An extraordinarily generous public purse is making the UK one of the best options for producers - British and foreign - looking to raise budgets through tax breaks and public subsidy. Adam Minns, Tim Dams and Nick Hunt reportIn the UK, the money raised for film financing through both sale-and-leaseback and tax-based production equity schemes has rocketed over the past five years. For film producers, the government's closure earlier this year of a loophole that had allowed TV productions to access these tax breaks means high net worth investors are now focusing their attention on film. Furthermore, competition among tax partnerships means they are increasingly offering producers a greater percentage of the budget.
One of the two main types of tax-based financing in the UK is the sale-and-leaseback scheme. This is a low-risk option for investors and a tried-and-tested means of securing at least 10% of the budget for film producers.
Since 1979 (with a brief hiatus between 1984 and 1987), sale-and-leaseback transactions have proved crucial in luring high-budget foreign productions to the UK, especially from Hollywood: any nationality of production can access sale-and-leaseback as long as they spend approximately 70% of their budget on UK elements. (This amount can differ depending on the nationality of the production and the terms of the international co-production treaty under which it is accessed.)
In 1997, the deal got even better. The indie boom of the late 1990s encouraged the UK government to try to increase local production even further. For productions costing up to $23m (£15m), British producers can now claim the 100% tax write-off in the first year, instead of over three years.
The UK's second tax-based initiative is the fledgling production equity option, which, on paper at least, could provide a production with up to 50% of its budget. But it represents a higher risk for investors who, unlike with the sale-and-leaseback partnerships, need the films to perform in terms of sales or box office. (Their investment is based on the sales estimate for the project, which has to be enough to cover itself and more.) Additionally, it is still an untested method of film financing.
It might be possible to combine the two types of funding - at press time, the Inland Revenue, the government's tax department, had still to clarify whether that was possible or whether the practice would be ruled 'double dipping'. Both options can be accessed under Section 42 (films budgeted at over $23m [£15m] with a 100% tax write-off over three years) and Section 48 (films budgeted at up to $23m [£15m] with a 100% tax write-off in the year) of the 1985 Films Act (see box).
Another option is the Enterprise Investment Scheme (EIS), introduced in 1994. This allows tax relief for investors who invest in small, higher-risk companies such as those set up for film production. The various EIS tax benefits for investors include relief on both income and capital gains tax.
Elsewhere, support body the Film Council has a policy of backing foreign projects as long as they can provide a UK producer with valuable international co-production experience. Moreover, newly flush regional film funds are pulling shoots away from London in an effort to reinvigorate their local economies.
"There is an enormous amount of soft money about," says producer Damon Bryant, who recently set up Sonnet Pictures with director John Maybury and is working on the $23m Marlowe. "It is not difficult to find 50%-60% of your financing and then, if you have a good cast, finding 40% [from overseas sales] should be easy."
In 2001, the bulk of sheltered income in the UK came through the territory's sale-and-leaseback schemes. (According to the Tax Efficient Review, total production worth $2.5bn accessed the tax breaks in 2001, although only 20% of this came directly from investors.) These have become ubiquitous for local productions (as well as foreign ones) since the government announced in 1997 that it was granting a 100% tax write-off for expenditure in the first year on British films budgeted at up to $23m (£15m) under Section 48. For film-makers, a sale-and-leaseback deal currently offers more than 12.5% of a budget. For investors, it effectively provides a cheap loan from the Inland Revenue for 15 years. Productions budgeted higher than $23m (£15m), including US and other foreign-led projects that spend 70% of their budget in the UK, can qualify under Section 42, but will receive tax relief over three years instead of one.
A number of so-called film partnerships - effectively the middlemen between the producer and the investors - have sprung up. Often working through financial institutions, the partnerships assemble a group of private investors to back a slate of films. As competition among these initiatives has intensified, partnerships have evolved to offer producers a bigger slice of budgets; early schemes provided as little as 6%.
Just as importantly, for UK producers rather than US studios looking for a cheap location, these partnerships offer backing at the financing stage. "At the moment, sale-and-leaseback gives you between 12.5% and 13% of your budget, which is invested in the picture and forms part of the budget of the film," explains Chris Auty, managing director of UK film and TV outfit Civilian Content. "It is front-end financing."
Producers looking to use sale-and-leaseback typically sell a film to a partnership and lease it back from them over a certain number of years. The benefit for the producer is that, when a partnership purchases a qualifying film, the production keeps anything between approximately 11% and 14% of the purchase cost, otherwise known as the budget. The rest goes on deposit with a financial institution to back up the lease commitments.
A typical sale-and-leaseback deal of low equity and high borrowing involves an investor putting up about 18.5%-19% of the total sum that they are sheltering. They then borrow the balance as a personal loan through the partnership, which charges about 5% fees.
In the next stage of the sale-and-leaseback deal, the producer's leaseback commitment with the partnership pays off the investor's loan over 15 years, along with the interest. The partnership owns the negative for 15 years, but exploitation and ancillary rights are granted to the producer.
However, the future of the sale-and-leaseback partnerships is unclear following changes made by the government earlier this year. Along with barring investors from claiming relief on deferrals, a practice that was being widely abused, Chancellor Gordon Brown closed a loophole allowing television productions to qualify for the breaks. The resulting shortage of product has triggered an explosion in production equity schemes claiming to offer producers up to 50% in equity for feature projects.
But the advantage of sale-and-leaseback at the moment is that the schemes are tried and tested. Some fear that production equity initiatives will fail to attract enough investors. "The market - that is, investors - don't want the risk; they want sale-and-leaseback schemes," says Martin Churchill, a leading independent adviser and editor of the Tax Efficient Review. "But producers are very attracted by the production equity funds, so the product is not necessarily available for sale-and-leaseback."
Production equity funds
Tax-based production schemes burst on to the UK production scene this year due to the government's decision to stop television product from qualifying for relief through tax breaks designed for film production.
Some partnerships and investors relied on television projects for up to 70% of their business. This means, in theory, the investors are still there but the product is in short supply. Estimates put investor demand at about $2.5bn, while the capacity of the tax schemes now is $774m-$928m.
For films budgeted up to $23m (£15m), an investor can put approximately 40% of a film's budget into a partnership with either the producer or partnership bringing in 60%-70% of the cash budget from other financing sources such as pre-sales or public subsidies. As partnerships compete with each other for product, they are offering producers increasingly lucrative deals.
For example, London-based producer and financier Random Harvest aims to provide up to 75% of production budgets by combining production equity under Section 48 with further tax-based financing from the Enterprise Investment Scheme, as well as a potential sale-and-leaseback deal. It also has a three-year, 12-picture output deal with Buena Vista International through its genre label Four Horsemen.
"We have been building our own development slate for the last three years," says joint managing director Alistair MacLean-Clark, who recently financed the Madeleine Stowe thriller Octane. "But it seems to be the case that there is too much tax money and not enough quality product."
The catch for producers is that equity financing is by nature risky and only their best projects are going to attract equity financing. In practice, this means projects must show a potential income of at least 125% of their cash budget before they become financially attractive to investors. Another worry for producers is that investors used to the safety of a sale-and-leaseback deal could balk at the risk. Film-makers could suddenly find themselves in pre-production with schemes that fail to deliver their funding.
"The production schemes are not having an easy time this year," says Churchill. "I am very critical of the way they gloss over the risk to investors. I don't think they will raise the money; at least, not as much as they say they will raise."
But supporters of production equity suggest the risk is precisely what the UK government wants in order to stimulate the industry. Auty says the option represents a rare opportunity for the film sector to attract genuine risk equity. "The schemes are a very, very encouraging way of attracting proper risk investment," he says. "Attracting inward risk investment is exactly what the tax breaks were all about."
The Film Council
Set up in 2000 with the aim of developing sustainability in the UK film industry, the Film Council operates three main film investment funds: the Development Fund, the New Cinema Fund and the Premiere Fund. Between them, they have a total annual budget of $31m. Strictly speaking, the Film Council's production investments are not soft money or public subsidy, as it expects a return. It also exercises a great deal of creative control.
The Development Fund
($7.7m annually) is overseen by Jenny Borgars and has a mandate to improve UK screenplays and the industry's development culture. It offers a maximum of $15,000 to individuals (including writers) and upwards of $15,000 to companies involved in slate development. Slate deals are designed to help film companies develop into more stable and sustainable businesses. Recipients include outfits such as Fragile Films, Gruber Films, Mission Pictures and Riverchild Films. According to the Film Council, applications are considered primarily on their creative merits and should aim to "be developed as feature-length theatrical films for commercial exploitation in the UK and the rest of the world".
Applications for funding are accepted at all stages of development from treatment onwards, which means a submission of some 10 pages detailing the narrative progression, the characters, the genre, the tone and the world of the story. Funding is available for all stages of development up to pre-production, and can include a variety of costs such as writer's fees, research fees, producer's fees, script readings with the cast, casting itself and payments to acquire and option rights.
In return, the Film Council expects profit participation in the film (up to 5% of a producer's share of net profits), repayment of development funding on the first day of principal photography, plus a 50% premium and an end credit saying: 'Made with the support of the Film Council'.
The New Cinema Fund
($7.7m a year) is headed by Paul Trijbits and focuses on cutting-edge film-making and new talent. It will normally contribute 15%-50% of a film's budget.
To access funding, projects should be submitted in script form and be feature-length theatrical films, primarily made in the English language unless there are mitigating circumstances. Films can be of any genre, and should have the potential to screen in cinemas or on television. If the producer and director are first-timers, the Film Council can insist that the film is made with the help of an experienced executive producer. In most cases, cast and director must already have been secured.
The fund insists on approval rights on a range of factors including the script, the director, the producer, the principal cast and crew, the distributors, the sales companies, the broadcaster and the co-financiers. The money will not flow into a production until all third-party funding has been arranged and documented. In return for its financing, the fund expects to profit-share in the film in the same way as other equity investors and to receive a contractual front credit saying '[and] the Film Council present', plus an executive producer credit.
Recent projects to receive New Cinema Fund backing include AKA, Bloody Sunday, Intermission, The Magdalene Sisters, Once Upon A Time In The Midlands and Revengers Tragedy.
The Premiere Fund
($15m annually) is run by Robert Jones and backs commercial films with the potential to attract international audiences. It is aimed at everyone from first-time film-makers to some of cinema's most established names (the fund backed Robert Altman's Gosford Park) and will normally contribute up to 35% of a budget.
According to the Film Council, potential Premiere Fund projects are assessed on their creative merit and audience potential, and companies should have "a realistic likelihood of recoupment". A director and cast should normally be attached before application and - importantly - the fund also expects a company to have "secured worldwide distribution or representation at international markets via a reputable sales agent with a guaranteed meaningful theatrical release in the UK".
However, the Premiere Fund may choose to assist the production company in raising the budget, committing to the project for a fixed period without all the financing elements in place.
Films should normally be made in the English language. However, the Premiere Fund will consider foreign-language productions - as long as they can be proved to benefit the British industry.
For example, for Patrice Leconte's French-language The Man On The Train, in which the fund invested $700,000, the fund helped find a British co-producer and the project had guaranteed UK distribution through Pathe Distribution. Both these factors met the Film Council's stated aims of training UK producers to work on international co-productions and of widening the distribution of foreign-language films in the UK.
In return, the Premiere Fund expects to share in the film' s profits. It will also have approval rights over the script, the director, the producer, the principal cast and crew, the distributors, the sales companies, the co-financiers, each stage of post-production, the running time of the film and consultation on the release campaign. Like the New Cinema Fund, it also expects a front credit and a main title executive producer credit. It also expects to be closely involved with the production itself.
Premiere Fund projects to date include Fragile Films' The Importance Of Being Earnest, Recorded Picture Company's Young Adam and Hallmark's Mike Bassett: England Manager.
Regional Film Funds
The Film Council is not the only game in town when it comes to awarding public funding to a feature, British or otherwise, in the UK.
Smaller film funds are dotted across the UK and fall into two broad categories: those that mainly dispense National Lottery money (via the Film Council), and others, such as the Isle Of Man Film and Television Fund, which are bankrolled by regional bodies. Both have the same goal: to attract film production into their area to stimulate the local economy.
One of the largest regional fund is Scottish Screen, the Film Council's northern cousin, based in Glasgow. Scottish Screen has an operational feature film fund of $2.3m for 2002/2003 (although it will make further funds available in the case of an exceptional project). At the development stage, a production can access money from both Scottish Screen and the Film Council. Variations exist in Cardiff, where Sgrin Cymru Wales has a Lottery Film Fund of $2m; and Belfast, where the Northern Ireland Film and Television Commission has $1.5m for production and development.
Most aim to boost their local film industry. Any production applying to Scottish Screen, for example, has to prove its local credentials by hooking up with a Scottish production company or taking on locals as trainees."It is not enough to develop it here, then go off and shoot the film elsewhere," explains Carole Sheridan, Scottish Screen's development executive. "Scotland has to profit in some way."
Applicants submit shooting schedules and budgets which are then checked by independent experts. Scottish Screen also looks for evidence of a pre-sale, sales agent or distributor attached.
The application is considered by an officers group, which includes chief executive Steve McIntyre and head of production development Claire Chapman, whose recommendations are passed to the production committee.
Scottish Screen is also keen to use funding to develop overseas links. It awarded $600,000 to Danish director Lone Scherfig's $3.4m Wilbur Wants To Kill Himself (on which it partnered with Glasgow-based Sigma Films, Sweden's SVT, TV2 Denmark, Norway's Nordic Film & TV Fund and France's Les Films Du Losange). Scottish Screen also pumped $202,000 into David Mackenzie's The Last Great Wilderness (on which it again partnered with Sigma Films and Denmark's Zentropa).
At a lower level, the Film Council has earmarked $9.3m a year via the Regional Investment Fund For England (Rife) for the nine self-governing regional screen agencies that operate in England locally. One of the smallest is Screen South, based in southern England. It has made 49 grants from its $230,000 pot, with a maximum award of $15,000: unsurprisingly, it attracts few approaches from features. Chief executive Gina Fegan says the agency can act as a reality check for any seven-figure features that do apply. "We ask them: 'If you cannot raise that $15,000 and come to us, should you not be considering something like sale-and-leaseback''"
Instead the agency concentrates on smaller films, mentoring upcoming film-makers and directing them to larger funds such as those held by the Film Council.
Bigger mid-budget features have a better chance of success with the Isle Of Man's Film and Television Fund, part of the island's Film Commission, which can provide up to 25% of a production's budget as long as equity investment is in place. The island's semi-autonomous local government has about $62m a year for six to eight film and television productions: in return at least 50% of principal photography must be shot and at least 20% of below-the-line costs spent on the island. Its biggest investment to date has been in Samuelson Productions' The Gathering, for which it provided $4.3m of the production's $17m budget.
Hilary Dugdale, the commission's development manager, explains: "There has got to be a good sales company attached and an indication of the commercial potential that it will sell. The worst ones come to us with a script but with flimsy financing. We see the holes at once and they go to the bottom of the pile."
Of those that clear this hurdle, only 15%-20% of films are then approved for funding. This is partly because the fund is now more inclined to back television production, which brings regular and more prolonged employment to the area. The fund also does not want to overburden the island's support resources with too many films and their higher technical demands.
"We are an island, after all," says Dugdale. But that is not a sentiment many UK film-makers will echo any longer.
Criteria for section 42 and section 48
Films must qualify as British to access either Section 48 or Section 42 funding under the 1985 Films Act. Section 48 is aimed at UK productions budgeted up to $23m (£15m); Section 42 encourages inward investment and is for projects budgeted at more than $23m. To qualify as British for either, a production must spend at least 70% of the budget in the UK, set up a UK company and employ UK, European or Commonwealth nationals for at least 70%-75% of the payroll.
Recent films to be classified as British include Die Another Day, Tomb Raider 1 & 2 and the Harry Potter films. Films can qualify as British under EU law as international co-productions - the UK has bilateral treaties with Italy, Canada, France, Germany, Australia, New Zealand and Norway - or under the European Cinematographic Convention. It will normally be necessary to spend at least 20%-30% of the budget on UK elements. In certain strict circumstances, the UK participation may be purely financial.
Criteria for ACCESSING FILM COUNCIL FUNDS
A producer of any nationality may submit a script in any language to the Film Council, which will base its funding decision on whether the project can deliver a quantitative benefit to the British film industry. This will usually take the form of a UK co-producer which the Film Council will try to attach. The project must also be guaranteed a UK theatrical release.
Case study: Jet Lag
StudioCanal's Jet Lag is an example of an overseas production accessing funding from UK tax breaks without spending a penny in the UK - directly, at least. The trick in securing funding through the UK's sale-and-leaseback scheme was for StudioCanal to make a reciprocal investment in a UK film - Young Adam.
Creatively 100% French, Jet Lag was structured as an Anglo-French co-production with the UK arm of Pathe. The Jean Reno and Juliette Binoche picture qualified as British under the UK's bilateral co-production treaty with France by 'twinning' with Young Adam, a 100% British film starring Ewan McGregor and Tilda Swinton. In turn, Young Adam was treated as a French film by French state body CNC. With Young Adam classified as French to satisfy StudioCanal's requirement to broadcast a certain amount of local product, the company could raise its investment as a co-producer. "The distributor gets an English-language film which helps its value down the line," says Peter Watson, managing director of Young Adam's UK production company Recorded Picture Company. "The television values are also greater, therefore it was able to step up and pay a larger minimum guarantee than usual."
With StudioCanal taking all French rights to the film, the remainder of Young Adam's $7.8m budget was made up through pre-sales to Italy's Mikado and Spain's Vertigo. UK public funding body Scottish Screen was also on board, as was sale-and-leaseback money and production equity funds arranged by VisionView. Jet Lag, the story of two passengers who fall in love while killing time waiting for flights at Paris' Charles De Gaulle airport, was produced by Les Films Alain Sarde and bankrolled by StudioCanal, Pathe, Canal Plus and TF1 Film Production.