The London Upper Tax Tribunal accepts that an old master painting is a wasting asset, thereby escaping capital gains tax upon its sale.

M HollowIn November 2001, the executors of Lord Howard sold at Sotheby’s the portrait of Omai by Sir Joshua Reynolds. The portrait was painted shortly before 1776. Lord Carlisle bought it in 1796 and the painting hung at Castle Howard for over 200 years until it was sold. The question was whether the executors of Lord Howard were liable to pay Capital Gains Tax on the sale proceeds. If so, the tax liability would have been substantial. They argued that the painting was a “wasting asset”, and as such, its sale proceeds were exempt from Capital Gains Tax. HMRC objected, and so did the tribunal of first degree. The executors appealed.

Until his death, Lord Howard resided at Castle Howard. Part of the house was open to the public. The public part was run as a business by a company. During his life, Lord Howard allowed many of his artworks to be hung in the public part for the enjoyment of the public. This included the portrait of Omai. There was no formal arrangement. The company paid the costs of insuring and preserving the artworks. The portrait continued to hang in the public part of the house after Lord Howard’s death without a formal contract between the executors and the company.

The executors’ evidence was that the works of art hanging in the section of the house open to the public were an essential part of running it as a business. Visitors (who paid an admission fee) were attracted not just by the architectural qualities of the house but also by its contents. The portrait had been one of the attractions of the house whilst it was on display.

The appeal tribunal accepted that in the absence of a statutory definition, you could not describe a valuable painting as a wasting asset. However, the term “wasting asset” was defined in the Taxation of Chargeable Gains Act 1992. One leg of the definition is that an asset with a predictable life not exceeding 50 years, is a wasting assets. This, clearly, did not apply to our painting. Another leg of the definition is that “plant and machinery shall in every case be regarded as having a predictable life of less than 50 years”. In other words, the Act deems “plant and machinery” as having a predictable life of less than 50 years. Accordingly, they are to be treated from a tax perspective as a wasting asset.

The executors argued that the portrait of Omai qualified as “plant”. There is not statutory definition of plant. Relying on the case law, they argued that an asset is plant if it is used by a trader for permanent employment in his business. HMRC argued that in order for an asset to have the character of plant, that asset must be used in a business carried out by the person disposing of it. In this case, the business was carried out not by the executors but by the company. Further, HMRC argued, the painting was simply loaned to the company, accordingly it lacked the requisite degree of permanence with the company necessary to qualify as plant.

The tribunal accepted that, having regard to the nature of the particular trade being carried out at Castle Howard, the painting was being used for the promotion of the trade carried out by the company. In that sense, the painting was plant.

The tribunal then considered the test of permanence. The company may not have had a legal entitlement to keep the painting permanently, however it had been used in the business for nearly 50 years and during that time, it had been displayed in an established setting within the house. This gave the painting sufficient permanence to qualify as plant.

The tribunal then turned to HMRC’s third contention, namely that as the painting had not been used in a trade conducted by the executors, it could not be treated as plant in their hands. HMRC argued that whilst the painting was plant in the hands of the company, it was not plant in the hands of the executors. The tribunal noted that neither the Act nor the case law explicitly supported the distinction; in the context of the 1992, the question was whether the asset was used for the promotion of a trade. The fact that the trade was conducted by someone other than the owner of the asset was immaterial.

The tribunal concluded that the painting was plant, thus a wasting asset as defined by the Act, accordingly no chargeable gain accrued on its disposal by the executors.

Whilst the outcome may seem surprising, the decision is clear, logical and robust. We shall know in a week or so if HMRC will appeal. If they do not, the law may be changed. In the meantime, owners of artworks on display in houses open to the public may well seek to take advantage of the tribunal’s decision.

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