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Changes to the tax reliefs offered to investors in film partnerships have caused concern and confusion

Typically, if an investor wishes to put a total of 100,000 into a film partnership, they will pay around 20,000 in cash and then borrow the balance of 80,000. On the total investment of 100,000, they will receive tax relief at 40 per cent – provided the investor is a higher-rate taxpayer – leading to a tax repayment of 40,000.

Therefore, the position in the first accounting period is a net cashflow benefit of around 20 per cent of the total investment so the investor in our example could be up to 20,000 better off in real cash terms.

The concept of tax deferral arises since the initial cash- flow benefit is not a total gain.

With the investment of 100,000, the partnership purchases a film from a producer which is then leased back to that producer for exploitation. The producer makes rental payments (which are guaranteed by a separate bank) over the course of a 15-year lease to the partnership. So, over the next 15 years, the partnership – and investor – receive rental payments for the lease of the film and these rental payments are taxable in the hands of the investor.

The key to financial gain depends on what the investor does with the initial cashflow benefit of 20,000 before having to repay the 20,000 over 15 years in the form of tax on the rental payments.

The concept of a hurdle rate gives the investor an idea of what they need to do with the 20,000 to make a gain on the transaction. With interest rates fixed on the borrowing, and with the lease payments fixed at the outset of the 15-year lease term, the hurdle rate identifies the rate of return which the investor needs to achieve on their tax repayment to meet the tax payments on the future rental payments. So, in our example, if the hurdle rate is 5 per cent, the investor needs to achieve a net return of 5 per cent on their 20,000 initial cashflow benefit over the course of the next 15 years to meet future tax payments on the lease payments. If they can achieve a rate of return better than 5 per cent, the transaction will leave them with a net gain.

Production partnerships are slightly higher-risk but higher- return structures since, along with the tax deferral benefits explained above, the investor takes a position in the underlying product – the film itself. The initial outlay on a total investment of 100,000 may be a little higher – for example, 25,000 with 75,000 borrowed by the investor – but, in return for this higher entry price, the investor will not only benefit from tax relief but will receive two further benefits: This tax relief is known as section 48 relief and is a temporary relief. It was originally due to expire in 2000 and has been extended three times but will no longer be available for films which go into production after April 2006.

Shortly after the introduction of section 48 relief, a num- ber of partnerships were set up allowing private investors to take advantage of the relief through sale and leasebacks. Since they were launched, film partnerships have attracted a great deal of money and interest. In the first two years of their existence, more than 500m was invested and they are still a popular choice for investors.

But in December 2004, the Inland Revenue issued details of changes being made to the scheme. This naturally caused concern and confusion among investors and the industry.

The good news is that film partnerships are still available and those wishing to invest money through one of the opportunities available needs to be aware of the changes.

Essentially, there are still two types of relief. Section 48 of the Finance (No. 2) Act 1997 provides tax relief on the total cost of producing or acquiring a film and applies where the budget of the film is 15m or less. All the tax relief is available for the tax year that the film is finished and the film must be a British film. Sale and leaseback partnerships use the relief to acquire films whereas production partnerships use the relief for producing films.

The main aim of the Revenue’s press release in December 2004 was to prevent a practice called double-dipping. It states that relief can only be claimed once for any film. Previously, there was nothing in the legislation preventing two separate partnerships, with separate partners, from claiming relief for both production and acquisition expenditure for the same film. The Revenue now wants to prevent this. Films contracted from now on will be affected by this legislation. The press release also aimed to:

  • Restrict tax deferral on sale and leaseback transactions to a maximum of 15 years.
  • Prevent partners obtaining sideways loss relief in excess of their capital contributions to the trade for this they are and remain fully at risk.

In the future, there could be even more changes. The Revenue and the Treasury are reviewing the operation of new tax credits to replace the existing sections 48 and 42.

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