In the latest instalment of our series of briefings on the new UK freeport regime, we consider the tax benefits on offer at freeport tax sites and the conditions that must be met to claim them.
Freeports: what are the tax benefits?
Since this article was written, there have been some changes to the tax breaks discussed, including the periods over which they are available; for more information, please speak to any of the Tax contacts listed at the end of the briefing.
Overview
Introduction
What are freeports?
Freeports are 'zones' or geographically distinct areas based around one or more transport hubs (such as a seaport, an airport or a rail hub), which offer certain customs, tax and planning benefits to businesses operating there.
Following a competitive tender process held last year, the selected locations of the 8 freeports to be introduced in England are Liverpool, East Midlands Airport, Plymouth, Solent, Thames, Felixstowe & Harwich, Humber and Teesside. Further discussions are underway between the UK Government and devolved administrations to establish two further freeports, one in Wales and one in Scotland.
What are the policy objectives?
The government has indicated that the policy objectives behind freeports are to:
- boost trade, jobs and investment;
- act as hotbeds for innovation; and
- be a cornerstone of the government's plan to 'level up' across the country.
How will a freeport tax site be designated?
- A freeport tax site may be designated as such by HM Treasury provided that (a) the site is an area situated within a freeport; or (b) HM Treasury consider that the area is being used, or is likely to be used, for purposes connected with activities carried on, or likely to be carried on, in a freeport.
- As part of the freeport bidding process, bidders had to define their proposed tax sites.
- The area of a tax site must not be greater than 600 hectares, either as a single site or up to 3 individual sites of no more than 200 hectares each. There are a number of other requirements which are beyond the scope of this note.
What are the reliefs?
There are four main categories of tax relief that are potentially available (subject to meeting the relevant conditions) to businesses located in freeport tax sites in England:
- Full or partial relief from stamp duty land tax (SDLT);
- Enhanced capital allowances, in the form of (a) enhanced structures and buildings allowances (SBAs) and (b) enhanced plant and machinery allowances (PMAs);
- Relief from secondary Class 1 national insurance contributions (employer NICs); and
- Business rates relief.
Stamp Duty Land Tax (SDLT) relief
How does the exemption work in summary?
The main relief exempts from charge a land transaction if at least 90% of the chargeable consideration for the transaction is attributable to "qualifying freeport land".
Partial relief from SDLT applies to a land transaction if the proportion of the chargeable consideration for the transaction that is attributable to qualifying freeport land ("the relevant proportion") is less than 90%, but at least 10%. In that case, the tax chargeable in respect of the transaction is reduced by the relevant proportion.
No relief is available where less than 10% of the chargeable consideration is attributable to qualifying freeport land. The following points should also be noted:
- Any apportionment of consideration required for these purposes must be on a just and reasonable basis.
- The relief and associated provisions are extended to land transactions involving alternative finance arrangements. This is not considered further here.
- Relief is only available for land transactions with an effective date on or before 30 September 2026, and it must be claimed in a transaction return no later than 14 October 2027.
- The statutory provisions giving effect to the relief are set out in Schedule 23 of Finance Act 2021, which amends Finance Act 2003, in particular by inserting a new Schedule 6C.
Key defined terms
The relief applies to acquisitions of "qualifying freeport land".
Qualifying freeport land
Transaction land is "qualifying freeport land" if the land is:
- situated in a freeport tax site; and
- the purchaser intends it to be used exclusively in a "qualifying manner".
Note that Schedule 6C refers to "transaction land" (rather than a "chargeable interest", the term which is used elsewhere in the SDLT legislation) - this is understood to be so as to differentiate between land and buildings potentially subject to relief (which as a starting point are taxable in full) and land which is taxable.
Transaction land is used in a "qualifying manner" if:
- it is used by the purchaser or a connected person in the course of a commercial trade or profession (which includes a property rental business);
- it is developed or redeveloped by the purchaser or a connected person for use by any person in the course of a commercial trade or profession;
- it is exploited by the purchaser or a connected person, in the course of a commercial trade or profession, as a source of rents or other receipts; or
- it is used in two or more of the ways described above.
For these purposes, use of land in the course of a commercial trade or profession includes use of land that is ancillary to the use of other land in a freeport tax site that is so used. We understand that this is intended to cover areas such as car parks and landscaped gardens attached to qualifying freeport land.
What activities are specifically excluded?
Land is not used in a qualifying manner to the extent that it is:
- used as a dwelling or as the garden or grounds of a dwelling;
- developed or redeveloped to become residential property;
- let to a person using the land as a dwelling or as a garden/ground of a dwelling; or
- held (as stock of the business) for resale without development or redevelopment).
The provision in the final bullet is understood to have two purposes: to prevent land banking and to ensure that the relief is only available where there is actually effective regeneration.
Withdrawal of relief
The relief is subject to clawback if at any time during the "control period" the qualifying freeport land is not used exclusively in a qualifying manner. The control period is the shorter of (a) the period of 3 years beginning with the effective date of the land transaction; and (b) the period beginning with the effective date of that transaction and ending with the date the purchaser (or a connected person) ceases to hold a chargeable interest in the qualifying freeport land.
The "exclusively" requirement is potentially onerous. However, helpfully, relief is not withdrawn where, because of an unforeseen change in circumstances that is beyond the purchaser's control, it is not reasonable to expect the qualifying freeport land to be used exclusively in a qualifying manner at that time. Also:
- where use for a qualifying manner has yet to begin, the land is to be treated as being used exclusively in a qualifying manner if reasonable steps are being taken to ensure that it is used in that manner; and
- where such use has ceased, the land is to be treated as used exclusively in a qualifying manner if reasonable steps are being taken to ensure that it is so used, or to dispose of the chargeable interest in the land in a timely manner.
HM Treasury has fairly wide powers to make regulations to adjust the rules giving relief.
Comment
The SDLT relief is uncapped and therefore has the potential to be valuable to businesses that are able to make use of them.
However, there is the potential for complexity, particularly in circumstances in which the transaction land includes non-qualifying elements, such as a dwelling (e.g., a caretaker's flat in a factory site) or land that is outside the boundaries of the freeport tax site. It is hoped that HMRC will publish guidance with examples of how the rules are intended to apply in these sorts of circumstances, particularly in relation to situations in which a small part of the transaction land is intended for use as a dwelling.
Taxpayers who have claimed the relief will also need to monitor use going forwards in relation to potential withdrawal, and should be alive to the "exclusively" requirement in this regard. If relying on one of the let-outs, taxpayers would be well-advised to keep documentary evidence (e.g., board minutes) supporting the position taken.
Capital allowances reliefs
Enhanced structures and buildings allowances (SBAs) - summary
SBAs are available for capital expenditure on the construction of non-residential structures and buildings in the UK where certain conditions are met. Relief is available at 3% per annum on a straight-line basis.
The Finance Act 2021 includes legislation to provide for enhanced SBAs for "freeport qualifying expenditure" at a rate of 10% per annum (again on a straight-line basis). This effectively accelerates the availability of relief, which is given over 10 years (rather than 33.33 years for normal SBAs).
The enhanced SBA rules have been incorporated into the main SBA rules in CAA 2001.
Key SBA qualifying conditions
SBA qualifying expenditure will only be entitled to the higher relief on freeport qualifying expenditure if it meets the following conditions (in addition to the general SBA conditions):
- Construction must begin at a time when the area in which the building/structure is situated is a designated tax site;
- The building/structure must first be brought into a qualifying use, and qualifying expenditure must be incurred, both:
- at a time when the area in which the building/structure is situated is a designated freeport tax site; and
- on or before 30 September 2026;
- The person incurring the qualifying expenditure must be within the charge to income tax or corporation tax when it is incurred; and
- The claimant must make a claim and quantify the qualifying expenditure in an allowance statement.
A just and reasonable allocation will be made where either:
- the building/structure is only partly in a designated freeport tax site; or
- the building/structure is first brought into qualifying use partly on or before 30 September 2026 and partly after that date.
HM Treasury has wide powers to make regulations to adjust the conditions to claiming enhanced SBAs.
Enhanced plant and machinery allowances - summary
Companies will also be able to claim an enhanced 100% first year allowance for capital expenditure on plant and machinery (PMAs) for use in freeport tax sites where the relevant conditions are met. Note that, unlike enhanced SBAs, enhanced PMAs are only available to companies within the charge to corporation tax.
The enhanced PMA rules have been incorporated into the first-year allowances rules in CAA 2001.
Enhanced PMA conditions
Capital expenditure will be freeport first-year qualifying expenditure if it meets the following conditions:
- The plant or machinery acquired must be for use primarily in an areas which, at the time the expenditure is incurred, is designated as a freeport tax site;
- The plant or machinery must be new and unused;
- The expenditure must be incurred for the purposes of a 'qualifying activity', being (a) a trade; or (b) certain other types of concerns such as mines and quarries. Notably, a property rental business is not a qualifying activity for these purposes;
- The expenditure must be incurred on or after the date that the freeport tax site is formally designated, but no later than 30 September 2026; and
- The company claiming the freeport enhanced PMAs must be within the charge to corporation tax.
Again, HM Treasury has wide powers to make regulations (subject to a modified affirmative procedure) to amend the conditions relating to enhanced PMAs.
There are two anti-avoidance rules specific to enhanced freeport PMAs – in broad terms, these apply as follows:
- Firstly, where the company intends the plant or machinery to be used partly in an area that it is not a freeport tax site but enters into arrangements designed to meet the 'for use primarily in the area' test, a just and reasonable apportionment of the expenditure is required and the part relating to the non-freeport area does not qualify for enhanced freeport PMAs; and
- Secondly, enhanced freeport PMAs are withdrawn where the relevant plant and machinery is primarily used outside a freeport tax site or is held primarily for such use within, broadly, 5 years of bringing the plant or machinery into qualifying use.
Comment
These reliefs provide a powerful (and uncapped) additional incentive for businesses to invest in freeport tax sites by providing a significant acceleration of the existing tax reliefs for capital investment.
In particular, the 100% first year PMAs will permit companies to write off relevant capital expenditure in full for tax purposes in the same year the plant and machinery is acquired – the rate might not be as high as the eye-catching 'super-deduction' 130% rate announced by the Chancellor in the Spring, but crucially, for those eligible, freeport PMAs continue to be available after the corporation tax hike in April 2023.
Having said that, the enhanced PMAs will not apply to income tax-payers, and are also unavailable to corporate landlords, who will therefore be unable to claim enhanced freeport PMAs on so-called "background" plant and machinery in their buildings. Also, the anti-avoidance rules will mean that claimant companies need to take care not to jeopardise the relief claimed.
Employer National Insurance Contributions (NICs) Reliefs
How does the relief work?
In summary, secondary Class 1 (employer) NICs will be zero per cent. on earnings paid to each eligible freeport employee up to an annual threshold (understood to be £25,000). Any earnings above that threshold will be subject to employer's NICs at the usual rate.
The relief will only be available for new hires starting their employment between 6 April 2022 and 5 April 2026 (although this may be extended following a review). The employer must make an election. There are a number of other conditions that must be met in order for the relief to apply (see below).
The legislation to introduce this relief forms part of the National Insurance Contributions Bill 2021 (NICB 2021), which at the time of writing is progressing through Parliament.
NICs conditions
In broad terms, the NICs freeport conditions are as follows:
- The employee begins a new employment with a freeport employer on or after 6 April 2022 but no later than 5 April 2026. For these purposes, an employment is 'new' if the employee was not previously employed by the freeport employer, or by a connected person, at any time during the two-year period that ends with the date on which the new freeport employment begins;
- The earnings are paid during a period of three years beginning on the first day of employment, but are not paid after the relevant end date (currently 5 April 2026, but potentially as late as 5 April 2031);
- The earnings are paid in a "qualifying period" - this period begins with the start of the employment or on a substantial change in the earner's working arrangements, and ends inter alia at the end of the employment or on a substantial change in the earner's working arrangements; and
- At the beginning of the qualifying period, the freeport employer reasonably expects the employee to spend at least 60% of their working time at a single freeport tax site in which the employer has business premises.
The interaction between the qualifying period condition and the reasonable expectation condition is complex. For example, a qualifying period will end (and so NICs relief will cease to apply) if it is no longer reasonable to assume that the 60% working time requirement will be met. But earnings of the employee can become eligible for relief again if there is a "substantial change in the earner's working arrangements".
Anti-avoidance
There is a targeted anti-avoidance rule that denies relief where it is only available as a result of 'avoidance arrangements' (including arrangements that it is reasonable to conclude arecontrived, abnormal or lacking in genuine commercial purpose, or circumvent the intended limits of the relief or otherwise exploit shortcomings in the legislation).
This seemingly gives HMRC broad powers to challenge a claim for relief.
Again, HM Treasury has extensive powers to add, alter or remove conditions to the relief.
Comment
The conditions to claiming relief are fairly complex. For example, freeport employers will need to monitor freeport employees' working patterns and keep careful records to be able to satisfy HMRC that there has not been a substantial change in their working arrangements. Where employers rely on a seasonal workforce they will need to check that any returning works are considered 'new' if they are to be eligible for relief.
Notwithstanding these issues, where the conditions can be shown to apply, the relief will be of value to employers, albeit that the amount that may be claimed is capped.
Business rates relief
How does the relief work?
It is expected that certain business premises in a designated freeport tax site will be eligible for 100% relief from business rates from the commencement date (as yet unknown) until 30 September 2026 (and possibly longer).
Partial relief is expected to be available to existing businesses in freeports that expand into new or additional property, or expand into an unused part of an existing property following redevelopment.
The government is understood not to be changing the primary legislation for business rates. Instead, local authorities will use their discretionary powers to implement this relief. It remains to be seen what specific conditions may be applied by local authorities.
It is also expected that councils in freeport tax sites will be allowed to retain the business rates growth for that area above an agreed base line. The intention is to give councils certainty needed to borrow to invest in regeneration and infrastructure.
Comment
It is hard to comment in detail on the proposals since the precise conditions to claiming relief are as yet unknown. Local authorities will presumably wish to avoid incentivising the displacement of business activity from the surrounding area. Businesses looking to claim business rates relief should therefore expect to adhere to strict tests to minimise such displacement.
Having said that, for those businesses that are eligible, the relief is another attractive element to the tax relief package potentially available at freeport tax sites.
Comment
Overall, the tax reliefs potentially available to businesses operating in freeport tax sites represent an attractive package.
Policy-makers appear to have put together the tax package with a view to incentivising freeport-based businesses at key stages of their development: so there is relief for costs of acquiring land (SDLT), enhanced relief for then constructing/renovating buildings on that land (enhanced SBAs), enhanced relief for buying plant and machinery to put in the building (enhanced PMAs), relief for employing people to work in the buildings (employer NICs) and then relief for operating costs (business rates relief). That is consistent with the government's stated intention to regenerate disadvantaged areas, encourage investment and generally 'level-up'.
What are the limitations of the freeports tax package?
- The freeport tax sites are not very large in area (although 600 hectares is not negligible – it's roughly three times the size of Monaco);
- The reliefs are time limited (although the government might presumably consider extending these limits where appropriate);
- The conditions are in some cases fairly onerous and there are ongoing monitoring obligations to ensure no clawback or withdrawal of relief – this will mean that relief is not always available, and will also mean increased compliance and adviser costs;
- There are also some slightly surprising omissions – notably, there are no enhanced R&D credits, which many would have expected given the intention to create "hotbeds of innovation".
But there may be good policy reasons for many of these perceived downsides, including to discourage displacement of existing economic activity, and to prevent freeport tax sites being used for tax avoidance purposes, which is a particular concern and a charge that is commonly levelled at freeports.
Therefore, looked at in the round, this is a pretty generous package of reliefs that appears to have the potential to go a long way in incentivising businesses to set up or relocate to tax freeport sites. The hope is that these reliefs will help drive investment, and thereby regeneration, of the areas concerned.
Beware state aid challenges
A final word of caution: might competing businesses who are based outside freeports look to bring a state aid challenge on the grounds that businesses in freeports are getting unfair subsidies through special tax treatment? That's a topic in itself, but something that businesses looking to take advantage of the reliefs may wish to bear in mind.
