HMRC has released new guidance on the tax treatment of ecosystem services, including Biodiversity Net Gain (BNG) and carbon credit schemes. If you’re a landowner or developer, it is important to be clear on how your income, costs, and long-term agreements are treated for tax purposes, so you can plan your cashflow and be certain that the arrangements work for you.
There is growing interest in Biodiversity Net Gain (BNG), both from developers, who must comply with the requirements, and landowners, who are looking to exploit their land for a financial return. HMRC has been looking closely at the scheme and the tax implications for those involved. They also considered other similar “ecosystem services”:
- Nutrient Neutrality, which, like BNG, is statutory,
- Woodland Carbon Code (voluntary – Carbon Credits)
- Peatland Code (voluntary – Carbon Credits)
HMRC have released a Technical Note with guidance on the tax treatment of the above schemes, both from the perspective of the person paying for/buying the ecosystem services and for the landowner who is receiving payments.
As a reminder the schemes operate as below:
- Developers meet obligations on-site, off-site, or by purchasing credits
- Credits include biodiversity units (≥30 years), nutrient credits (~75 years), and tradeable carbon credits
- ‘Stacking’ allows multiple environmental outcomes from the same land where distinct (but not allowing double counting for the same environmental outcome).
The note outlines the following:
What this means for Buyers (Developers)
- Mandatory payments – typically tax deductible as business expenditure for income tax/corporation tax purposes
- Capital expenditure – not deductible but may affect the capital gains position
- Carbon credits deductible if used in trade
- Carbon Credits which are traded are taxed as income
- Carbon Credits held as a long term investment are capital in nature
- Voluntary payments must be for business purposes to qualify for tax relief
What this means for Landowners
- Receipts are usually taxable as trading/property business income
- For farming activities the income is included in the farming trade if the land is still farmed or, if not farmed, the ecosystem land is not significant compared to the land which is still farmed
- Woodland: special treatment applies
- Peatland: generally taxable
- The tax treatment of the expenditure incurred on establishing the ecosystem depends on what the person is using the land for
- Charities will qualify for an exemption if the activity forms part of their primary purpose charitable trade
Capital vs income:
- Most receipts are treated as income
- May be capital where compensation relates to permanent loss or sterilisation of land
- Some expenditure may be capital
- Consider whether capital expenditure it is eligible for capital allowances e.g. plant and machinery
Other tax considerations
- BNG units are subject to VAT at the standard rate
- BNG Credits are outside the scope of VAT
- Most carbon credit are in the scope of VAT but there are some exceptions
- Generally, payments for ecosystem services by developers are not chargeable interests for Stamp Duty Land Tax purposes, but arrangements need to be examined to see if there are any land interests involved
- For inheritance tax purposes, an environment management agreement shouldn’t impact on agricultural relief from IHT but each situation needs to be judged on its own facts
How we can help
In general, the tax treatment of receipts and payments aligns with existing tax principles, but there are still some areas where judgement is required. As well as the above, landowners need to consider whether any other transactions associated with creating the ecosystem could have tax consequences. There is also the need for careful structuring as these are long-term agreements and can generate multiple income streams.
At PEM, we help landowners and developers structure ecosystem service arrangements efficiently, ensuring the correct tax treatment while maximising available reliefs. If you’re considering entering into an ecosystem services agreement, speak to our tax specialists to ensure your arrangements are structured efficiently.
