortised balance of DRE was tax deductible on the sale as it had been brought into account in calculating the profit or loss of nil. The DRE formed a part of the NBV and thus, they said, it was brought into account in calculating a profit of nil.

HMRC argued two points, which the FTT dealt with as follows:

• HMRC argued that as the sale of the power station was a transaction which was subject to the taxation of chargeable gains, the tax treatment of the transaction should not fall within s210/s46 CTA 2009 principles because these provisions are confined to the taxation of a business of generating income from land (s205 CTA 2009). 

The FTT dismissed this argument, on the basis that the sale of the main asset which had previously generated income for the taxpayer was clearly within the Part 3 CTA 2009 rules; this was not undermined by the applicability of the chargeable gains rules to elements of the disposal (viz, the receipt of proceeds was not taxable as revenue but was taxed under chargeable gains rules); and

• HMRC also argued that, as there was no profit or loss on disposal reflected in the profit and loss account (since proceeds and NBV were equal), the DRE was not “brought into account as … debits in calculating the profits” as required by s48 CTA 2009. 

In a nutshell this argument was rejected by Judge Beare on the basis that the underlying accounting for the profit or loss did indeed involve bringing the DRE into account as a debit - which happened to be equal to a matching credit.

Judge Beare also made some final observations that he saw the result as a fair outcome which respected the integrity of the tax system. He noted that the effect of the transaction was to create an up-front income deduction (matched ultimately in theory by a higher chargeable gain). In these circumstances his view was that this was the correct outcome of the law.

Comment

The decision is consistent with the longstanding interpretation of the accounting practice and tax law in the area of DRE. It is reassuring to hear the courts confirm this.

For further information please contact :

• Michael Everett
• Harinder Soor