Meg Saksida shares some useful strategies for landlords to pay less capital gains tax on rental property disposals.
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Without a crystal ball, we can never know what the housing market is going to do. Although prices are still high, there is evidence of a UK housing price decrease.
Nevertheless, if a landlord has made the decision to sell, there are actions that can be taken now to reduce the eventual capital gains tax (CGT) liability. It just depends on how quickly they want to sell.
If the decision has been made to sell now, there are very few options. Essential practice is to ensure that all incidental expenses associated with the original purchase have been kept, such as conveyancing fees, stamp duty land tax, and all costs of any enhancements made to the property over the years. Each pound of these costs will lower the eventual tax paid by 18–28p. Another option available now would be to spread the tax burden by splitting the ownership.
Joint ownership
Given that each individual in the UK has an annual exempt amount (AEA) of £12,300, it would be sensible to distribute the property, and thus the tax liability, amongst more than one person. Utilising the AEA of each additional person would give a potential tax saving of up to £3,444 per additional owner. However, because the gain has already been made, and coupled with the fact the joint owner would likely be a connected party, the tax saving ‘boat’ will have been missed, as a gain would be charged on the landlord when transferring the property to the connected party, defeating the purpose.
There is one exception to this general rule. Transfers to a spouse or civil partner are normally made on a no gain/no loss basis, meaning the recipient spouse receives the asset at the base cost of the donor spouse and is charged on the associated gain themselves, using their rate and their brought forward losses and AEA. This opens an opportunity for joint ownership which did not need to be split at the planning stage before the gain has been made. In addition to the extra AEA, as the CGT rate is based on the income tax level of the taxpayer, if the transfer was to a spouse or civil partner with capacity in the basic rate band, the actual CGT rate may reduce for that capacity to 18% from 28%. Do, however, ensure an assessment is made evaluating the cost of the property transfer (e.g., legal fees, land registration fees) with the tax saved to ensure it is worth the effort.
If the plan is to sell the residence in a couple of years, there are more options. The property could become a main residence of the landlord, or it could be converted into a furnished holiday letting.
Principal private residence relief
If the property had been the landlord’s main residence at some point in the past, both the period of actual residence and the last nine months will be free from CGT, saving a percentage of the gain from tax. Perhaps the landlord has never lived in the property. It may be possible to still become eligible for this relief by the landlord moving into the let property. The requirements for being a main residence are threefold. Firstly and secondly, quantity and quality of the residence will be required. These broadly mean how long you reside in the property and how ‘fully’ you live in the property, respectively. Factors of quality include where you eat, sleep, wash, relax and carry out normal life.
By far the most important factor of residence, however, is the third factor of intention. The intention to treat the home as the main residence of the taxpayer is paramount, and if the home is on the market whilst the individual is living in it, principal private residence (PPR) relief will be summarily declined.
The landlord (understandably) may not, however, want to move out from their current home. The good thing about PPR relief is it can be applied to one of a selection of properties that the landlord owns and uses as a home. The only essential condition is that it is being used by the landlord as a residence. For example, if a landlord had a let property in London and the landlord lived in Norwich, they could stop the letting, move some belongings into the London property, and make it their ‘London home’. They could stay in it and use it as their home when they are in London. They would not need to move out of their Norwich home. As long as the landlord nominates (via writing to HMRC within two years of using the London property as a second home) that the London property is to be used as their PPR, any gain on that property during the occupation will be covered by PPR relief, as will the last nine months – whatever use the property is put to.
Furnished holiday letting
It could be advantageous to convert the let property from being let on a short-term assured tenancy (STAT) to a furnished holiday let (FHL). Meeting the criteria for an FHL will involve furnishing the property, making it available for short-term lets for 210 days out of a year, ensuring that it is actually let out for 105 of those days and having no one rental client stay longer than a month. This could be arranged through such platforms as Airbnb or Booking.com. The tax advantages are that the property would then be a trading business for CGT purposes and, as such, would be eligible for the CGT benefits available for a trade.
The main benefit of this when planning to reduce CGT is business asset disposal relief (BADR). If held for at least 24 months, once the property is sold, the CGT gain would be 18% lower at 10% up to a total lifetime amount of £1m.
Another CGT relief to be considered for trading businesses is rollover relief. Rollover relief allows any gain charged on the sale of the FHL rental property to be deferred if another business asset eligible for rollover relief is purchased within the year before the disposal or within 36 months after. Although not an exemption, the deferral could push the gain and associated tax into a year far into the future. Only the proportion of the gain that was associated with the FHL would be able to be rolled over, though, so there would be a proportion of the gain payable on disposal; but, as indicated above, this would be at 10% rather than 28%.
Practical tip
Do not let the tax tail wag the commercial dog; if there is more money to be made leaving the property let on a STAT for an additional two years than there is a CGT saving on either making the property the landlord’s second home or making it an FHL, opt for the status quo. It will all depend on the facts of the individual case whether the options for tax reduction are worth it.
