Farm diversification & tax: How to finance your farm shop & other ventures

Diversifying your farm is a great way of expanding your business and it’s income, as well as providing financial security for the future. Whether it’s a farm shop, cafe or even a holiday park, there are some great options for you to broaden your income.

However, for any farm diversification project there are financial, budgeting and tax implications that need to be thought through. The impact of these can vary depending on the business structure of your farm, so it’s important to look at this from the beginning. Here we look at the key areas and tax implications of diversifying your farm:

Firstly, any diversification must have the potential to be profitable. But aside from that we must also think about what other aims you are hoping to achieve from your new venture. These aims might be any of the following:

• Provide a steady income for tougher times
• Make the most of assets that aren’t providing a return
• Deliver off-farm income to tie over a succession plan

Either way, it is essential to know in advance what you’re hoping to achieve as this could have an impact on your business structure and therefore your tax implications.

Do you have the cash available?

The number one reason for a new venture failing is lack of cash flow. New projects may take a while before you start seeing the real returns, so along with your aims, it’s vital to know the risks Vs the opportunities. An accountant will help to support you by pointing out the areas that could affect your business as well as understand the project’s affordability using a cash flow forecast.

As a farmer or landowner you may want to fund smaller projects yourself , but for larger projects you are likely to need bank funding. The application for bank funding will need a thorough cash flow budget which will be evaluated by the bank. Your accountant can help you prepare the application.

When borrowing money, these are the two areas to pay particular attention to:

1. Not borrowing enough – delays and unforeseen costs are normal for a new venture. Consider how you would fund the project if costs were to increase by 10-15%
2. Unrealistic loan term – debt costs money, therefore most people wish to pay it off as quickly as possible and this typically hits cash flow hard. Cash flow is key and you should be doing everything you can to maximise it in the early years, so consider spreading debt repayments over a longer term. Banks will often allow you to repay loans quicker (watch out for early repayment charges on some loans) however, asking for additional finance when the business is struggling can be difficult.

One way to combat the above is to ask your bank about interest-only periods as this is a great way to preserve cash flow in the first six-12 months.

Applying for grants in 2021

Other financing options like grants could also be explored. Speak to us to find out the current grants and options that may be available to you.

However be aware that grant money isn’t usually awarded until the project is completed, so initial funding will have to be sourced elsewhere.

Though it might be difficult in the current environment to receive a grant as EU funding has been withdrawn, there are still often grants supporting diversification, particularly for accessing new markets, job creation and technological advancements.

Whether you’re opening a farm shop, holiday home or other venture, considering whether it should be structured as part of your existing business or as a separate entity is important, particularly for tax purposes.

Once you know the answer to that question, you can consider what type of entity the business should be – sole trader, partnership, limited company, and limited liability partnership being the most common examples.

Limited companies and limited liability partnerships can be useful to ring-fence the business away from other assets or businesses, providing an extra degree of financial protection for the main farm.

1. VAT

There are three main questions to consider in relation to VAT:

• What is the VAT treatment of the output from the diversification, and will the customers be able to reclaim any VAT charged?
• What will the input VAT be on any capital costs to develop the diversification and can these be reclaimed or reduced?
• What impact will the diversification have on the farm’s existing VAT registration?

Depending on the answers to the above questions, it may be better to ringfence the diversification as a separate entity, so it exists outside the farm VAT registration.
VAT will impact the finances of the diversification and therefore it should be considered at an early stage and factored into your business plan.

2. Inheritance Tax (IHT)

Farming property and businesses can potentially benefit from both Agricultural Property Relief (APR) and Business Property Relief (BPR), making them relatively tax efficient assets for IHT purposes.

However, when you take some of those farming assets and use them for non-farming purposes, APR will no longer be available and you will be reliant upon BPR. Therefore, it’s important to understand whether or not the new enterprise will qualify for BPR. If it doesn’t qualify, then it could be exposed to IHT at 40%.

It’s possible for the diversification to sit under the umbrella of your existing business and this could allow BPR to be spread over the diversification as well. However, this is a highly specialist area and advice is needed from your accountant as it could equally jeopardise the BPR position of the existing business.

3. Capital Gains Tax (CGT)

This is relevant for those aiming to sell or transfer the diversification in the long run. It’s key from the offset to know the eventual aim, to understand which CGT reliefs are available in the event of a sale, gift or transfer. However, be aware that these will be restricted if the diversification is not deemed to be ‘trading’ by HMRC.

Consider transferring the asset before it’s developed into a diversification, as removing it from agricultural production could limit the reliefs available.

4. Tax on profits (Income Tax or Corporation Tax)

Depending on how the business is structured, Income Tax or Corporation Tax will be payable upon the profits the new enterprise generates.

Understanding what you want to do with those profits (reinvest in the business, spend etc) and what rate of tax could be charged on them will likely be key to determining how the enterprise should be structured and ought to be considered at an early stage.

In addition, a point often overlooked is whether any of the capital costs incurred on developing the new enterprise can be offset against business profits.

For example, most people think they can’t claim on building conversion costs but this isn’t always the case. There is often a significant amount of tax relief available on building or converting a furnished holiday let and this relief can significantly reduce or eliminate tax on profits in the first few years.

• Planning permission – most diversifications will require planning consent which could directly impact VAT
• Insurance – the existing policy might not cover the diversification
• PAYE – relevant if the diversification is employing people
• Stamp Duty – not normally an issue but in the event of property transfer or sale it applies, particularly if debt is attached to the property.

If you would like to discuss farm diversification in more detail, then please do get in touch.