IFM21015 - Real Estate Investment Trust : Background: Fundamentals: The Ring Fence

One fundamental concept underlies the structure of the UK-REIT regime. This is that the activities that qualify for exemption from tax (referred to as the ‘property rental business’) are ring fenced from other activities carried on by other parts of the company or group (referred to as the ‘residual business’). The activity that qualifies is holding property to generate a return from rental income, as distinct from building property for sale or trading in property.

Extent of the ring fence: tax-exempt business

To identify activity that qualifies for the ring fence, the legislation uses as the first filter the property business rules. This limits qualifying activity to the exploitation of land as a source of rent. This means that some types of activity, although related to land, are excluded from the ring fence, for example farming, which is chargeable to tax as a trade under CTA2009/Part 3. However, some property business activities are not within the policy objectives of the regime - one of which was to remove distortions in the rental sector, with a focus on bricks and mortar. This results in some types of business that are within a property business being explicitly excluded from the ring fence. For example, rent in respect of way-leaves for oil and gas pipelines are excluded.

‘Owner-occupied’ property is also excluded from the ring fence, because one policy objective is to make the property market more efficient by separating ownership from occupation see IFM21030.

Nature of the ring fence

The ring fence is a barrier between the property rental business activities of the vehicle and any other residual business activities it may carry out. It prevents losses generated in the property rental business part of the vehicle being used to reduce profits arising in the taxable part and vice versa. The basic mechanism for this is the mutual exclusivity of the property business and residual business, which prevent income or expenses being attributed to the wrong source of income. This is supported by deeming the parts of the vehicle that carry on property rental business activities to be companies separate from the parts that carry out the residual business activities of the vehicle, to cater for instances where the residual business is also in receipt of income from a property business (such as fees for mobile phone masts).

Property rental business and the ring fence

For single company UK-REITs, the tax-exempt business consists of the activities that fall within the ring fence and comprises the ‘property rental business’ (see IFM21020). For Group REITs, the term ‘property rental business’ includes world-wide qualifying property rental activities (that is rental income generated anywhere in the world regardless of the location of the property or the tax residence of the group member which owns it). Whereas the ring fence of tax-exempt activities is limited to property rental activities so far as they are carried on by UK resident members of the group, or are UK property rental activities carried on by non-resident members of the group.