Empty rates mitigation schemes under further scrutiny following Supreme Court decision

Prior to regulation changes in 2008, the commercial property world seemed to treat empty rates as an acceptable cost of doing business.

Industrial properties were exempt and non-industrials, including shops and offices, had a three-month void followed by 50% rates thereafter. This approach had a sense of acceptance and equilibrium, broadly reflecting the different timescales and expected void periods of different property types.

From 1 April 2008, the regulations changed this to a six-month statutory void for industrial properties and three months for other classes, followed by 100% liability thereafter. The primary aim was not to increase tax revenue but to encourage landlords to have their properties in use rather than kept empty. In reality, it levied full taxation on a non-income producing asset and the regulations came into effect when the world was about to encounter a major financial crisis.

The introduction of this legislation created a new phrase and whilst it’s not yet found its way into the Oxford English Dictionary, ‘rates mitigation’ is a subject that’s well known to anyone in the commercial property industry. Well known but not necessarily well understood.

The case law around the subject has evolved over the years and there have been a raft of recent decisions that will have an impact on scheme users, providers and the councils trying to make sense of the decisions.

Rates mitigation schemes can be divided into two broad categories

Firstly, Temporary Occupation schemes rely on six weeks’ occupation to reset the statutory void period of three or six months, depending on the property type. The mechanics are set out in the Local Government Finance Act 1988 and the core caselaw goes back to Makro in 2012, but two recent decisions have an impact on how local authorities interpret such schemes: Isle Investments Ltd v Leeds City Council 2021 involved the use of snail farming in offices (seriously) to mitigate rates but were shown to be sham tenancies and failed.

Public Health England v Harlow District Council 2021 is significant, not least because it shows rates mitigation being used by a government body to reduce their exposure to £2.5m empty rates liability on a property awaiting redevelopment, but also because the decision sets out a checklist to help determining disputes on what constitutes “occupation”. PHE won.

Secondly, Insolvency Based schemes (although something of a misnomer) are based on the principle that a company in liquidation doesn’t pay business rates. Rather than using the six-week repeated re-occupation cycle the landlord/owner would ‘let’ the property to a SPV that would then go into a members’ voluntary liquidation (MVL) and no longer incur a liability for rates. Another variation uses the SPV liquidation or dissolution following striking-off.

The use of the MVL process was tested in Secretary of State for Business, Energy and Industrial Strategy v PAG Asset Preservation Ltd 2020 where the Court of Appeal upheld a decision that such schemes weren’t an abuse of the insolvency process but a legitimate form of rates avoidance.

At the same time as the PAG case, another case was winding its way through the courts. Originally issued in 2017 this saw a number of councils seek to argue that the landlords and not the SPVs were liable based on three grounds known as “sham”, “Ramsay” and “Prest”. The landlords sought to strike out these arguments and succeeded at both the High Court and Court of Appeal. The councils asked for leave to appeal on two points (Ramsay and Prest). The type of the proceedings is materially significant as the strike out request means that the Judge’s ruling is based on assumptions rather than specific facts of each case. The Supreme Court finally issued a judgment on 14 May 2021 – I won’t go into all of the arguments as it may result in sudden-onset narcolepsy but the Court struck out Prest and said there was a triable issue in respect of Ramsay that the lettings to the SPV’s didn’t operate to transfer business rates liability from the owner to the SPV company.

Specific is the word

I’ve mentioned ‘specific’ twice and that’s the point – each case will now go back to the High Court to rule on the explicit circumstances in each instance. There are further complex interactions relating to whether the rates have been demanded, statute of limitations and whether the ratepayers have been unduly prejudiced by delays in issuing rates bills. Needless to say this will be a lengthy process (with possible further appeals) before any liability crystallises.

The latest decision makes reference to the intention of Parliament when implementing the legislation and the wording would appear to introduce some general anti-avoidance principles that’s likely to lead to much greater scrutiny of all empty rates mitigation strategies, regardless of the mechanism by which they operate. We are already seeing queries arising from incorrect interpretation of Isle Investments and the latest Supreme Court decision is likely to obscure things further. The Supreme Court Judges (whilst no doubt exceptional lawyers) did not seem to appreciate that rates mitigation is a direct response to the withdrawals of exemptions that prior to 2008 and as I have said above were regarded as broadly fair and that what is being taxed is a non-income producing asset. The judgment gives the impression that landlords who use rates mitigation schemes do so because they are quite happy to do nothing and for their properties to sit empty.

It’s important to comment on why empty rates mitigation schemes are so widespread and there is much more to this than just trying to reduce vacant property holding costs. Each of the scheme types above aim to reduce or remove the empty rates charge levied by councils. This approach is in widespread use by sophisticated property owners, developers etc as part of their investment strategy. There are however many, many instances where newly constructed or redeveloped properties shouldn’t be in the rating list at all. Incapable of beneficial occupation = no rating list entry = no liability, without the need for a mitigation strategy.

The alleged arrears linked to this latest Supreme Court judgement can be traced back as far as 2008 – over this time the caselaw surrounding the deletion of rating list entries or the reduction to £0 has evolved further.

Mitigate vs appeal

In many instances the decision to use mitigation rather than the appeal process has been driven by simple economics and the cash flow benefits of having a known liability for mitigation fees, rather than full business rates, until such time as an appeal can be resolved at some unknown endpoint, clouded by uncertainty and at the mercy of the interpretation of whoever happens to be allocated the case at the VOA. The problem now is that any action to fix a rating list entry is restricted to the start of the current rating list on 1 April 2017.

We have already seen the introduction of General Anti Avoidance Legislation in Scotland. Wales are changing the period of occupation required to reset the statutory void period from six weeks to six months from 1 April 2022, although the rationale for doing so is flawed and refers to the longer statutory void periods on industrial properties being due to them being harder to let than shops or offices. I’m not sure that any agents would agree but it demonstrates how out of touch the Welsh assembly are with reality. Actions in Wales and Scotland suggest it will only be a matter of time before there are legislative steps to reduce empty rates mitigation opportunities in England. In the meantime, mitigation schemes will continue to evolve to overcome the barriers created by caselaw.

This is a very complex subject. If you have specific questions about any of the elements covered then please do get in touch.