Property Tax Newsletter - May 2006

This newsletter covers in outline some of the business and tax considerations which may exist for individuals who invest in property either in the UK or overseas. The comments made within this newsletter are intended for guidance only and should not be relied upon as a substitute for specific advice as each individual case is different.

Ownership

One of the first considerations when investing in property is which structure to use for holding the property. Should they be held in individual names, as a partnership or within a limited company?

Generally, best advice suggests that the overall most beneficial structure for holding properties is in individual names. This holds true whether the investment is one or a few properties. Only when numbers become significant does the consideration of a limited company become more compelling. Whilst holdings within a limited company make funding slightly easier, the taxation of companies, allied with the taxation of distributions from the business and in due course, the winding up of the company make it the less favoured choice of structure.

If properties are held in joint names, then a favourable structure may well be a Limited Liability Partnership (LLP). Whilst enjoying limited liability and separate legal entity, the taxation of the partners is exactly the same as if the property were held as part of a conventional partnership. This is a more popular investment vehicle, particularly where multiple properties are involved.

The remainder of this Newsletter considers the positions of investors where properties are held in individuals names.

The Taxes

There are two taxes that immediately spring to mind when looking at investment property, Income Tax and Capital Gains Tax. However, there is another tax that is often forgotten, but of equal importance when looking at long term property investment. This is Inheritance Tax.

Income Tax

Any income arising from land and property is subject to income tax and reported to the Inland Revenue through the Land and Property pages of the Self Assessment Tax Return. The treatment of properties for tax purposes depends on the type of investment property.

Whilst this edition of the Newsletter will not cover these in detail, there is a distinction between investment property and holiday lets, and within investment property a further distinction between furnished and unfurnished. The classification of a pure investment property can have a significant impact on the taxable income.

It is important to note that any tax losses arising from a property, can only be offset against income arising from that same property, and will not be offset against income arising from other properties, or indeed against other income as is the case in other countries.

Capital Gains Tax

On disposal of a property, Capital Gains Tax arises on the excess of the proceeds over the cost of the property. This is treated as the top slice of income when taxed.

Care needs to be taken in keeping records of the costs incurred in purchasing the property, as it is not simply the purchase price that is allowed. In addition, the cost of acquiring the property such as solicitor’s and surveyors fees and stamp duty can be included.

Likewise on selling a property, the costs of selling can be taken off the sale proceeds, e.g. agents and solicitors fees. These will help reduce the overall gain.

Further, in the period of holding the property, if any work of a capital nature is carried out, e.g. double glazing, a separate note should be kept and the costs not claimed against income tax as an expense.

This is because the cost can be used for taper relief purposes in calculating the gain, and thus reduces the overall capital gain. This is likely to reduce the amount being taxed at 40% whereas income tax at the time may only have been paid at 22%.

A further consideration in terms of Capital Gains Tax is the ownership and relative tax positions of the investors. For example, a husband and wife with a similar personal tax position may be better to hold the property in joint names. On selling the property, the gain is apportioned jointly and each person is entitled to the Capital Gains Tax exempt amount.
 
Inheritance Tax

Inheritance Tax is due on an individual’s worldwide assets both on lifetime gifts and on death. Inheritance Tax is another important consideration when considering ownership.

Should an individual purchase property in their own name and subsequently decide to transfer ownership to a sibling or anybody else, a tax charge is immediately crystallised. Capital Gains Tax will become payable on the date of the transfer at a value deemed to be a market rate valuation.

In addition, should death occur at any point in the seven years immediately following, an Inheritance Tax liability will also occur.

Although not an immediate consideration for many, Inheritance Tax should form part of any tax planning in considering property investment.

 

Overseas Investment

To now, all the comments have been directed towards investment in property in the UK, the following section deals with the situation of investing in property abroad.

The Basics
Where an individual is both resident and domiciled in the UK, then tax on income arising from a property abroad is no different from whether the property is based in the UK.

Income tax is payable by UK residents on all worldwide income as is Capital Gains Tax and Inheritance Tax on worldwide assets.

Income Tax
This is regardless of whether that income has been taxed in another country. However, a tax credit will be available, either under the double tax treaty the UK holds with the relevant country or unilaterally in the UK, the amount taxable in the UK being the net rental income after allowable expenses.

Capital Gains Tax
The same is true also for Capital Gains Tax. Gains on the disposal of land or property in another country that would be taxable in that country, will also be taxable in the UK. A tax credit will be available, either under the double tax treaty the UK holds with the relevant country or unilaterally in the UK.

An individual, however, may be eligible for principal private residence relief, where the property is used by the owner as a (second) home, even though it is situated outside the UK. In the case of an individual holding two properties, an overseas property will need to have an election made over it. Where a property qualifies, periods of letting are permitted and there is additional letting relief.

Inheritance Tax
There is no difference in the taxation of Inheritance Tax to that if the property were held in the UK.

 

Summary

This Newsletter has sought to cover some of the basics of tax involved in property investment and set out to provide some easy tips to help reduce the tax burden, however, this is no substitute for obtaining specific advice for each individual case.

This has briefly covered the main aspects of tax, but in future Newsletters, we will look at key aspects tax in more detail, providing more hints and tips on how to plan for tax more effectively and reduce your tax burden simply and easily.

If there are specific aspects of Income Tax, Capital Gains Tax or Inheritance Tax that you would like to see covered, then please advise SIPS accordingly and we will endeavour to cover the specific needs of our clients.

© Craig Millard ACA 2006

 

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