Diversification On The Farm Tax Considerations
Rhys Jones (FCCA), LHP Associate
When it comes to diversification on the farm, some advice on how to best structure your business and manage the varying tax considerations.
Diversification is a great way to boost income and increase the profitability of the farm, and something more and more farmers are looking into. Although, it is very important that the correct structure is set up from the outset, i.e., should the new diversification project be included in the current farming business, or should a new separate entity be set up.
Use the current farming business
The main advantage of including the new enterprise in the current farming business is simplicity. All income and expenses will go through the existing farming partnership under one VAT registration with no need for a further set of accounts or VAT return preparation.
Although, depending on the nature of the diversification activities, this may not be the appropriate route.
If the farming business is VAT registered and the diversification project results in standard rated supplies, for example, a holiday let on the farm, all input VAT on the set up and running costs will be recoverable. The main disadvantage of this structure is that, regardless of the turnover relating to the diversification project, output VAT will be payable 20% on the income. This will be an added cost to the business if customers are not able to recover this VAT.
Set up as a separate entity
If it is expected that the initial turnover of the new project is likely to be below the compulsory VAT registration threshold of £85,000/annum then it may be beneficial to set up as a separate trading entity as, if not VAT registered, VAT will not have to be charged to customers.
The separate entity could be a sole trade, partnership or a limited company depending on the taxable income of the business owners, the anticipated profit of the project and the amount of capital tied up in the business.
Provided certain criteria are met, an additional Annual Investment Allowance (AIA) may be available for the new entity, which may be beneficial if the current farming business is likely to utilise its AIA.
A separate entity would also provide the opportunity for other family members or third parties to be involved in the business and give them the opportunity of running their own business separately from the family farm.
If all farm partners are higher rate tax payers and the profits from the diversification project are likely to be reinvested in the business rather than being drawn out, then it may be beneficial for the new project to trade as a limited company. All profits would be taxable at 19% and there would be no national insurance costs.
A further advantage of a limited company is that it does provide protection for the owners, which, depending on the nature of the business may be highly desirable.
The disadvantages of setting up a separate non-VAT registered entity would be the extra administration such as separate accounting records, a different bank account and an additional set of accounts. Plus the input VAT would not be recoverable on the initial set up costs and running costs.
If the current farming business trades as a sole trade or partnership, and the new project is set up as a limited company, sideways loss relief would not be applicable. If the current business makes a taxable loss this will have to be carried forward against future farming profits, and any profits in the company would be taxable and suffer tax at the rate of corporation tax (19% for 2021, although this is set to rise for companies with profits over £50k in 2023).
Capital Gains Tax
If the diversification project increases the value of land and/or buildings, the ownership of these assets should be considered. Gifting to the next generation whilst still in agricultural use may be appropriate so Gift Holdover Relief can be claimed.
If the diversification project results in investment income, for example rental properties or furnished holiday lets, it is important that the business remains predominantly trading otherwise this may affect the inheritance tax relief available on the property. Factors that need to be considered are turnover, profit, time spent on each element and the capital value of the investment property on the balance sheet.
Before embarking on any diversification project, it is important you speak to your advisors prior to set up, to ensure there are no unexpected VAT or tax implications. For help with any of this, request a chat with our team of farming specialists via Let’s Talk and we can go from there.