UT-2023-000116; - [2025] UKUT 00164 (TCC)

As already noted, Schedule 29 permitted a corporation tax deduction to be taken by Nellsar in respect of its amortisation of capital expenditure incurred on goodwill, to the extent that the expenditure and amortisation were reflected in the company’s GAAP-compliant accounts: FTT [77].

When Nellsar bought the five care home businesses, it acquired various assets including: (i) the freehold property (i.e. the care home properties), (ii) fixtures and fittings, and (iii) goodwill: FTT [78].

GAAP required Nellsar to include the “identifiable assets” in its balance sheet at “fair value”: FTT [79]. The definition of “identifiable assets” was to be found in FRS 7.2 and means assets “capable of being disposed of or settled separately, without disposing of the business of the entity”: FTT [101].

The freehold properties were identifiable assets: FTT [79], as were the fixtures and fittings: FTT [80]. However, the goodwill of each purchased care home business was not an identifiable asset: FTT [79]. Goodwill, for GAAP purposes, was simply a balancing figure, viz the difference between the fair value of the net identifiable assets acquired (i.e. each care home property and its fixtures and fittings) and the fair value of the purchase consideration: FTT [80].

The purchase consideration for each care home business, in each case a fixed cash price, was not in dispute: FTT [14]. Moreover, there was no dispute about the fair value of the fixtures and fittings: FTT [80]. The focus of the dispute was therefore on the correct assessment of the fair value of the freehold properties (FTT [81]) i.e. the number needed to calculate the value of the goodwill from which the subsequent figures for the amortisation of goodwill for corporation tax purposes could be calculated. There was also no dispute about the principles of the amortisation of goodwill in accordance with FRS 10: FTT [105].

Therefore the crucial issue was the fair value of the freehold care home properties to be recognised in Nellsar’s accounts in accordance with FRS 7. The relevant paragraph of the accounting standards for GAAP purposes was FRS 7.9, which required that the fair value at which each care home property should have been recognised in Nellsar’s accounts was to be based on:

“(a)

market value, if assets similar in type and condition are bought and sold on an open market; or

(b)

depreciated replacement cost, reflecting the acquired business’s normal buying process and the sources of supply and prices available to it”.

Hence, market value was to be applied to the relevant “identifiable assets” (i.e. the properties and fixtures and fittings) if, but only if, “assets similar in type and condition are bought and sold on an open market”: FTT [212]. If a market value for those assets could not be established, DRC, a different valuation basis, would apply.

DRC, the accounting treatment for which Nellsar contended, was defined in Appendix 3 of the Decision as:

“The aggregate amount of the value of the land for the existing use or a notional replacement site in the same locality, and the gross replacement cost of the buildings and other site works, from which appropriate deductions may then be made to allow for the age, condition, economic or functional obsolescence, environmental and other relevant factors; all of these might result in the existing property being worth less to the undertaking in occupation than would a new replacement.”

HMRC’s case, in a nutshell, was that market value (i.e. FRS 7.9(a)) applied to the care home properties. Nellsar, on the other hand, contended that DRC (i.e. FRS 7.9(b)) was the correct valuation basis and that, consequently, its accounts for the relevant periods which had used DRC were GAAP-compliant.

The FTT explained that a method of valuation known as the “profits method of valuation” (the “Profits Method”) - was set out in an RICS Guidance Note (“GN”) GN2 (using materially the same wording as paragraph 3.2 in the previous GN1). The Profits Method calculated a market value on the basis of “a fully equipped operational entity having regard to trading potential subject to any agreed or special assumptions”: FTT [141] (emphasis added).

The basic form of the Profits Method consisted of the following three steps FTT [139]:

The valuation term “trading potential” that was taken into account by the Profits Method, according to GN2, meant:

“the future profit, in the context of a valuation of the property, that an REO would expect to be able to realise from occupation of the property. This could be above or below the recent trading history of the property. It reflects a range of factors such as the location, design and character, level of adaptation and trading history of the property within the market conditions prevailing that are inherent to the property asset”: (FTT [144]).

The FTT noted that there was also a recognised method of adjusting the Profits Method, which changes the result of the method from the market value of an operational care home property to the market value of an “empty” (i.e. without the trade inventory, licences, etc.) care home property “having regard to trading potential”: FTT [142-143]. This involved the same valuation process as for the operational entity, but with an adjustment to reflect the difference in the state of the property. For example, the differences “could reflect the cost and time involved in purchasing and installing the trade inventory, obtaining new licences, appointing staff and achieving FMT”: FTT [142].