LBTT6002 - Key concepts

LBTT6002 - Key concepts

LBTT60021 – Substantial performance

This guidance looks at substantial performance and the rules regarding the substantial performance of a lease.

Ordinarily, under Section 63, the effective date of a land transaction is the date of completion (which, in the case of a lease, means the date it is executed by the parties or constituted by any means – section 64(1(a)). However, there may be instances when the effective date is not the date of completion as substantial performance has occurred. For guidance on the effective date, please see LBTT60022 below.

A contract is substantially performed under section 14 when:

• the buyer (who, in the case of a lease, is the tenant), or a person connected with the buyer, takes possession of the whole, or substantially the whole, of the subject-matter of the contract,
• a substantial amount of the consideration is paid or provided, or
• there is an assignation, subsale or other transaction as a result of which a person other than the original buyer becomes entitled to call for a conveyance to that person.

Substantial performance has taken place when the earliest of any of the above occurs.

Taking possession

Possession is when the buyer obtains access to the property and is entitled to occupy it. It is immaterial whether the buyer takes possession under the contract or under a licence.

Therefore, if a tenant takes entry before the formal lease is signed, the effective date will be the date the tenant takes entry, not the subsequent date that the formal lease is executed. This will be the case even if the contract is an oral agreement. 

Possession is to the whole, or substantially the whole, of the subject-matter of the contract. Revenue Scotland will consider what constitutes ‘substantially the whole of the subject-matter’ on a case by case basis and it is not defined by a percentage figure.

Possession includes receipt of rent or the right to receive it and, again, it is immaterial whether possession is taken under the contract or under a licence.

Where premises are entered into for fitting out, that will count as possession and the time the tenant commences to trade from or otherwise use the premises is not relevant. If a tenant, or someone acting on its behalf (such as a fit-out contractor), is allowed into possession for fitting out purposes this will represent substantial performance as the buyer has taken possession of the premises. Although tenants are likely to receive a rent-free period covering the fitting out period, if taking entry for the purposes of carrying out these works does itself trigger the first payment of rent, that again will amount to substantial performance.

Consideration paid

Substantial performance is also triggered when the purchaser becomes entitled to receive the rents.

Where no (or only a nominal) rent forms part of the consideration (i.e. the lease is granted in consideration of a premium), a substantial amount of the consideration is paid when the whole or substantially the whole of the consideration is paid or provided. Revenue Scotland will consider what constitutes a ‘substantial amount of the consideration’ on a case by case basis. Substantially performed is not defined by a percentage figure.

Where the only consideration is rent, a substantial amount of the consideration is paid when the first payment of rent is made.

Where the consideration includes both rent and consideration other than rent, substantial performance will occur at the earlier of the date:

• when the whole or substantially the whole of the non-rental consideration is paid or provided; or
• the first payment of rent is made.

If another aspect of substantial performance had taken place before this date, for instance, taking occupation of the premises, the date of occupation would be the effective date.

Indefinite term and/or uncertain rent

If substantial performance has triggered the effective date, it might be the case that the term may not be known (see the example below).  For the purposes of the return, the term would ordinarily be from the date of substantial performance to the end date specified in the agreement. However, if no end date is known, the lease is treated as being for an indefinite term and is treated in the first instance as if it were a lease for a fixed term of 1 year.

If the lease continues after the end of the first year, it is treated as if it were, from the outset, a lease for a fixed term of 2 years. If the lease continues after the end of the second year, it is treated as if it were, from the outset, a lease for a fixed term of 3 years, and so on.

Where no return has been made in relation to the transaction, but the effect of the above in relation to the continuation of the lease after the end of a previous notional deemed fixed term is that the transaction becomes notifiable, the buyer (tenant) must make a return in respect of that transaction before the end of the period of 30 days after the end of that previous notional term. The return must include an assessment of the tax that, on the basis of the information contained in the return, is chargeable in respect of the transaction, and the tax so chargeable is to be calculated by reference to the tax rates and tax bands in force at the original effective date of the transaction.

For the purposes of identifying if a lease for an indefinite term is notifiable, it is treated as a lease for a term of less than 7 years. This is covered at paragraph 22, schedule 19 of the LBTT(S)A.

Additionally, it may be the case that, at the date of substantial performance, the rent is not known. Paragraph 13 states that if the amount is uncertain, then section 19 applies. It provides that the amount or value of the consideration is to be determined on the basis of a reasonable estimate. Therefore, in relation to rent that is uncertain at the effective date, the return should be submitted on the basis of a reasonable estimate.

LBTT60022 – Effective Date

The date at which the liability to LBTT arises (the tax point) for a new LBTT lease is known as the effective date of the transaction. The effective date is also used to determine when other obligations in relation to the tax must be fulfilled: for example, it starts the 3-yearly review cycle and dictates when a lease return is required to be filed (within 30 days of the effective date). The rates and bands in place at the effective date are those which will be used to calculate how much tax is due.

Section 63 provides that the effective date of a transaction is, except as otherwise provided, the date of completion. The meaning of completion, under section 64, is:

• In relation to a lease, when it is executed by the parties or constituted by any means.

Other provisions determining the effective date in relation to leases are:

• Section 10(2) – substantial performance of a contract without completion
• Section 12(4) – options and rights of pre-emption
• Paragraph 25(2) of Schedule 19 – agreement for lease substantially performed

Section 65 states that a contract includes any agreement. This will therefore cover verbal agreements and any other informal agreement which could constitute a lease.

Note: Where a return is being submitted on the grant of a new lease, the ‘relevant date’ in the LBTT return should be the same as the ‘effective date’.

Substantial performance of a contract without completion

Under Section 10, where a contract is substantially performed without having been completed, the contract is treated as if it were the transaction and the effective date of the transaction is the date the contract is substantially performed.

Options and rights of pre-emption

The acquisition of an option binding the grantor to enter into a land transaction or a right of pre-emption preventing or restricting the grantor from entering into a land transaction is a land transaction distinct from any land transaction resulting from the exercise of the option or right. The effective date of the transaction in the case of the acquisition of an option or right is when the option or right is acquired – as opposed to when it becomes exercisable.

Agreement for lease substantially performed

The rules below are covered at LBTT(S)A 2013 Schedule 19, Paragraph 25.

Where there is an agreement, which includes missives not constituting a lease, but can also cover verbal and other informal agreements, under which a lease is to be executed at a later date and the agreement is substantially performed before or even without the lease ever being executed, the agreement is treated as if it were the grant of a lease in accordance with the agreement (the notional lease), beginning on the date of substantial performance. The effective date of the transaction is when the agreement is substantially performed.

If, at some later time, the ‘actual’ lease is executed, the notional lease is treated as if it were granted on the date the agreement was substantially performed, for a term which begins on that date and ends at the expiry of the term of the actual lease, and in consideration of the total rent payable over that term and any other consideration given for the agreement or the actual lease.

References to execution are to the execution of a lease that either is in conformity with or relates to substantially the same premises and term as the agreement.  Execution may be by traditional “wet ink” signatures or by an advanced/qualified electronic signature.

The execution of the ‘actual’ lease will be treated as a later linked transaction and the following applies:

• The grant of the notional lease and the grant of the actual lease will be linked, regardless of whether or not they would be ordinarily under the linked transactions rules, and
• the tenant under the actual lease is liable for any tax or additional tax payable, even if it arises from the notional lease, and
• the tenant under the actual lease must make a return under Section 34.

If the agreement is rescinded or annulled, or is not carried into effect for any other reason, the tax paid under the notional lease return may be repaid by making a claim via amendment of the return.

Determining the Effective Date

There are three common scenarios to consider when determining what the effective date is for a lease transaction. They are:

• Leases where there is no initial contract, such as missives of let (or an agreement for lease), and the parties simply proceed straight to signing a formal lease;
• Leases which are created solely by an initial contract, such as missives of let (or an agreement for lease), with no formal lease to be signed thereafter; and 
• Leases which are created by an initial contract, such as missives of let (or an agreement for lease), which are to be followed by the signing of a formal lease.

Formal lease with no initial contract

If there are no missives of let or agreement for lease, the effective date of the formal lease is the earlier of the date when it is granted or constituted in any other way. This latter phrase is construed widely but may be the date of substantial performance of a verbal contract.

The date of grant of a formal lease in Scotland is the last date of execution/signing of the lease. The usual practice is for both parties to sign the same engrossed document (the final version of a legal document) or to send counterpart copies to each party to sign for counterpart execution.  Increasingly, leases are also signed digitally using qualified electronic signatures.  Accordingly, unless the parties meet to sign the document or the counterparts are signed on the same day, or the lease is signed digitally on the same day, one party inevitably signs later than the other.  As a result, Scottish leases commonly bear two dates, being the actual dates of execution/signing by the parties. Where the document is signed on different dates, it is the latest date of signing which is the effective date.

Leases with an initial contract

There are various initial contracts that could be entered into that create a lease, such as the following:

• An agreement for lease requiring that a formal lease is granted at a subsequent point
• Missives of let are an agreement (usually in an exchange of letters) which constitutes the lease itself and which would not be followed by a formal lease
• It is possible (and frequently done in practice) to contract to enter into a lease by way of missives signed by the parties’ solicitors on their behalf, rather than under a formal agreement for lease signed by the parties themselves. Missives for lease represent an alternative type of contract to enter into a lease. Missives for a lease (which are an agreement/contract) must be distinguished from missives of let which constitute the lease itself.

The legislation at Section 65 states that a contract includes any agreement, so ‘initial contract’ should therefore be construed widely. This will cover verbal agreements and any other informal agreement which could constitute a lease.

Initial contract with no formal lease

As explained above, contracts may be entered into where no signing of a formal lease is due to follow.

The date of the grant of a lease constituted by missives of let, or any other agreement, which is not followed by a formal lease, is the date the lease is constituted by any means. This may be when a verbal agreement has been substantially performed or when missives are concluded. Missives are concluded on the last date of execution/signing.

Initial contract followed by the signing of a formal lease

The effective date for leases which are created by an initial contract, such as one of those listed above, and are to be followed by the signing of a formal lease, will depend on whether the signing of the formal lease or substantial performance takes place first. If the signing of the formal lease pre-dates the date of substantial performance, the date of grant of the formal lease will be the effective date. However, if the lease is substantially performed prior to the signing of the lease, the effective date will be the date of substantial performance.

Where a lease is agreed by concluded missives of let (the ‘first lease’), which are then substantially performed, and the execution of a formal lease (the ‘second lease’) takes place at a later date, the first lease is treated as if it were a lease granted on the date the missives of let were substantially performed, for a term which begins on that date and ends at the expiry of the term of the second lease. The consideration is the total rent payable over that term, and any other consideration given for the first or the second lease. 

The second lease must be either in conformity with, or relate to substantially the same premises and term as, the first lease.

The grant of the first lease and the grant of the second lease are linked, regardless of whether the linked transactions rules at section 57 LBTT(S)A 2013 would have linked them. The tenant under the second lease is liable for any tax, or additional tax, due in relation to the first lease. The original return for the first lease may need to be amended to reflect the adjusted basis of the first lease following the execution of the second lease.

The second lease is disregarded for the purposes of the tax unless an LBTT return is required because there is a second transaction that is linked to the first transaction and makes the first transaction notifiable where originally it was non-notifiable.

The effective date used is the effective date of the first lease, as the grant of the second lease is disregarded. 

The normal rules apply to determine the effective date of the first lease.

The same applies to missives for a variation or extension to the term of the lease, although it should be noted that substantial performance of a variation to extend an existing lease does not take place until the expiry of the existing lease. If the parties execute the formal variation document before the expiry of the existing lease then, while there is no substantial performance, the missives for the variation are completed in the normal way. The effective date is the date or last date of signing of the variation deed.

LBTT60023 – Relevant Date for Lease Transactions

The relevant date of a transaction or lease event triggers the need for a return to be filed within 30 days. Section 36 LBTT(S)A 2013 defines what the relevant date is for different transactions within the LBTT regime.

The Relevant Date field must be completed when submitting a LBTT return. The relevant date on lease transactions can be when any of the following events take place:

• A grant of a new lease – the relevant date is the same date as the effective date
• 3-year review – the relevant date is the date of the 3-year review (3^rd anniversary from the effective date of the original lease transaction and every 3 years thereafter)
• Assignation of a lease – the relevant date is the date when the lease was assigned
• Termination of lease – the relevant date is the date when the lease was terminated
• Later linked transaction – the relevant date is when the later linked transaction takes place. 
• A lease that continues after a fixed term – the relevant date is the date of the end of the one-year period when the lease became notifiable. 
• Leases for an indefinite term –  the relevant date is the date of the end of the deemed one-year period when the lease became notifiable.
• Lease variation to increase rent or term that requires a return under paragraph 30 – the date from which the variation which results in the lease becoming notifiable.

LBTT60024 – The term of a lease

Leases for a Fixed Term

A lease for a fixed term is one whose term can be ascertained at the time of grant. The term could be set out in the lease itself or in related documents. This includes a lease worded so that it ends on a specific date or one where the term is a specific length of time from the date of grant.

The term of a lease for a fixed term is taken to be:

• the contractual term specified in the lease; or
• the period from and including the date of the grant of the lease until the end of the contractual term.

When applying the lease rules to a lease for a fixed term, any contingency which might lead to the lease being terminated early or any right of either party to terminate or renew the lease (such as a break clause or an option to renew) are to be disregarded. This is covered at LBTT(S)A 2013 Schedule 19, Paragraph 19.

Leases that continue after a Fixed Term

The set of rules below apply in relation to leases subject to LBTT. The rules are covered at LBTT(S)A 2013 Schedule 19, Paragraphs 20-21.

A lease may continue after its fixed term by agreement (whether informal or formal) between the parties or by the operation of law (tacit relocation). Such a lease is treated as if it were a lease for the original fixed term and no longer.  If it continues after the end of the term, it is treated as if it were a lease for one year longer. As it continues, each year a further year is added to the term of the lease. 

If the lease was previously notifiable, LBTT returns are not required each time the lease continues, and the details are included in the next three-year return. 

Where a lease would be treated as continuing after a fixed term but the lease actually terminates at a time during that period, the lease is to be treated as continuing only until the time which it terminates.

Where a lease transaction was not previously notifiable and subsequently becomes notifiable because of the continuation of the lease beyond its fixed term, a LBTT return will be required within 30 days of the day after the end of the one-year period when it became notifiable. 

The assessment of the amount of tax chargeable should be calculated using the tax rates and bands that were in force at the effective date of the original lease. Any additional tax due must be paid at the same time as the LBTT return is made.

Note: The date of the end of the one-year period when the lease became notifiable is the ‘relevant date’ for the purposes of the ‘relevant date’ field in the LBTT return.

Leases that continue after a fixed term: grant of new lease 

Where a lease continues beyond its fixed term and during the one year period after the fixed term end date a new lease is granted to the tenant for the same (or substantially the same) premises, then the new lease is treated as beginning immediately after the original fixed term. 

Any rent which was payable under the original lease after the end of the fixed term is treated as payable under the new lease. 

If the original lease has been extended more than once then the new lease is treated as beginning immediately after the end of the original lease as previously extended. 

A Lease that has an Indefinite Term

Where a lease is granted for an indefinite term the legislation at LBTT(S)A 2013 Schedule 19, Paragraph 22 sets out how a lease should be treated. A lease for an indefinite term includes an interest or right terminable by a period of notice or by notice at any time.

If the term can be ascertained from the lease contract or agreement for lease, a lease is not treated as being for an indefinite term.

For the purpose of notifiable transactions, a lease with an indefinite term is defined as a lease for a term of less than seven years (see LBTT6010 - Making a return and paying tax for a lease | Revenue Scotland).

A lease for an indefinite term is treated as a lease for a fixed term of one year. If it continues, it is treated as a lease for a fixed term of two years, then three years, and so on. 

Where a lease transaction was not previously notifiable and subsequently becomes notifiable because of the continuation of the lease, a LBTT return will be required within 30 days of the day after the end of the one-year period when it became notifiable. 

The assessment of the amount of tax chargeable should be calculated using the tax rates and bands that were in force at the effective date of the original lease. Any additional tax due must be paid at the same time as the LBTT return is made.

Note: The date of the end of the one-year period when the lease became notifiable is the ‘relevant date’ for the purposes of the ‘relevant date’ field in the LBTT return.

Tacit Relocation

Tacit Relocation in Scots Law is a principle whereby leases are renewed on the same conditions as previously existed if there is no notice of termination, subject to a minimum period of one year. 

Where a lease is not terminated, and continues after its fixed term under a period of tacit relocation, the tenant does not need to submit a return at the natural termination date. The lease is treated as if it were a lease continuing longer than the original agreed termination date. A further LBTT return isn’t required for each year the lease continues. Where the lease was previously notified to Revenue Scotland, the new details should be included in the next three-year review return in respect of the original lease, or in a termination return, if the lease ends before the next three yearly review date.

Example

Backdated lease granted after holding over

Where:

• Paragraph 20 applies to treat the original lease as if it were a lease for a fixed term 1 year longer than the original term;
• During that 1 year period, the tenant under that lease is granted a new lease of the same or substantially the same premises, and
• The term of the new lease begins during that 1 year period

then, under Paragraph 21, the term of the new lease is treated as beginning immediately after the original fixed term.

Any rent which would be payable under the original lease in respect of that 1 year period but for this Paragraph is to be treated as payable under the new lease.

Where the fixed term of a lease has previously been extended under Paragraph 20, this paragraph applies as if references to the original term were references to the fixed term as previously so extended.

LBTT60025 – Linked Leases

Transactions are ‘linked’ under section 57 LBTT(S)A for the purposes of LBTT if they form part of:

• a single scheme, arrangement, or
• series of transactions

between the same parties (or connected persons).

For leases, the tax treatment depends on whether they are linked by way of a single scheme or arrangement or as a series of leases (‘successive’ linked leases).

Where leases of two or more properties are negotiated as a single arrangement between the same or connected parties, the transactions will be treated as linked. 

If the successive lease rules do not apply (see below), then tax on linked leases is calculated under LBTT(S)A 2013 Schedule 19, Paragraph 5 (LBTT6011 - Tax due on the rent | Revenue Scotland).

Where the effective date of the original or earlier transaction was before LBTT was introduced on 1 April 2015 the general linked transactions rules at section 57 and the successive linked lease rules do not apply.

Example

Successive Linked Leases

Successive leases of substantially the same premises and which are linked transactions are treated as one lease for the purposes of LBTT. Successive linked leases are treated as being granted at the time of the grant of the first lease in the series, for a term equal to the aggregate of the terms of all the leases and in consideration of the rent payable under all the leases. This is covered at LBTT(S)A 2013 Schedule 19, Paragraph 23.

The grant of later leases in the series is disregarded for the purposes of the LBTT legislation, unless section 34 is triggered (return or further return in consequence of later linked transaction). Under section 34, the tenant must make an LBTT return within 30 days from the day after the effective date of the later transaction where:

• The transaction becomes notifiable as a result of the later transaction;
• Tax is now payable on the earlier transaction, where none was due before; or
• Additional tax is now due on the earlier transaction. 

The return must include an assessment of the amount of tax that (on the basis of the information contained in the return) is chargeable as a result of the later transaction. The tax chargeable should be calculated using the tax rates and bands that were in force at the effective date of the earlier transaction. The rules can be found at LBTT(S)A 2013 Section 34.

Any consideration other than rent payable on the original lease or on any of the successive linked leases would be charged under the provisions of section 26. See LBTT60052 for further information.

The renewal of a lease will not be treated as a successive lease if it can be shown to have been negotiated at arm’s length. For example, if the original or earlier lease expired naturally, contained no right or compulsion of either party to renew and/or was renewed following entirely new negotiations, as would apply to a new tenant. If this cannot be evidenced the successive lease rules apply.

Example