How can Enterprise Zones help your HNW clients?

David Nash, of the Chancery Partnership, takes a look at how Enterprise Zones can offer high-end clients tax-efficient investment opportunities.

Tax is a major concern for all high-net worth clients at the moment, particularly for those who fall in the 50% and 60% income tax brackets. This is at a time when options for effective tax planning that are acceptable to HMRC have been reducing.
There is still potential for financial advisers to work with experts in the field of tax to offer their high-end clients tried and tested, tax-efficient investment opportunities.

Let me outline just two of the few statutory reliefs that remain open to your clients: enterprise zones and business premises renovation allowance.
The first, Enterprise Zones (extention to the Industrial Building Allowance tax legislation), is time sensitive as the legislation that enables this opportunity to invest runs out on 5 April 2011.

Enterprise zones were introduced in 1980 by the then Conservative government to help bolster areas of the country where industry had moved out and so needed regeneration. This included various incentives for businesses to move to these areas and ultimately, to boost local employment. The Docklands area in London is the most famous enterprise zone. Zones remaining for regeneration include areas in Scotland and in the North East of England.

Industrial Building Allowances enable the writing down of the cost of the building of a new industrial property but instead of that happening over a period of 25 years, the Enterprise Zone legislation accelerates this enabling all of the cost to be written off up-front.

This gives 100% capital allowances in year one on everything related to the construction of the building. The cost of the land is excluded from this – but that is usually a relatively small proportion of the overall cost.

In addition, the tax relief becomes permanent as long as the interest in the building is not sold for seven years. This is not tax deferral. After seven years, the legislation allows an investor to sell an interest in the building and not suffer a clawback of the tax relief.

Syndicates

These schemes can be utilised by syndicates of investors, which Chancery will work to put together. We initiated our first purchase in 2000 and have since worked on 25 properties to a value of around £0.6bn.

Syndicates are transparent for tax purposes and syndicate members are entitled to the capital allowances pro rata, so 1% ownership of the property equates to 1% of the capital allowances to put on the investor’s tax return. Also exposure is limited to the percentage share of the building as dictated by the size of investment.

Day-to-day control and decision making of the syndicate, such as regarding letting or refinancing a bank loan or the sale of the property, rests with the member. Chancery runs the administration and the Syndicate outsources property aspects to other professional companies, such as Lambert Smith Hampton or Ryden.

Purchase practicalities

How the property is financed is key to understanding these solutions. If the syndicate wants to purchase an enterprise zone building worth £25m, cash deposits are raised from the investors and a loan facility from a bank. The loan facilities are always non-status. The bank is lending against the property and, as a limited recourse loans, the lenders security for the loan is limited to the building and cash deposits.

Property sites in enterprise zones are bought at a premium to what the property value would be were it not situated in the Enterprise Zone. The building then has to be constructed and a tenant found – so these buildings start empty.

However, the developer of the building will give a form of guarantee to pay he syndicare income until an occupational tennant is found. This services the bank loan and gives the lender comfort that this will be the case.

In the structures that Chancery has been instigating this year, the income is for between 11 and 15 years, so even if the building is never let, income over that period will be sufficient to repay the bank loan.

Developers will often offer incentives to potential tenants to release themselves from their income guarantee to the Syndicate. The incoming tenant has to be acceptable to the syndicate and the lending bank. The nature of those incentives often draws large companies – John Lewis is an example from one of our projects - and Government bodies as tenants.

Having a long lease and a good tenant are also important to have after seven years to enable the building to be sold for as high a price as possible.