Revenue Note for Guidance

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Revenue Note for Guidance

549 Transactions between connected persons

Summary

This section provides measures to prevent avoidance of capital gains tax by the use of arrangements entered into by connected persons. (The rules for determining if persons are connected are set out in section 10.) Firstly, an acquisition or disposal between connected persons is treated as not being a bargain made at arm’s length and, accordingly, market value is substituted for the actual consideration. Secondly, a loss on the transfer of an asset between connected persons is allowable only against a gain made on a disposal to the same person. A further measure provides that restrictive covenants imposed on an asset transferred from one connected person to another are given only limited weight in valuing the asset transferred.

Details

Application

(1) The section applies where a person acquiring an asset and the person making the disposal are connected persons.

Transfers treated as made at market value

(2) A transfer between such persons is not to be considered as having been at arm’s length. Thus, the asset is treated as passing at market value instead of the value put on it under the arrangement between the 2 persons.

Restriction of losses

(3) In general, relief for a loss on a disposal to a connected person is restricted so that the loss may be allowed only against a chargeable gain on some other disposal by the disponer to the same connected person.

(4) Where a gift in settlement and the income from it is applied in providing educational, cultural or recreational benefits for members of an association, there is no restriction on the loss allowable; but this provision does not apply if most of the members of the association are connected persons.

Options and losses

(5) Where the asset involved is an option to enter into a sale or other transaction granted by the person making the disposal, a loss is not allowable to the person who acquires the asset unless it arises on a disposal of the option by means of an arm’s length bargain to a person who is not connected with the person who acquires the asset.

Rights or restrictions over assets

(6) In general, where a restrictive covenant is imposed on an asset which is the subject of a transaction between connected persons, the restriction is to be disregarded or given only limited weight in putting a value on the asset. The rule is that the market value is to be taken as what it would be if there was no restriction less the smaller of the market value of the right or restriction and the amount by which its extinction would enhance the value of the asset to its owner or by the market value of the right or restriction where the market value of the right or restriction and the amount by which its extinction would enhance the value of the asset to its owner are equal.

Example

A farmer transfers part of his farm to his younger brother. The land has an agricultural value of €200,000 but has outline planning permission for residential development. The full market value of the land is €1.5 million. The farmer wants his brother to continue to farm the land and imposes a restrictive covenant on the transfer prohibiting the building of houses on the land. Assuming the value of the restriction is €1 million, the deemed consideration for the disposal by the farmer and the acquisition cost for his brother is —

Market value of land

€1,500,000

(disregarding restriction)

Less the lower of —

market value of restriction

€1,000,000

and

increase in value of land without restriction €1,300,000

€1,000,000

Deemed consideration/acquisition cost

€500,000

(7) Subject to certain exceptions, provision is made to treat certain rights or restrictions as if they did not exist. The provision is designed to leave out of account rights or restrictions which would effectively reduce the value of the asset transferred to nil. Such rights or restrictions could otherwise enable the person disposing of the asset to claim a loss. The rights or restrictions covered by the provision are —

  • those of such a nature that they effectively negate the transfer of ownership so that there has not really been any transfer (in substance) at all (merely the semblance of a transfer to achieve a loss); enforcement of such a right or restriction would destroy or substantially impair the value of the asset without bringing off-setting advantage to the person making the disposal or a person connected with that person,
  • an option or other right to acquire the asset, and
  • in the case of incorporeal property, a right to extinguish the asset in the hands of the person giving the consideration by forfeiture, merger or otherwise.

(7A)(a) Subsection (7) applies where the asset mentioned in subsection (1) is subject to any right or restriction enforceable by the person making the disposal or by the person connected with that person and the market value of the asset at the date it was acquired is greater than the consideration, in money or money’s worth, paid for that asset. For this purpose, the right or restriction is ignored.

(7A)(b) Where an asset is subsequently disposed of by the person who acquired that asset and subsection (7) has the effect of —

  • increasing a loss, or
  • substituting a loss for a gain,

then subsection (7) will not apply.

(8)(a) Circumstances could arise whereby the intended effect of subsection (7) (which disregards certain rights and restrictions) would be reversed so that it would not prevent, but rather assist, the creation of artificial losses. Those circumstances are where the disponer of an asset is indifferent to the amount of the sale proceeds deemed to have been received on the disposal of the asset because the disponer is not chargeable to capital gains tax on any gain accruing on the disposal. In the absence of provision to the contrary, the only result of the operation of subsection (7) would be to increase the deemed cost of acquisition of the person acquiring the asset, thus facilitating the creation of an artificial loss by a further sale of the asset. Accordingly, to prevent such an eventuality, where a person disposes of an asset to another person in circumstances where —

  • subsection (7) would otherwise apply in determining the market value of the asset, and
  • the person who makes the disposal is not within the charge to capital gains tax in respect of the disposal,

the other person’s acquisition of the asset is, in relation to a subsequent disposal of the asset, deemed to be for the market value of the asset determined without regard to subsection (7). Thus, full account is to be taken of any right or restriction over the asset enforceable by the disponer in determining the cost of acquisition to the purchaser. This prevents the purchaser from using subsection (7) to create an artificial loss.

(8)(b) The anti-avoidance provisions of subsection (8)(a) apply to disposals made on or after 25 January, 1989. Also, in so far as losses have been created artificially under subsection (7) by disposals made before that date, those losses may not be carried forward and set off against gains accruing on or after that date. Claims may be made to have such losses set off against gains accruing on disposals made before that date.

(9) Rights of forfeiture on breach of a covenant in a lease and rights under charges such as mortgages are not to be disregarded in calculating the market value of an asset. These rights are taken into account at full value.

Relevant Date: Finance Act 2020