The legislation surrounding Stamp Duty Land Tax (SDLT) isn’t at all straightforward or clear. We have therefore summarised the main SDLT issues a tenant should consider when entering into a commercial lease.
When does an SDLT return need to be made to HMRC?
When entering into a lease, an SDLT return needs to be submitted to HMRC and any applicable SDLT paid, where:
- the lease is for a term of 7 years or more; and
- the lease premium is £40,000 or more and/or the yearly rent is, on average, £1,000 or more.
Any VAT payable on either the premium or the rent must be included in the calculation. These items will be used to work out the Net Present Value (NPV). The calculation used to determine the NPV is highly complex and beyond the scope of this note but HMRC has a handy online SDLT calculator to assist with this. In brief, if the NPV is calculated between £150,000.01 and £5,000,000 then SDLT is payable at a rate of 1% of the NPV of the annual rent. If the NPV is over £5,000,000 then SDLT is payable at a rate of 2% of the NPV of the annual rent.
When doesn’t a return need to be made to HMRC?
If the lease is for a term of less than 7 years and no SDLT is payable on any premium or the rent, no return needs to be submitted to HMRC.
What other circumstances trigger a return to be made to HMRC?
Once a lease is completed and, where applicable a return filed and any SDLT paid, any tenant could be forgiven for thinking that their SDLT liability is at an end. This is not so! There are several scenarios throughout the lifetime of a lease which require SDLT to be revisited and further returns to HMRC made.
Changes in rent in the first 5 years of the term
The rent payable within the first 5 years of the term is used to calculate the SDLT payable upon the grant of a lease. Where the amount of some, or all, of the rent is unknown during this period – for instance, there is a rent review or, the annual rent is calculated as a certain percentage of annual turnover – a reasonable estimate of the unknown rent must be used in place of the actual figures.
Once the unknown rent becomes certain the tenant must calculate whether any additional SDLT needs to be paid and a further return submitted to HMRC within 30 days (or 14 days if the original lease was not notifiable to HMRC).
The situation is a little trickier where the unknown rent concerns a rent review. In that scenario, a further tax return must be filed with HMRC within 30 or 14 days (as applicable) of the rent review date given in the lease even if the rent review provisions are not activated or negotiations drag on beyond the fifth anniversary of the term. This return must confirm whether, having regard to the changes in market levels since the original estimate, the original estimate needs to be reviewed. Where applicable this must be accompanied by payment of any additional SDLT. In this situation a third return would be required once the rent became certain (i.e. when the rent review process was finally concluded).
Failure to file a return at the appropriate time could result in penalties and interest being payable to HMRC. It is therefore very important to diarise the filing deadline dates.
Holding over and renewal leases
A business lease continues after the end of its contractual term until terminated by notice unless the lease has been ‘contracted out’ of the security of tenure provisions of Part II of the Landlord and Tenant Act 1954. The period of time during which the tenant remains in occupation under the old lease (even though the contractual term has ended) until a new lease is granted is commonly referred to as the ‘holding over’ period.
Leases which are not contracted out
If a tenant remains in occupation following the end of the fixed term of a lease that was subject to SDLT on grant, the lease is treated for SDLT purposes as a ‘growing’ lease.
This means that the lease is treated as if it was a fixed-term lease for its original term plus one year. Where the lease continues beyond the first additional year, it is treated as if it were a lease for its original term plus two years. This treatment continues until a new lease is granted or the lease is otherwise terminated.
The tenant has an obligation to recalculate the SDLT on the growing lease at the end of each additional year and, where there is SDLT or additional SDLT to pay, within 30 or 14 days (as applicable) after the end of each additional one-year period, make a return by way of letter and pay any SDLT to HMRC. The 30-day time limit applies where the lease has already been notified previously to HMRC and SDLT becomes payable or additional SDLT becomes payable whereas the 14-day time limit applies where the lease is being notified to HMRC for the first time. The rate of SDLT is the rate that applied on the effective date of the grant of the original lease.
Leases which are contracted out
If a lease is contracted out and, upon expiry of the lease term, the tenant remains in occupation while negotiating new lease terms, HMRC is likely to consider the occupation to be by way of a ‘tenancy at will’ which is not a chargeable interest and so no SDLT will be payable. However, when the new lease is granted, any rent paid under the tenancy at will may be treated as a premium for the grant of the new lease.
Alternatively, if the landlord and tenant are not negotiating for a new lease and the tenant starts paying rent at regular intervals, a periodic tenancy may arise. For SDLT purposes, this is treated as a lease for a fixed term of one year and if it continues after the first year as a lease for a fixed period of two years etc.
Term commencement on renewal
If a tenant renews their lease during the first 12 months of holding over, then the SDLT would be assessed in relation to the rent under the new lease. Careful thought should be had as to whether the contractual term starts immediately after expiry of the original lease (i.e. backdated), at expiry of a holdover year or a different date as this will affect what additional SDLT returns may be due on the original lease or if the SDLT due on the new lease takes such into account (with the benefit of any overlap relief).
Confused? We’re not surprised! After reading this article you may conclude that HMRC’s slogan that ‘tax doesn’t have to be taxing’ is somewhat inappropriate when negotiating the labyrinthine rules surrounding SDLT and leases. In short, the SDLT position is often not straightforward for commercial tenants, many of whom will need specialist advice. As solicitors, we are not tax experts. If, however, you have an enquiry about SDLT and you’re unsure where further to look please do contact our Commercial Property team.
(May 2023)