Compulsory acquisition of land – tax consequences

The decision to sell land or property will, in most cases, be made by the taxpayer. However, in the case of a compulsory purchase the decision is taken out of the taxpayer’s hands. Where land is compulsorily acquired by an authority (such as a local authority), the owner has a legal entitlement to compensation. How is the compensation treated for tax purposes and what impact does this have on calculating the capital gain, if any, on the disposal?

Nature of the compensation

The starting point is to ascertain what the compensation relates to. Compensation as a result of a compulsory purchase can be split into three categories:

  • an amount for the land itself;
  • an amount for disturbance; and
  • am amount for severance.

Compensation for the land

The compensation for the land itself is used in computing the gain, if any, that arises on the disposal (or part disposal) of the land.

Compensation for disturbance

The treatment of compensation paid for disturbance is more complicated as the tax treatment depends on the nature of the disturbance to which the compensation relates. HMRC list the following as the most common elements found in a disturbance payment and their associated tax treatment:

  • loss of stock – taxable as trading income;
  • temporary loss of profits – taxable as trading income;
  • loss of goodwill – chargeable to capital gains tax for individuals or under the corporate intangibles regime for companies;
  • incidental expenses that are revenue in nature – set against relevant revenue expenditure;
  • incidental expenses that are capital in nature – set against relevant capital expenditure.

Compensation for severance

The severance element of the compensation relates to the fall in the value of the land which is compulsorily acquired (also referred to as ‘injurious affection’). Where a severance payment is made, this gives rise to a part-disposal of the retained land. Any gain on that part disposal is computed in the usual way.

Gain on disposal of land and roll-over relief

A chargeable gain may arise where land is compulsorily required. However, this will not necessarily be the case as if the land is the only or main residence, main residence relief will be available in the usual way.

However, where a gain does arise, for example, if the acquisition is of business premises or an investment property, it may be possible to claim roll-over relief to prevent the immediate crystallisation of the chargeable gain. The claim reduces the base cost of the new land by the rolled-over gain.

The relief may be claimed where there is a disposal of land to an authority exercising or having compulsory powers by the landowner (which may be an individual, a trustee or a company). However, the landowner must not have taken any action to make his willingness to dispose of the land known to the authority.

The relief is available where all or part of the consideration for the disposal of the land is applied in acquiring new land. The consideration includes any element of compensation for surrender. The relief does not apply where the landowner reinvests the proceeds in a dwelling house which, or which becomes within six years of acquisition, the landowner’s main residence.

If there is a change in use in the new land within six years of acquisition, the claim may need to be revised.

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