This article first appeared in Scottish Farming Leader, NFU Scotland’s members’ magazine.

In recent years, many farmers have considered diversification to improve the viability of their farming businesses.  However, some may be unaware that moving away from their traditional farming activity could potentially jeopardise valuable tax advantages that are uniquely available to farming businesses.

Diversification could include letting out farm cottages as Furnished Holiday Lettings, selling produce in a farm shop, agricultural contracting, using the land for grazing for horses instead of livestock and letting out surplus farmland for more than 365 days. But is this farming? The diversified activity could constitute a separate “trade” from the farming activity or, for example, may be taxable as Rental Income instead of Trading Income. At the outset, you should check with your local Council whether the new venture will be subject to business rates. Check what rate of VAT applies to what you are selling and whether it affects your ability to recover ‘input’ VAT from HMRC.

In the medium term, many unincorporated farming businesses will take advantage of Farmers’ Averaging to smooth the cash flow impact of their income tax bills, however significant diversification could affect the ability to claim this.  Whether a farming business continues to qualify as ‘trading’ can also affect the rate of Capital Gains Tax payable in the event of the sale or gift of the business.

Significant diversification may also affect the Agricultural Property Relief and/or Business Property Relief available for Inheritance Tax purposes. The availability of these reliefs to diversified farm businesses is complicated and dependent on the interpretation of case law. Tailored tax advice is required, and always check the updated guidance as what was true last year may well have been overturned in the meantime.

Because of the potential tax issues, many farming businesses consider running their new activities via a limited company.  Correctly structured, this can be advantageous - Corporation Tax rates are generally lower than Income Tax and National Insurance rates.  Limited companies can however create additional complications compared with unincorporated businesses, particularly in relation to ‘personal’ expenses.  Favours become taxable (and possibly subject to NICs), so be aware that you cannot simply withdraw or borrow funds or assets from a company without considering tax consequences.

Whilst farm diversification may make valid commercial sense, ensure you take tax advice in advance so that potential pitfalls can be identified and dealt with to avoid surprises. To discuss your plans and the impact these may have on your tax position, get in touch with me at chris.campbell@jcca.co.uk or your usual Johnston Carmichael contact.