Clause 164: Special rules for partnerships

670.     This clause sets out two additional rules that apply if a deduction under clause 163 is to be given in calculating the trading profits of a firm. It is based on paragraph 18 of Schedule 12 to FA 2000.

671.     Clause 847 explains that "firm" is used in this Bill to refer to persons carrying on a trade in partnership. It includes a Limited Liability Partnership (see clause 863).

672.     Subsection (1) introduces the circumstances in which the clause applies.

673.     Subsection (2) is the rule that a deduction under clause 163 cannot be used to create a loss in a firm. It is based on paragraph 18(2) of Schedule 12 to FA 2000.

674.     Subsection (3) is the rule that limits the trading deduction to the amount that would have been deductible if the worker had been an employee of the intermediary, plus a margin to cover the expenses of the firm.

675.     In accordance with paragraph 244 of Schedule 6 to ITEPA, "deemed Schedule E payment" in paragraph 18 of Schedule 12 to FA 2000 is replaced by "deemed employment payment". Similarly, in the same paragraph, "Schedule E" is replaced by "the employment income Parts of the Income Tax (Earnings and Pensions) Act 2003".

676.     But the specific statutory references, such as those to "paragraph 7" (of Schedule 12 to FA 2000), are covered by the general rule in paragraph 5 of Schedule 7 to ITEPA. That general rule is that any reference to a repealed provision is to be read as a reference to the rewritten provision.

677.     Paragraph 7 of Schedule 12 to FA 2000 has been repealed and rewritten as section 54(1) of ITEPA. So the reference to that paragraph in paragraph 18 of Schedule 12 is to be read as a reference to section 54(1) of ITEPA. This clause updates the references to paragraph 7.

Clause 165: Deduction for site preparation expenditure

678.     This clause sets out the rules for expenditure on preparing a site so that it can be used for waste disposal. It is the first of four clauses that deal with waste disposal. They are based on sections 91A, 91B and 91BA of ICTA.

679.     This clause covers expenditure which is not deductible because it is capital and which is not eligible for capital allowances; in other words, expenditure that would otherwise go unrelieved for income tax purposes.

680.     Subsection (1) introduces the concept of waste materials being deposited on a "waste disposal site", an expression defined in clause 167. It makes it clear that a deduction is allowed only for a period of account in which waste is deposited on the site.

681.     The reference to a "predecessor" was inserted into ICTA by FA 2000 to ensure that the relief continues even if the trade is no longer carried on by the person who originally incurred the site preparation expenditure. The term is defined in subsection (3).

682.     Subsection (2) is the link to clause 166, which calculates the amount of expenditure that is allowed as deduction.

683.     A deduction under section 91B of ICTA is allowed only if the trader makes a claim (in such form as the Board may direct) and submits such plans and other documents (if any) as the Board may require. This clause drops the requirement for a claim. See Change 48 in Annex.

684.     Schedule 2 rewrites the transitional provision in section 91BA(1) of ICTA. Expenditure cannot be "inherited" if the site changed hands before March 2000.

Clause 166: Allocation of site preparation expenditure

685.     This clause spreads site preparation expenditure over the useful life of the site. It is based on section 91B of ICTA.

686.     Subsection (1) calculates the allowable expenditure for a period of account by means of a formula.

687.     Subsection (2) explains how to arrive at the "residual expenditure", part of which is allowed as a trading deduction by subsection (1).

688.     It is necessary to exclude amounts for which capital allowances have been given. In the case of expenditure incurred before 1989, it is also necessary to exclude part of the "unrelieved old expenditure", an expression defined in subsection (4).

689.     Most waste disposal sites have a life of only four or five years. But some, notably in the nuclear waste industry, have preparation expenditure dating from before 6 April 1989. So this clause preserves the rules for the pre-1989 expenditure.

690.     Subsection (3) uses a formula to arrive at the amount of the unrelieved old expenditure that is to be excluded from the calculation in subsection (1).

Clause 167: Site preparation expenditure: supplementary

691.     This clause contains the definitions of the expressions used in the waste disposal clauses. Although the definitions are expressed to apply "for the purposes of sections 165 and 166", the definition of "waste disposal licence" is also used to define a "site restoration payment" in clause 168(5).

692.     The clause also sets out the rules for pre-trading expenditure. The clause is based on sections 91B and 91BA of ICTA.

693.     Subsection (1)(c) reflects the effect of the devolution settlements. See Change 19 in Annex 1.

Clause 168: Site restoration payments

694.     This clause deals with payments for the restoration of a site after it has been used for waste disposal. It is based on section 91A of ICTA.

Clause 169: Cemeteries and crematoria: introduction

695.     This clause, and the following three clauses, contain special rules for persons carrying on a trade of operating a cemetery or crematorium. They are based on section 91 of ICTA.

696.     Without special provisions, no allowance would be due for the cost of land sold for interments, memorial gardens attached to crematoria or the surrounding land and buildings because expenditure on such land and buildings is in the nature of capital. The provisions in clauses 169 to 172 recognise that most land and buildings in a cemetery or memorial garden are of little value when the cemetery or memorial garden is full.

697.     This clause introduces the provisions in clause 170 to 172 and defines some of the terms used in those clauses. It is based on section 91(1),(2),(5),(7) and (8) of ICTA.

698.     Section 91(7)(a) of ICTA adapts the rules for cemeteries in section 91 of ICTA to crematoria and treats "land which is devoted wholly to memorial garden plots" as a cemetery, or as land in a cemetery. Subsection (1) of this clause instead includes the carrying on of a crematorium, and the maintenance of "memorial gardens plots" in the trades to which clauses 169 to 172.

699.     Subsection (4) is based on the definition of "relevant capital expenditure" in section 91(2) of ICTA.

700.     Section 91(5) of ICTA provides that a change of ownership is ignored in calculating the relief due to the person then carrying on the trade. So subsection (4) includes expenditure incurred by "a predecessor" of the person carrying on the trade ("the trader") in the definition of ancillary capital expenditure.

Clause 170: Deduction for capital expenditure

701.     This clause provides for a deduction for certain capital expenditure incurred by the trader or a predecessor. It is based on section 91(1), (4) to (7) and (9) of ICTA.

702.     Section 91 of ICTA refers to "land" in a cemetery or crematorium. Subsection (1) of this clause refers instead to "an interest in" such land. This accommodates better the possibility that operators of cemeteries and crematoria might sometimes hold land in leasehold rather than in freehold form.

703.     Subsection (3)(a) is based on section 91(6) of ICTA which prohibits deductions in respect of the same expenditure under both section 91(1)(a) and section 91(1)(b) of ICTA.

Clause 171: Allocation of ancillary capital expenditure

704.     This clause contains special rules for allocating ancillary capital expenditure to a period of account. It is based on section 91(1) and (3) to (8) of ICTA.

705.     See clause 169(4) for the definition of "ancillary capital expenditure".

706.     Subsection (1) calculates the ancillary capital expenditure attributable to a relevant period. It does this by allocating part of the total of all ancillary capital expenditure incurred before the end of the relevant period (the "residual expenditure") to that period in the same proportion that the number of grave-spaces or memorial garden plots sold in the period ("PSR") bears to the total of the number of spaces or plots sold in the period and the number of spaces or plots potentially available for sale at the end of that period ("PSR" + "PAR").

707.     Section 91(3) of ICTA excludes from "relevant capital expenditure" expenditure on buildings or structures destroyed "before the beginning of the first period to which [section 91(1)] applies" and a proportion of other expenditure "incurred before that time".

708.     Section 91(4) of ICTA excludes from the residue of any expenditure at the end of a period ("residual expenditure") insurance money or other compensation received "after the beginning of the first period to which [section 91(1)] applies" in respect of buildings or structures sold or destroyed before the end of the relevant period.

709.     Section 91 of ICTA is ultimately derived from section 22 of FA 1954 and the first period to which section 91 of ICTA applies is 1954-55. So subsection (2) of this clause defines "residual expenditure" so as to exclude:

• ancillary capital expenditure on buildings destroyed before "the beginning of the first sale period"; and

• the sale proceeds of, or any compensation received in respect of, the sale or destruction of any asset representing ancillary capital expenditure sold or destroyed "after the beginning of the first sale period".

710.     The "first sale period" is defined in subsection (4) as the period in which land in the cemetery or memorial garden was first sold for the purposes of the trade or the basis period for 1954-55, if later.

711.     Similarly, subsection (3) calculates "the excluded amount of any remaining old expenditure" to be deducted from residual expenditure under subsection (2)(b) by reference to the number of grave-spaces and plots sold before the beginning of the basis period for 1954-55 and the number potentially available for sale immediately before the beginning of that period.

Clause 172: Exclusion of expenditure met by subsidies

712.     This clause is based on section 91(9) of ICTA which applies the provisions of section 532 of CAA for the purposes of section 91 of ICTA.

713.     Subsection (1) is based on the general rule in section 532 of CAA. Subsections (3) to (5) are based on the exceptions to general rule in sections 534 to 536 of CAA.

714.     Subsection (3) refers to a grant made under Northern Ireland legislation and declared by the Treasury to correspond to a grant under Part 2 of the Industrial Development Act 1982.

715.     The term "Northern Ireland legislation" is defined by Schedule 1 to, and section 24(5) of, the Interpretation Act 1978. Paragraph 3 of Schedule 13 to the Northern Ireland Act 1998 provides an amendment which would cover Acts of the Northern Ireland Assembly.

716.     The Capital Allowances (Corresponding Northern Ireland Grants) Order 2001 (SI 2001/810) lists various grants made in Northern Ireland declared by the Treasury to correspond to a grant under Part 2 of the Industrial Development Act 1982 in so far as they are made towards capital expenditure. The Industrial Development Act 1982 was repealed with effect from 22 July 2004. But a deduction under clause 170 continues to be allowed for expenditure met by a grant corresponding to a grant under Part 2 of that Act incurred by the trader, or by a predecessor.

Chapter 12: Trade profits: valuation of stock and work in progress

Overview

717.     This Chapter sets out the rules for valuing stock and work in progress when a person ceases to carry on a trade, profession or vocation. The rules for trading stock are in clauses 173 to 181. The rules for work in progress are in clauses 182 to 185.

Clause 173: Valuation of trading stock on cessation

718.     This clause sets out two general propositions based on section 100(1) and (1ZA) of ICTA. First, a valuation has to be made. Second, that valuation has to be made in accordance with the rules set out.

719.     Subsection (1) restricts the operation of the clause (and the other valuation rules) to the calculation of the profits of a trade when a person ceases to carry it on. It includes a signpost to the detailed valuation rules in clauses 175 to 178.

720.     Subsection (2) makes it clear that any transfer-pricing adjustment takes precedence over the rules for trading stock in this Chapter.

721.     Subsection (3) is the rule for trades carried on in partnership. The general rule in ICTA is that a change in the person carrying on a trade is treated as the cessation of the trade. But, in the case of a trade carried on in partnership, section 113(2) of ICTA provides that there is a cessation only if there is a complete change in the persons (the partners) carrying on the trade.

722.     Subsection (4) ensures that the special rules for the valuation of stock in this Chapter do not apply when the trader dies.

Clause 174: Meaning of "trading stock"

723.     This clause defines trading stock. The definition applies:

• in this Chapter;

• in clauses 135 and 136 (films and sound recordings);

• in clause 236 (adjustment income); and

• in clause 252 (post-cessation receipts).

724.     The clause is based on sections 100(2) and 101(3) of ICTA.

725.     Section 101(3) of ICTA is invoked by section 100(2) and is concerned with valuation of incomplete services at the time of "discontinuance". So the definition in this clause refers to incomplete services at the "time of the cessation".

Clause 175: Basis of valuation of trading stock

726.     This clause introduces the five clauses that follow. It is based on section 100 of ICTA. The five clauses (including clause 179 which defines "connected persons") deal with valuation of stock that is transferred to another trader. Subsection (4) of this clause deals with valuation in any other case.

Clause 176: Sale basis of valuation: sale to unconnected person

727.     This clause sets out the rule for the common case where the trading stock is transferred to an unconnected trader. It is based on section 100(1A)(a) of ICTA. It leads directly to the use of the sale price of the stock as the basis of valuation. If the transfer is other than by sale, clause 181 explains how the expressions used in this clause are to be interpreted.

Clause 177: Sale basis of valuation: sale to connected person

728.     This clause sets out the rule for the case where the stock is transferred to a connected person. It is based on section 100(1A)(b) of ICTA.

729.     The clause preserves the concept of an arm's length price. This will usually be the same as the open market value (see clause 175(4)) but sometimes there will be a difference.

730.     For example, in an inheritance tax case, IRC v Spencer-Nairn [1991], STC 60, the Court of Session considered the meaning of an arm's length price and distinguished it from open market value. This was on the basis that the seller in that case had imperfect information. A sale at arm's length by that seller would not assume that the seller had better information; a sale in the open market would assume perfect information on both sides of the bargain.

731.     Furthermore, in the case of an actual sale to a connected trader, there is no need to assume there is a sale. It is enough to treat the sale as made at arm's length. This leaves open the possibility that the stock is worth something different from open market value to a person who intends to use the stock in the trade.

Clause 178: Sale basis of valuation: election by connected persons

732.     This clause allows the seller and purchaser of stock that would otherwise be valued at arm's length under clause 177 to elect to use instead the price paid for the stock. The clause is based on section 100(1C), (1D) and (3) of ICTA.

733.     The election cannot be made unless the arm's length value of the stock is greater than its "acquisition value" in the hands of the seller.

734.     The "acquisition value" of the stock for the trader who ceases to trade is effectively book value, but the definition in subsection (5) is more complicated than this. In the case where the net realisable value of stock has fallen below cost in the period leading up to cessation, a new period is deemed to start just before the deemed sale. That allows the new, lower, net realisable value to be used. It may be possible to manipulate net realisable value by selling the stock at an undervalue after the accounting date. So paragraph (a) of the definition assumes that the sale is at an arm's length value.

735.     The election substitutes the price paid for the arm's length value of the stock. But the price paid must be higher than the acquisition value. Otherwise, the election substitutes the acquisition value for the arm's length value.

736.     The time limit for the election in section 100(1C) is two years from the end of the tax year in which the trade ceases. This is inconsistent with most other time limits for income tax payers. The time limit in subsection (4) of this clause is the normal time limit for claims and elections in this Bill. See Change 49 in Annex 1.

737.     This clause does not specify that the election is to be made to "the inspector". Clause 878(4) draws attention to the rules in TMA, which apply for the purposes of this Bill. Those rules require elections to be made to "an officer of the Board".

Clause 179: Connected persons

738.     This clause provides a definition of connected persons for the stock valuation clauses. It is based on section 100(1F) of ICTA.

739.     This clause is one of the exceptions to the general rule in clause 847 that a firm is not to be regarded for tax purposes as a separate entity. If a firm is connected with the seller or purchaser of its stock, clause 177 (rather than clause 176) applies but the firm may make an election under clause 178.

740.     The definition includes references to bodies corporate because the tax liability of a person charged to income tax may be affected by a transaction involving a company.

Clause 180: Cost to buyer of stock valued on sale basis of valuation

741.     This clause sets out the rule for the buyer of the stock. It is based on section 100(1E) of ICTA. In a "sale basis" case, any value given to the trading stock of the taxpayer whose trade has ceased is also used to calculate the profits of the buyer of the stock.

742.     Section 100(1A) to (1C) of ICTA continue to apply for corporation tax. So the reference to those subsections is retained to cater for the case where the stock is acquired from a person liable to corporation tax. In the reverse case, where the stock is transferred from a person liable to income tax to a person liable to corporation tax, the valuation is made in accordance with this Chapter. The consequential amendments to section 100 of ICTA produce the right result for corporation tax (see Schedule 1 to this Bill).

Clause 181: Meaning of "sale" and related expressions

743.     The stock valuation clauses refer to a sale of stock. This clause explains how the clauses are to be interpreted if the stock is transferred other than by way of sale. It is based on section 100 of ICTA.

Clause 182:Valuation of work in progress on cessation

744.     This is the first of four clauses that deal with the valuation of work in progress on cessation. The clauses are based on section 101 of ICTA.

745.     Subsection (1) introduces the different bases of valuation in clauses 184 and 185. Unlike the corresponding clause 173, relating to the valuation of trading stock, this clause does not require that work in progress is valued at cessation. But a valuation is usually ensured by the requirement to calculate profits in accordance with generally accepted accounting practice (see clause 25). The only exception to this rule concerns barristers and advocates (see clause 160).

746.     Subsection (2) is the rule for professions carried on in partnership. The general rule in ICTA is that a change in the persons carrying on a profession is treated as the cessation of the profession. But, in the case of a profession carried on in partnership, section 113(2) of ICTA provides that there is a cessation only if there is a complete change of partners.

747.     Subsection (3) ensures that the special rules for the valuation of work in progress in this Chapter do not apply when the person carrying on the profession or vocation dies.

Clause 183: Meaning of "work in progress"

748.     This clause provides the definition of work in progress. It is based on section 101(3) of ICTA. This definition has a reference to the time at which the valuation is made. This is appropriate because the definition is used only in this Chapter and in clause 252. In both cases, the statute is concerned with the cessation of a profession or vocation.

Clause 184: Basis of valuation of work in progress

749.     This clause sets out the main rules for the valuation of work in progress. It is based on section 100(1) of ICTA.

750.     Subsection (1) applies if the work in progress is transferred to a person carrying on a profession or vocation. In that case, it is valued at the sale price.

751.     There are no alternatives to the sale price. So there is no need for a rule (such as that in clause 180 for stock) about the tax cost to the purchaser of the work in progress. The cost is always the price paid.

752.     Subsection (2) applies if the work in progress is not transferred to a person carrying on a profession or vocation. In that case, it is valued at an arm's length price. As explained in the commentary on clause 177, this Chapter retains the distinction between this basis of valuation and open market value.

Clause 185: Election for valuation at cost

753.     This clause allows an election for work in progress to be valued at cost. It is based on section 101(2) and (2A) of ICTA. If the election is made the profit element in closing work in progress is not assessed until payment is received. If the election is made, the later payment is treated as a post-cessation receipt.

754.     This clause does not specify that the election is to be made to "the inspector". Clause 878(4) draws attention to the rules in TMA, which apply for the purposes of this Bill. Those rules require elections to be made to "an officer of the Board".

Clause 186: Determination of questions by Commissioners

755.     This clause assigns proceedings to Commissioners. It is based on section 102(1) of ICTA. The valuation of trading stock and work in progress on cessation will affect the tax liabilities both of the trader who ceases and of the trader (if any) who takes over the stock (or work in progress). This clause gives the rule about which body of Commissioners should resolve any dispute about that valuation.

Chapter 13: Deductions from profits: unremittable amounts

Overview

756.     This Chapter gives statutory effect to ESC B38. See part (A) Change 50 in Annex 1. The extra-statutory concession provides relief for trade debts that cannot be remitted to the United Kingdom. It is similar in scope to section 584 of ICTA, which is rewritten as Chapter 4 in Part 8 of this Bill.

757.     Section 584 of ICTA provides relief for unremittable income arising outside the United Kingdom, including unremittable trade profits. But relief under section 584 of ICTA does not extend to trade debts owed to, or paid to, the trader outside the United Kingdom if the profits of the trade arise in the United Kingdom. This Chapter provides relief for such debts and payments.

758.     ESC B38 requires the relief to be claimed. Under this Chapter the relief is allowed as a deduction without the need for a formal claim. See part (B) Change 50 in Annex 1.

759.     The deduction is not mandatory if the qualifying conditions are met. A taxpayer can choose whether or not to include the deduction in his or her tax return. If a deduction is taken the recovery provisions in clause 191 follow automatically.