The first thing to establish is that whether or not the seller has the qualifying interest. This means that they are entitled to the capital allowances. With outright buying and selling, the interest will automatically transfer to the buyer. Leases however are somewhat more complex; when a lease is granted, the lessor will usually be granting a lesser interest and therefore, by default, keep the qualifying interest for themselves.
It should be noted that there is an exception in the case of development; say a developer renovates a commercial property and leases it on, the qualifying interest and capital allowances would pass to the lessee automatically. This is because the developer treats the office as trading stock, which is of course ineligible for capital allowances, because as far as the developer is concerned, developments are the ‘output’ rather than ‘capital’. The lessee on the other hand will be using the property as capital – either by leasing or renting it out or using it directly.
Section 183 election
As previously mentioned, the lessor will not want to lose their capital allowances. To prevent this from happening they will retain the qualifying interest by granting a lesser interest to the buyer. However, the lessee can still obtain the capital allowances it the lessor agrees to a Section 183 election; this means that entitlement to capital allowances is transferred to the lessee enabling them to claim instead. There are mutually beneficially reasons for entering into an election. It may be that the lessee pays tax at a higher marginal rate than the lessor and would therefore be able to claim back a greater amount of money. If the lessee agrees to compensate the lessor for the loss of their potential capital allowances, then the buyer will be able to keep the difference and both parties would benefit.
As an example, let’s say there is a lease being granted and the lessor is a small business that pays tax at 20% and hold the qualifying interest while the buyer is an individual paying tax at 45%. The property has £10,000 of capital allowances. If the parties were to just stick to the default position with the lessor retaining the rights then the lessor would have a pool of £2,000 to claim over a number of years while the buyer would have nothing. However, if the buyer and lessor were to enter into a Section 183 election transferring the qualifying interest to the buyer, then the buyer would have a pool of £4,500 to claim. The buyer could then compensate the lessor the forgone £2,000 and keep the remaining £2,500. Of course when lessor could bargain for a higher share of the £2,500 extra benefit during negotiations! The end result is that both parties will be better off (and certainly no one will be any worse off).
So to sum up, it is important to ensure that you have acquire all necessary information before negotiations and remember that by be willing to cooperate and making sure that the other party possesses all the facts relevant to capital allowances, it could be that both parties would benefit.