Renewable Energy and tax implications

In relation to ownership, tax planning is necessary before land is transferred or an option agreement is signed. The increase in the capital value of land as a result of a successful planning application may cause Inheritance Tax problems in that Revenue & Customs may challenge a claim to Business Property Relief (BPR). BPR is the relief against the development value, as opposed to the agricultural value, of land for inheritance tax purposes. The tax case of Farmer and Giles v Revenue is very appropriate in relation to BPR. In this case the farmer had diversified his farm business into letting some of the agricultural buildings for non-farming purposes but both businesses were run as one business through one bank account. Revenue and Customs challenged a claim to BPR against the value of the buildings which were rented out. However, the Commissioners allowed the claim and outlined five tests which are to be considered when claiming BPR under the headings of turnover; net profit; value of assets and employee involvement in each activity. The fifth and most important test is the overall intention of the farmer. In the case of Farmer and Giles v Revenue, the deciding factors were the existence of one bank account and the greater level of activity in the farming operation compared to the rental activity. The risk with renewable projects is that they can change the tax status of the business from a farm trading business to an investment business which has serious adverse implications across all taxes: income tax; capital gains tax and inheritance tax. In order to avoid such a situation, keeping both businesses together may assist in attracting BPR for both.

From an income tax or corporation tax point of view, the annual income received from renewable energy is taxable where the production is ‘significantly’ more than the household needs. The Revenue’s manual defines ‘significant’ as more than 20% above the average domestic usage so where the income from renewable energy exceeds the 20% rule, it will count as business income and be chargeable to tax. However, like any business, the cost of the equipment and installation will be eligible for a claim to Capital Allowances at the appropriate rate. Where the expenditure is entitled to the receipt of feed-in-tariffs enhanced Capital Allowances will not be available. Where the expected useful life of the equipment is less than 25 years the rate of write off is 18% per year; if more than 25 years the rate is 8% per year. In some projects, depending on scale and profitability there may be a loss in the first year. This loss, when agreed with Revenue & Customs, may be carried forward against future profits from renewable energy, or may be set-off against other income. If the set-off option is chosen, there is a limit on the amount of income tax relief that an individual may claim for deduction against their total income. The limit in each tax year is the greater of £50,000 or 25% of the individual’s income.

From a VAT point of view, there is no VAT on the feed-in-tariffs income, but there is output VAT on electricity exported to the grid which must be paid to Revenue & Customs as part of the VAT Return. Assuming the power generated by the system exceeds by more than 20% the power consumed in the domestic house, VAT can be reclaimed on the purchase and installation costs of the equipment, after adjusting for private use, where appropriate.

A proposed renewable energy business requires thorough investigation. Business structure and tax planning are key in ensuring that the cash generated is taxed at the lowest possible rate and that the project is attractive to lenders and investors.