Sale and leaseback: when a written agreement can change the SDLT outcome

Why consider a sale and leaseback?

Owners create leasehold interests for various reasons, most commonly to raise finance or to sell individual units. It could be for financing or selling an apartment in a building with multiple apartments.

Consider a property investment company that owns a freehold property with no debt comprising of commercial and residential units.

The company wishes to raise finance against the property, but the proposed lenders prefer a long leasehold interest rather than the existing freehold.

One possible solution is to transfer the freehold to another company and receive a long lease potentially for 999 years in return. The companies may have common or connected shareholders but are not members of the same corporate group for SDLT purposes.

The original company retains a substantial economic interest in the property through the long lease, while the acquiring company holds the freehold reversion.

Although the arrangement may achieve the intended commercial outcome, the SDLT treatment is not straightforward.

How does SDLT apply?

Under the exchange rules in paragraph 5, schedule 4 of the Finance Act 2003, sale and leaseback arrangements can involve two separate land transactions:

• the transfer of the freehold
• the grant of the leaseback

Ordinarily, exchange transactions are subject to SDLT by reference to the greater of the relevant market value and any other chargeable consideration.

Without specific relief, SDLT could potentially arise on both elements. Yet, section 57A of the Finance Act 2003 provides a specific exemption for the leaseback where the statutory conditions are satisfied.

The original freehold transfer remains subject to SDLT, but the market value of the interest transferred may be significantly lower than the value of the property with vacant possession because it’s subject to a leaseback.

What conditions must be satisfied?

 The relief under section 57A is subject to several conditions, including:

• The original sale must be entered into wholly or partly in consideration of the leaseback.
• The leaseback must be granted out of the interest acquired by the purchaser.
• Any additional consideration for the sale must consist of money or the permitted assumption, satisfaction or release of debt.
• The specified transfer-of-rights and pre-completion transaction provisions must not apply.
• Where both parties are companies, they must not be members of the same group for SDLT group relief purposes at the effective date.

The last condition is particularly relevant where companies are owned by connected individuals or family members but do not form part of the same SDLT group. Being connected to each other does not necessarily mean the companies belong to the same group.

The relief should therefore be reviewed against the actual ownership structure and transaction documentation before completion.

Why does the written agreement matter?

HMRC’s guidance on reliefs and exemptions for sale and leaseback arrangements (SDLTM16040) distinguishes between arrangements where a written agreement for the leaseback exists at the time of the original sale and those where it does not.

Where the agreement is properly documented, the purchaser may be regarded as acquiring the freehold subject to the agreed leaseback, known as ‘freehold reversion’.

Where a very long lease is granted back particularly at a peppercorn rent, the remaining freehold reversion may have relatively little economic value, which can significantly affect the SDLT calculation.

By contrast, where the leaseback was not agreed in writing at the time of the original transfer, HMRC may consider the value of the unencumbered freehold to be relevant.

The timing and form of the documentation can therefore change the SDLT bill.

Other tax implications

The transfer can also have corporation tax or capital gains tax implications, depending on whether the property is held by a company or an individual.

For capital assets, a sale and leaseback may be treated as a part disposal for chargeable gains purposes. Where the property is held as development trading stock, different rules may apply.

The VAT position, including any option to tax, and the capital allowances treatment should also be considered.

A favourable SDLT outcome does not necessarily mean the overall transaction is tax neutral. Tax advisers should review these matters separately before implementation.

Final considerations

Sale and leaseback can be a commercially useful structure where a business wishes to retain a long-term property interest while reorganising ownership or financing arrangements.

Nonetheless, the availability of SDLT relief depends on the statutory conditions and significantly on the documentation.

For solicitors advising on these transactions, early coordination with tax advisers can help ensure the transaction properly reflects commercial intentions and avoids unexpected tax liabilities. If you’re advising on a sale and leaseback, get the leaseback agreement in writing before the freehold transfer completes, and confirm the group position at the effective date.