Mark McLaughlin highlights the distinction between legal and beneficial ownership of land, and some potentially unexpected tax implications.
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For more in depth discussion on this important area of property taxation, please see our recently updated report ‘Taxation Of Property Partnerships and Joint Ownership’.
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A popular expression among taxpayers seems to be putting someone ‘on the property deeds’. This expression broadly means changing the legal ownership of a property. The property could (for example) be the family home or an investment property.
In a tax planning context, putting someone ‘on the property deeds’ often involves giving the property, or an interest in it, to a spouse (or civil partner) or close family member. The recipient invariably pays tax at a lower rate, or possibly no tax at all.
This type of planning looks simple and straightforward on the face of it. However, tax is seldom simple or straightforward! This article considers some tax issues where a taxpayer puts someone ‘on the property deeds’ of a property in the hope or expectation of saving some tax (NB this article mainly relates to a property in England and Wales, but not in Scotland).
Legal vs beneficial ownership
Putting someone on the property deeds broadly involves changing the registered ownership of the property (e.g., transferring it into a family member’s sole name, or adding the spouse as a joint owner) with the land registry.
The legal process is beyond the scope of this article, but general guidance on transferring the ownership of property is available from the Gov.uk website (tinyurl.com/GOV-RLP-HMLR). Professional help from a solicitor is normally to be recommended.
Joint tenants or tenants in common?
A property can be owned either as ‘joint tenants’ or as ‘tenants in common’. If a property is bought equally, it will be held as joint tenants, unless the owners direct otherwise.
If a property is owned as ‘joint tenants’, it is not possible for an owner to pass on ownership of the property on death (or during lifetime) to third parties. The property passes automatically on their death by survivorship to the remaining owner(s) (and if more than one owner, in equal shares), irrespective of the terms of the deceased’s will or the rules of intestacy.
By contrast, ownership as ‘tenants in common’ gives each owner a separate share of the property, which can be left by the joint owner’s will to third parties (or under the rules of intestacy, if there is no will) or disposed of during lifetime.
General guidance on joint property ownership is available on the Gov.uk (www.gov.uk/joint-property-ownership).
Capital gains tax
It may be necessary to consider not only the legal ownership of the property, but also the beneficial ownership, as these will not necessarily be the same. The distinction between legal and beneficial ownership is important. For capital gains tax (CGT) purposes beneficial ownership is generally relevant, as opposed to legal ownership.
For example, if two individuals (A and B) are joint legal owners of a property, it does not automatically follow that A and B will both be liable to CGT on a chargeable gain from a subsequent disposal of the property, unless they are also joint beneficial owners.
There is unlikely to be any dispute about the legal owners of a property. This is because the transfer of legal title of land (i.e., conveyance) is generally void unless made by deed (LPA 1925, s 52), and conveyances need to be registered with the Land Registry (for land and property in England and Wales).
By contrast, in HMRC’s view there is no single factor determining beneficial ownership. Each case will depend on its own particular facts, but HMRC’s Capital Gains Manual (at CG70230) lists the following as indicators that a person is a beneficial owner of the land (although in the absence of any evidence to the contrary, HMRC will normally regard a legal owner as also being a beneficial owner):
• holding legal title;
• occupying the land;
• receiving rental income from the land;
• providing the funds to purchase the land; or
• receipt of sale proceeds from disposal of the land.
Further HMRC guidance on the distinction between legal and beneficial ownership is included in the Trusts, Settlements and Estates Manual (at TSEM9100 and following).
For married couples (or civil partnerships), a further indicator of beneficial ownership is whether a Form 17 has been submitted to HMRC. Form 17 is broadly a declaration where the beneficial ownership of a jointly owned asset is divided other than equally between the couple. HMRC normally treat income from property held in joint names as belonging to the couple in equal shares, regardless of actual ownership; Form 17 allows the couple to be taxed on actual shares.
Form 17 can be completed online on the Gov.uk website (tinyurl.com/HMRC-DBIJPI).
HMRC guidance (at CG22020) states: “If such a declaration has been made you should treat it as evidence of the existence of an express agreement concerning the ownership of the asset and you should follow that split in assessing the gains on the disposal of that asset.” However, the Form 17 states: “You will also need to provide evidence that your beneficial interests in the property are unequal, for example a declaration or deed.”
HMRC also recognises that a spouse without a legal interest may have an equitable interest, by reference to the extent of their contribution to providing the family home. This principle has also been considered by the courts in the context of divorce proceedings and in claims by unmarried former co-habitees.
The potential uncertainty over beneficial ownership has resulted in case law. Demonstrating that someone is a beneficial owner of property can be difficult, although generally not impossible.
For example, in Lawson v Revenue and Customs [2011] UKFTT 346 (TC), the taxpayer’s return on the disposal of a residential property was prepared on the basis that her husband was entitled to a half share of the resulting capital gain. Following an enquiry into the return, HMRC concluded that the taxpayer was the sole legal and beneficial owner of the property, and that the whole gain was assessable on her.
The taxpayer appealed, contending that her husband was also a beneficial owner of the property. The property had been bought using a combination of a family inheritance and savings, primarily as a residence for the taxpayer's daughter who was attending college. The mortgage on the family home was in the name of the taxpayer's husband, and the mortgage on the other property was taken out in the taxpayer's sole name.
However, she paid the mortgage on the family home, and her husband paid towards the mortgage on the other property. The First-tier Tribunal (FTT) observed that the true purpose of purchasing the property was to provide stable and secure accommodation for the taxpayer’s daughter, as opposed to being held for investment purposes. The level of net rental income was a strong indication as to the lack of commerciality (the daughter contributed to bills as and when she could afford to). The FTT had no doubt that the taxpayer and her husband (based on their relationship, irrespective of who held the legal title) shared all assets between them and held an equal and beneficial interest in all properties owned. The FTT concluded on the evidence that the taxpayer and her husband were beneficial owners of the property.
Sometimes, it may be necessary to demonstrate the opposite, i.e., that a person was not a beneficial owner.
For example, in Watson v Revenue and Customs [2014] UKFTT 613 (TC), a contract for the disposal of land was signed by the appellant and her husband in the capacity of beneficial owners. The taxpayer’s tax return for 2005/06 indicated that she was entitled to 25% of the disposal proceeds for the land. HMRC considered that the appellant was beneficially entitled to a 50% interest in the land at the time of disposal. However, it was argued for the appellant before the FTT that on the evidence the land was beneficially owned by her husband, such that no CGT should have been assessed on the appellant.
The appellant and her husband had been business partners since before 1988. The land in question had been purchased for the business. The appellant was diagnosed with a serious illness in or about 1995, and by 1998 she wanted nothing more to do with the business. Business profits were then allocated to her husband. By 2004, the appellant wanted her husband to sell the business, and the land was subsequently sold. The tribunal was satisfied that there was an agreement between the appellant and her husband in 1998 that the appellant would retire from the partnership, and that her husband would continue to operate the business as a sole trader.
Their accountants had prepared accounts for the year ended 31 August 1999 on that basis, and the land and other partnership assets and liabilities were treated as belonging to the appellant's husband. The FTT concluded that the appellant did not have any beneficial interest in the land in 2005. She had made no disposal for CGT purposes.
Inheritance tax
Inheritance tax (IHT) is also generally concerned with property to which a person is beneficially entitled. English law recognises that property may be owned either legally or beneficially (NB different rules apply in Scotland).
For example, property may be held in trust. If there is no ‘interest in possession’ in the settled property, for IHT purposes ownership will generally follow the legal ownership of the trustees. Alternatively, if a trust beneficiary has a beneficial interest in possession in the settled property, for IHT purposes ownership will normally follow the beneficiary’s beneficial interest (IHTA 1984, s 49(1)).
HMRC considers that an express written trust is (subject to certain limited exceptions) will be conclusive evidence of beneficial ownership, such as a common form of conveyance to two persons as beneficial joint tenants (see HMRC’s Inheritance Tax Manual at IHTM15044; this guidance applies to England, Wales and Northern Ireland, but not Scotland). In cases of dispute over beneficial ownership (e.g., if the property deeds do not also establish the beneficial interest in the land), HMRC will seek to obtain evidence such as:
• other documents when the ownership commenced;
• later documents which evidence earlier intentions;
• statements from the surviving owners;
• statements from others; and
• evidence from the conduct of the joint owners when ownership commenced.
Even if HMRC is satisfied that putting someone else on the property deeds has transferred legal and beneficial ownership, it is not necessarily the end of the story from IHT perspective. The ‘gifts with reservation’ anti-avoidance provisions (FA 1986, ss 102-102C; Sch 20) can make the gift of an interest in property ineffective for IHT purposes in certain circumstances.
Example 1: Gift with reservation
Adam is an 80 year old widower. His home is worth approximately £800,000, and he has savings and investments worth £700,000. He decides to transfer an equal share of legal and beneficial ownership of the property to his adult neice Jane, who lives elsewhere. Adam continues occupying the property after making the gift. He assumes that by giving 50% of his home to Jane, if he survives at least seven years there will be an IHT saving on his death of £160,000 (i.e., £400,000 x 40%).
Unfortunately, Adam will continue to be treated as the owner of the whole property for IHT purposes, as the transfer of a 50% interest is a ‘gift with reservation of benefit’, due to his continued occupation. The position would be different if he paid Jane a full market rent for his continued occupation of her interest in the property (FA 1986, Sch 20, para 6(1)(a), i.e., the gift would be a potentially exempt transfer, which would become an exempt transfer after seven years.
Income tax
A popular form of tax planning for married couples (and civil partners) is the transfer of assets between each other. For example, a rental property may be transferred from one spouse to another, where (for example) the donor spouse is a higher rate taxpayer in respect of the rental income, and the donee spouse would pay income tax at the basic rate (or none at all). The aim of transferring legal and beneficial ownership in this way is to achieve a lower overall tax liability for the couple.
However, there is a potential income tax trap, in the form of the ‘settlements’ anti-avoidance legislation (ITTOA 2005, s 624). Those rules would apply in the above circumstances if the gift was not an ‘outright’ one between the spouses as defined in the legislation. For example, there must be no circumstances in which the gifted asset (or any related property) is, or may become, payable to the spouse making the gift. ‘Related property’ includes income from the gifted asset (ITTOIA 2005, s 625(5)).
Example 2: No ‘settlement’
Brenda (a 40% taxpayer) owns a buy-to-let property. She transfers the property by outright gift to her spouse Carl (a basic rate taxpayer), who then receives the rents. Brenda has no further interest in or rights over the property. The rents that Carl receives are paid into a bank account in his sole name and are not subject to the settlements anti-avoidance legislation; they are Carl’s income for tax purposes.
In the above example, if the rental income had instead been paid into a bank account held by Brenda, or jointly between Brenda and Carl, HMRC would probably consider that the settlements rules apply (ITTOIA 2005, s 626(4)(b)).
Stamp duty land tax (or equivalent)
Other unexpected tax charges can sometimes arise, depending on the circumstances.
For example, there is broadly no stamp duty land tax (SDLT) liability on the gift of a property in (say) London. The same applies in Scotland for land and buildings transaction tax (LBTT) purposes on the gift of a property in (say) Edinburgh, or in Wales for land transaction tax (LTT) purposes on the gift of a property in (say) Cardiff.
However, a potential trap exists for SDLT purposes if the property is transferred subject to an existing mortgage. The assumption of the mortgage by the recipient of the gifted property generally constitutes chargeable consideration for SDLT purposes (FA 2003, Sch 4, para 8). A similar rule applies for LBTT purposes in Scotland (LBTT(S)A 2013, Sch 2, para 8) and for LTT purposes in Wales (LTTADT(W)A 2017, Sch 4).
The following example is adapted from guidance in HMRC’s Stamp Duty Land Tax Manual (at SDLTM04040a).
Example 3: SDLT charge on gifted property
David transfers his commercial investment property (worth £1 million) into joint ownership with his wife Elsa in equal shares, subject to a subsisting mortgage of (£750,000). Elsa assumes liability for all or part of the debt.
Notwithstanding Elsa’s actual liability, which might be for all the debt, she is treated as assuming debt equal to 50% of the amount owing. This is because Elsa is treated as owing none before the transaction and 50% after it.
The chargeable consideration for SDLT purposes in respect of the transfer is therefore £375,000 (i.e., £750,000 x 50%).
Practical Tip:
In the absence of factual evidence to determine beneficial ownership between married couples (or civil partners), on the disposal of a property HMRC will seek to tax the spouse (or civil partner) with legal title, or if they have legal title as joint tenants, on a 50:50 ownership basis. Keeping good records and evidence is therefore important, particularly in cases where beneficial ownership is unclear.
This article has touched upon only a selection of potential tax issues where someone is put on the deeds of a property; it has not dealt with transfers of property into trust (express or implied), which is a very wide and potentially complex subject. It is very important to appreciate that any tax planning with property has non-tax law implications as well. Taxpayers should always seek appropriate professional advice when considering planning involving land and buildings.
