409E Income tax: ring-fence on use of certain capital allowances on certain industrial buildings and other premises

Summary

Capital allowances have been and continue to be available in respect of a wide spectrum of buildings, ranging from buildings classed as industrial buildings such as factories and hotels to commercial premises in areas designated under various tax incentive schemes. Companies have claimed capital allowances on these buildings based on the original cost of constructing the buildings, and these allowances would have been offset for corporation tax purposes when corporation tax was charged at rates up to 43%. Where a company now sells such a building before the end of the clawback period for the capital allowances, it will suffer a clawback of the capital allowances at the time of sale. The company will be liable to corporation tax on the amount clawed back at either 12% or, in some cases, 25%.

In contrast, if the building were then purchased by individual investors, those individuals could claim the capital allowances related to the building at their marginal income tax rate of 41 per cent, in equal annual amounts over the remaining period of the “tax life” of the building. The tax life for most buildings is 25 years. In many cases, the individual investor could offset these capital allowances at the marginal tax rate against all of his or her income, that is, trading, professional, employment, investment and rental income, thereby avoiding the annual capital allowances cap of €31,750 on the set-off of capital allowances against non-rental income imposed by section 409A.

In order to protect the Exchequer from such tax arbitrage arrangements, this section provides that, with effect from the tax year 2003, where a building in respect of which a company has claimed capital allowances is sold or transferred to individual investors, those investors will be entitled to set the capital allowances related to the building only against their rental income from the building concerned. If the capital allowance entitlement for any tax year exceeds the rental income for that year, the excess is carried forward for set-off against the rental income from the building for the next tax year, and so on for subsequent tax years.

Details

Definitions

(1) The terms “company”, “rent”, “relevant interest” and “residue of expenditure” are defined by reference to the meaning of similar terms in other provisions of the TCA.

A “company” means any body corporate including a trustee savings bank, but does not include a European Economic Interest Grouping, a health board, a vocational educational committee, a committee of agriculture or a local authority.

The term “rent” includes any rentcharge and any payment in the nature of rent, notwithstanding that the payment may relate partly to premises and partly to goods and services. It also includes any payment made by a lessee to defray the cost of work of maintenance or repairs to premises, not being work required by the lease to be carried out by the lessee. In addition, a certain proportion of any premium paid in connection with a short lease (that is, a lease which does not exceed 50 years) is treated as rent. The amount so treated is the premium reduced by 2% for each complete period of 12 months, other than the first such period, comprised in the lease. Thus, in the case of a premium of €100,000 for a 41 year lease, the part of the premium treated as rent is €20,000 [€100,000 – (€100,000 × 2% × (41 – 1)]. Section 98 treats a number of items as the payment of a premium, e.g. a lump sum paid in place or rent, a sum paid nominally for the surrender of a lease, a sum paid for the variation or waiver of any terms of a lease.

The term “relevant interest” is defined, in relation to expenditure incurred on the construction or refurbishment of a building or structure. It means the interest (leasehold or freehold) in the building or structure to which the person who incurred the expenditure was entitled when that person incurred the expenditure.

The “residue of expenditure” is essentially the capital expenditure incurred on the construction or refurbishment reduced by the amount of any initial allowance, writing-down allowances or balancing allowance made in respect of that expenditure. Where a balancing charge is made in respect of the expenditure, the residue is increased by the amount on which the charge is made.

A number of terms are also specifically defined in the subsection.

The expression “specified amount of rent” is defined in relation to a specified building and an individual for a year of assessment. In essence, the expression means the profit rent of the individual from the building for the year of assessment, as computed in accordance with the provisions of section 97(1).

A “specified building” is —

1. a building or structure (or part thereof) which is or is to be an industrial building or structure by reason of its use or deemed use for a purpose specified in section 268(1), where any initial allowance, writing-down allowance or balancing allowance under Chapter 1 of Part 9 has been or is to be made to any company in respect of capital expenditure incurred or deemed to be incurred on its construction or refurbishment, or
2. any other building or structure (or part thereof) where such a capital allowance has been or is to be made to any company by virtue of Part 10 or section 843 or 843A. Part 10 includes provisions relating to capital allowances for buildings in areas designated under various tax incentive schemes (e.g. urban, rural or town renewal schemes), while sections 843 and 843A deal with capital allowances for buildings used for third-level educational and childcare purposes, respectively.

Application

(2) The following criteria must be met if the section is to apply:

• (a) A company must, at any time on or after 1 January 2003, hold the relevant interest in relation to capital expenditure incurred or deemed to be incurred on the construction or refurbishment of a specified building.
• (b) Subsequent to that time an individual becomes entitled (whether on a sale or otherwise) to that relevant interest or part of that interest. It is immaterial whether or not subsequent to that time some other person or persons had previously become entitled to that relevant interest or that part of the interest.
• I The individual is entitled to capital allowances under Chapter 1 of Part 9 in respect of the capital expenditure concerned or the residue of that expenditure which allowances would be set off against his or her Irish rental income. In other words, the individual must be a lessor of the specified building.

Ring-fence on allowances

(3) Where the section applies, then, notwithstanding any other provision of the Income Tax Acts, the following consequences arise:

• (a) Any capital allowance which is to be made to the individual for the tax year 2003 or any subsequent year under Chapter 1 of Part 9, in respect of the capital expenditure incurred on the construction or refurbishment of the specified building, or in respect of the residue of that expenditure, may not exceed the profit rent of the individual from the specified building for that year. Any such allowance is to be made in charging that profit rent and is to be available only against that profit rent.
• (b) Section 278, which sets out general rules relating to how capital allowances are to be given, is to apply with any modifications necessary to give effect to this ring-fencing of the allowances.

(c) Section 305(1)(c) will apply in relation to the making of any of the capital allowances concerned. Section 305 governs the use of certain capital allowances, i.e. it details the income against which the allowances can be set off and provides rules for dealing with any excess allowances. In effect, section 305(1)(c) provides that if the amount of the capital allowance for any year of assessment which would have been made to the individual if this section had not been enacted is greater than the profit rent of the individual from the specified building for that year, the excess is to be added to the amount of the allowance to be made to the individual for the next year of assessment in respect of the capital expenditure incurred on the construction or refurbishment of the specified building or the residue of that expenditure, and is deemed to be part of the allowance for that next year, and so on for subsequent tax years. This section will then apply in relation to the resulting allowance for that next year or any subsequent year of assessment.

Relevant Date: Finance Act 2021