A look at the benefits and pitfalls of diversification schemes.

As farm businesses see traditional sources of income under pressure due to subsidy reform and volatility in prices and costs, diversification projects to generate additional revenue and spread risk are becoming more generally widespread.

When properly planned, these projects, which might include glamping and holiday accommodation, renewable energy schemes and woodland planting, for example, can provide much needed revenue streams that can underpin the business.

However, where not properly planned and considered, there can be pitfalls which may have a significant impact on the tax position.

Martyn Dobinson, Partner, Saffery Champness, said: “Proper advice should be sought at an early stage and the potential risks and issues of diversification projects should be explored at the outset, not only to assess a project’s viability, but also to assess the impact on other operations and any unintended tax consequences.

“It’s important to undertake thorough market research to ensure that there is a market for the new service or product, to assess the competition and to ensure that revenue and profit expectations are robust.

"The initial investment required, and expected return thereon, should be thoroughly assessed to ensure that the diversification project is viable. What about unexpected increases in costs? Other new entrants into the market? Sensitivity analysis should be performed on budgets and forecasts to assess the impact on the proposed new business.

“Farm business income is generally taxed as trading income, whereas income from diversification projects could be assessed as investment income. Many land and property-based businesses would not qualify as trading businesses, particularly where there are no additional services provided with the simple letting of the land or space, for example accommodation and renewable energy facilities operated by a third party.

"Such income would be taxed separately to that derived from the main farming trade and can therefore have implications for loss relief and averaging, for example.”

“Where the project is one of investment, rather than trading, there can also be significant implications for Inheritance Tax reliefs. Will the new business qualify for Business Property Relief (BPR)? Will the new venture tip what was an overall trading business into investment?

“VAT is always an important consideration. Does the diversification project put land or property to a different use? Partial exemption rules and the impact of the project on the overall VAT recovery position will need to be considered.”

Other factors to be considered in the planning phase include whether the project has any potential public liability. If so, if there is adequate insurance cover in place or is the risk such that it may be sensible to run the venture through a separate legal entity with the protection of limited liability, such as a company or limited liability partnership?

Directors or members of such entities do still have legal responsibilities, but these structures can be useful to protect existing businesses from the increased risk posed by a new venture.

Also, will a change in use of property lead to an exposure to business rates where a property was previously exempt? What about tax relief for any initial capital investment, for example through capital allowances? Potential grant funding for the venture is another important consideration.