Meg Saksida points out that the difference between legal and beneficial ownership can be an important tax consideration for a property owner.
When considering who ‘owns’ a property (a ‘property’ for the purposes of this article being land or buildings), one thinks about whose name is written on the deeds and whose name is registered as the official owner on HM Land Registry’s register.
Most of the time, this will lead us to the correct conclusion, insofar as the person whose name is registered is usually the one who lives in and owns the home. However, this is not always the case.
Distinction between types of ownership
As with homeowners who legally own as well as live in and enjoy their property, most owners enjoy the legal right to the property and the benefits that the property offers.
However, this distinction between ‘legal’ and ‘beneficial’ ownership can actually be split in English law between two separate legal persons. An almost exclusively English concept, we are then left with a legal owner, who officially and formally owns the property with all the responsibilities of their legal ownership; and the beneficial owner, who is able to enjoy the property (‘enjoying’ a residence or other land or buildings would mean the ability to live in it or receive rental income from the property).
Legal ownership
The legal owners of a property are the owners that are listed on the HM Land Registry register. A property can be owned by more than one person. For example, a husband and wife or civil partners can own land together, and both names can be listed on the land register.
However, if it is owned by more than four owners, a maximum of four names can be officially listed on the HM Land register.
Beneficial ownership
The beneficial owner has all the rewards of ownership.
For example, in a house they can live there, benefit from the rental income if it is let out, and benefit from any increase in capital value over time.
Splits in legal and beneficial ownership
There are several instances where we can see the split between legal and beneficial ownership, and this split can be made for a number of reasons.
(a) Anonymity
Sometimes, the owner does not want to be identified, so the ownership is split such that the legal ownership is public knowledge but this is not the party enjoying the benefit.
For example, an offshore company could own a UK commercial property. The offshore company’s address may be shown and the financial accounts may be available, but information on who the (beneficial) shareholders are, may not be.
(b) Convenience
In some cases, it might simply be more convenient for another party to legally own the assets and the second party to have the beneficial interest.
For example, when the public trade in buying and selling shares through their local bank, the bank is the legal owner of the shares and is the listed owner on the quoted company’s share register, but the bank trades the shares on behalf of the client beneficiary. The client receives the dividends directly from the PLC.
(c) Control and protection
Trusts are a perfect example of where legal and beneficial ownership is split. The trustees have the legal ownership and the beneficiaries have the beneficial ownership.
Trusts may be set up for a number of reasons, including:
- passing real property to a minor who is unable to give a valid receipt for it;
- protecting assets from divorce or bankruptcy;
- protecting assets from spendthrift, young or immature beneficiaries;
- passing assets to the next generation while retaining control of the assets; and
-
giving an income to a disabled or vulnerable beneficiary.
Income tax
Income tax is charged on the party who has receipt of the income. Generally, it will be the beneficial owner who is entitled to receive the income, so this is usually taxed directly on the beneficial owner. For example, dividends received from shares in a portfolio managed by the local bank will be paid directly to the account holder, who will declare the dividends on their self-assessment tax return.
In some cases, though, the legal owner receives the income first and then passes it to the beneficial owner. In these cases, it is taxed firstly on the legal owner, and then, once they pass this to the beneficial owner, it is charged on them at their tax rate, too. Any additional tax due is paid over to HMRC by the beneficiary. Unless the trust is settlor-interested, if the beneficiary is due a tax refund because of the amount of tax paid to HMRC by the legal owners, they can keep this.
For example, an interest in possession trust is charged at basic rates on the trust’s income. If the trustees receive income up to the personal allowance for a school-aged child with no other income, the child will be entitled to claim a 20% refund from HMRC, which they may keep.
Where assets are owned jointly by spouses or civil partners, they are assumed to own property (and therefore to be entitled to income) on a 50:50 basis, unless a form 17 is completed showing HMRC the actual ownership (if different).
Capital gains tax
For capital gains tax (CGT) purposes, gains are ultimately due to the beneficial owner. If, for example, a couple has completed a Form 17, the ownership split will be based on the real legal and beneficial ownership and so the proceeds and eventual gain will be split accordingly.
Beneficial ownership is subject to manipulation or change, and although the legal ownership is a good indication, HMRC states the split of the proceeds between the owners is a very strong indication of how they view the beneficial ownership between them.
If the CGT is being calculated on a trustee on behalf of their beneficiaries, the trustee is only eligible for half the individual annual exempt allowance. This is further divided by the number of trusts the settlor has created, down to a minimum of 10% of the individual’s annual exempt amount (currently £1,230).
Inheritance tax
Inheritance tax (IHT) also taxes the beneficial ownership. For example, in an interest in possession trust, the party with the beneficial ownership is the life tenant, so the trust property is included in their death estate for IHT purposes. Likewise, in a discretionary trust, as no one person has a beneficial interest, there is no IHT in any one person’s estate; instead, IHT is charged on the trustees inside the trust.
The most common issue when considering the split of the beneficial and legal ownership relevant to IHT is where a taxpayer legally gifts an asset away but retains the rewards or benefits of ownership. This is called a ‘gift with reservation of benefit’. The classic example is where a parent gifts their home to an adult child while remaining living in the home. Thereafter, although the parent no longer legally owns the property, as they retain the beneficial ownership the asset (the house) will remain in their death estate to be charged to IHT at their death.
Practical tip
Legal ownership tends to have the risks, whereas beneficial ownership has the rewards of owning an asset. The tax tends to follow the party who eventually gets the rewards of ownership, so by simply legally gifting an asset, the tax liability will not automatically be passed over as well.
