Business asset disposal relief: what does ‘substantial’ non-trading activities mean?

Our tax specialist, Femi Ogunshakin shares his thoughts on a recent Upper Tribunal case which has forced HMRC to clarify its interpretation of ‘substantial’ on non-trading activities for business asset disposal relief.

Ordinarily, gains that qualify for business asset disposal relief (BADR) are taxed at a reduced rate of 10%. However, relief for company shares is not available if the underlying company carries on substantial non-trading activities. HMRC has long applied a strict 20% test, but a recent Upper Tribunal case has forced HMRC to backpedal and further clarify the interpretation of ‘substantial’.

In Assem Allam vs. HMRC [2021] UKUT 0291, the Upper Tribunal found that previous HMRC guidance using a simple 80/20 test of trading versus non-trading activity is not always going to produce the correct answer when deciding if the relief is available. HMRC guidance has not completely done away with the 20% test, but less emphasis is now placed on it.

In any dispute with HMRC, it is important to remember that HMRC guidance is just that, guidance. Guidance is not the same as the law. The courts do not have to adopt HMRC’s guidance in any decisions they make, their role is to interpret the legislation, as they see fit. A decision made by the Upper Tribunal is binding, it has the force of law and has to be followed.

Upper Tribunal approach

The Upper Tribunal concluded that the legislation does not provide for a strict numeric test. The test of whether non-trading activities are substantial is a holistic one not confined to physical human activity, but requires an overall consideration of what it is that the company does.

Factors other than those listed in HMRC’s guidance can also be relevant.

HMRC guidance

HMRC’s revised guidance now states that the 20% test is only likely to be relevant when considering the level of non-trading income and the value of a company’s non-trading assets. If neither exceed 20%, HMRC will generally accept that the relief is available without further enquiry.

Also relevant is the proportion of expenses spent on non-trading activities, as well as the amount of time and resources incurred.
The relevant factors should be considered over a company’s history, not just at one point in time; particularly if trade is seasonal.

While having investment property may therefore preclude claiming BADR, there is a bit more leeway when it comes to a large cash balance as it may be argued as being required for trading purposes.

HMRC’s guidance on the meaning of ‘substantial’ can be found here within their capital gains manual.