Sarah Bradford explores the tax treatment of jointly-owned property and how to determine whether a partnership exists.
Property may be owned jointly for all sorts of reasons. Where jointly-owned property is let out, the way in which the rental income is taxed depends on whether there is a partnership and, if not, the relationship between the joint owners.
The first question to ask is therefore: ‘Is there a partnership?’
Property partnership?
Owning property jointly does not in itself create a partnership, and in most cases joint letting will not amount to a partnership.
A partnership is defined in the Partnership Act 1890, s 1(1):
‘Partnership is the relationship which subsists between persons carrying on a business in common with a view to profit’.
The Act also provides:
- Joint tenancy, tenancy in common, joint property, common property or part ownership does not of itself create a partnership as to anything so held or owned, whether the tenants or owners do or do not share any profits made by the use thereof.
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The sharing of gross returns does not of itself create a partnership, whether the persons sharing such returns have or have not a joint or common right or interest in any property from which or from the use of which the returns are derived.
However, it is possible that an individual may own properties that are let out as part of a partnership business. This may be the case where the person is a partner in a trading or professional partnership or (more rarely) where they are a partner in an investment business that does not constitute a trade and which includes or consists of the letting of property.
Factors to consider
Whether a partnership exists will depend on the facts. A partnership is unlikely to exist where an individual is simply one of a group of joint owners of a property which they let out.
However, if they provide significant additional services, this may indicate a partnership. The key is the amount of business activity involved; for there to be a partnership, the level of business activity needed is akin to the level of organisation needed in an ordinary commercial business. A partnership set-up can offer tax advantages, and where this is the preferred route, it is vital to pass the business organisation test – failure to do so will mean that HMRC is unlikely to accept that a partnership exists, and the usual joint ownership rules will be applied.
Where a partnership rental business exists, it is treated as a separate rental business and the profits and losses must be calculated for that business in isolation. The partnership rental business is separate from any other profit rental business that the individual may have. If the individual is a partner in more than one property partnership, each partnership is a separate rental business. The profits and losses from different rental businesses cannot be set against each other; losses must be carried forward and relieved against future profits from the same rental business.
Tax treatment
Where a partnership exists, the normal tax rules apply. The partnership is transparent for tax purposes and each partner is taxed on their share of the profits.
The profits are allocated in accordance with the agreed profit sharing ratio. Regardless of the relationship between the partners, they can decide between themselves how to split profits. This can be a massive advantage for partners who are married or in a civil partnership and gives them flexibility in how they share profits not available outside the partnership.
They do not need to set the profit sharing ratio in advance. They can simply agree to share profits and losses in such proportion as agreed among themselves. This allows them to tailor the split each year to achieve the best possible outcome.
Example: Partnership profit shares
Wayne and Wendy are married and let out a number of flats which they own jointly. They provide several other services to tenants, such as cleaning and maintenance services. HMRC accepts that they have a property partnership.
In 2023/24, the rental profits are £80,000. Wayne works entirely in the business. Wendy undertakes the administration work. She also runs a separate business as a hairdresser, from which she makes £30,000 in 2023/24.
Wendy has used up her personal allowance and £17,430 of her basic-rate band, leaving £20,270 of her basic rate band available. Wayne has his basic rate band and personal allowance available.
They agree to allocate profits in the ratio 65:35, so that Wayne has 65% of the profits (£52,000) and Wendy has 35% (£28,000) of the profits. In this way, the first £12,570 of Wayne’s profits are set against his personal allowance and are tax-free, the next £37,700 is taxed at the basic rate (£7,540), and the remaining £1,730 is taxed at 40% (£692), giving him a total tax bill of £8,232. Wendy is taxed at 20% on the first £20,270 of her profits (£4,054) and at 40% on the remaining £7,730 (£3,092), giving her a total tax bill of £7,146.
If they had shared profits equally, each receiving £40,000, £10,270 of Wayne’s basic rate band would have been wasted, with these profits instead taxed on Wendy at 40% rather than on Wayne at 20%. This will increase their joint tax bill by £2,054.
Joint ownership: No partnership
Where properties are owned jointly outside a partnership, the way in which the rental income is taxed depends on the relationship between the parties.
(a) Joint owners are married or in a civil partnership
Stricter rules apply to tax rental income when the joint owners are married or in a civil partnership. Where this is the case, the tax planning options depend on how the property is owned.
The default position is that the rental income is treated as allocated equally between the spouses or civil partners, with each being taxed on 50% of the rental profits, regardless of any actual split between them.
This may be a good or a bad thing. If a property is owned solely by one partner and that partner pays tax at a higher marginal rate, transferring a small stake in the property (say 5%) using the no gain/no loss rules will transfer 50% of the rental income for tax purposes to the spouse or civil partner paying tax at the lower rate. This will reduce the overall tax bill on the rental income and make it possible to utilise personal allowances or basic rate bands that might otherwise be wasted.
However, if a different split would be ideal, this is only an option if the property is owned as tenants in common in different shares. This can be done by making a Form 17 election for the income to be allocated for tax purposes by reference to the underlying beneficial shares. The ownership split can be changed by making transfers between them on a no gain/no loss basis to achieve the desired result. The election cannot be made retrospectively, and if it is to have effect for the full tax year, it must be made at the start of the tax year.
If the property is jointly owned as joint tenants, the only permitted rental split for tax purposes is a 50:50 split.
(b) Joint owners are not spouses or civil partners
Where property is owned jointly by persons who are not married to each other or in a civil partnership, there is more flexibility as to the allocation of rental income for tax purposes. The usual situation is for the income to be allocated between the joint owners in accordance with their ownership shares.
However, the joint owners may decide to allocate rental profits differently, in which case each person will be taxed on the profits they actually receive. This achieves the same flexibility as a partnership, but without the need to satisfy the business test.
Practical tip
A property rental partnership can offer married couples and civil partners greater flexibility in the sharing of rental profits. This can be very useful from a tax planning perspective. However, HMRC is reluctant to accept that jointly-owned property is owned in partnership; passing the business organisation test is key.
