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Alan Pink highlights possible dangers of losing a valuable capital gains tax relief, and how to avoid them.
The capital gains tax (CGT) principal private residence (PPR) relief exemption is a very valuable tax relief. But if your situation is in any way out of the ordinary, you can end up losing the benefit.
What could possibly go wrong?!
Nothing could be simpler in principle than CGT PPR relief. If you sell your own home, you don’t pay tax on the gain. If you have a property that you’ve lived in as your main residence for some but not all your period of ownership, you basically apportion the gain between exempt periods of ownership and non-exempt periods of non-ownership.
Within that basically simple framework, though, there are a number of possible ‘wrinkles’, and ways of losing out on the relief if you’re not careful. I’ve picked out, below, some of the problems I see most commonly arising in practice.
1. ‘Camping out’
I’m often asked how many days/weeks/months/years you need to spend in a dwelling for it to qualify as your residence. The answer is that the test is not a quantitative one (how long?) but a qualitative one; that is, do you treat the property as your home as such, or are you merely ‘camping out’ and using it as an occasional roof over your head?
To take an obvious example of how you can slip up on this qualitative test, consider the position of Mr Tomkins, who owns a large family home in Muggleton, and has also acquired a much smaller property, being a third floor flat, just down the road in the same town. He half-furnishes the flat and arranges to spend one or two nights there, over a period of two to three years. The chances are that HMRC wouldn’t be content to treat the flat as a ‘residence’ of his and, therefore, would ignore any election he put in for it to be treated as his main residence. Their grounds for doing so would be that: firstly, he has no need of another residence so near to the large one that he already has; and secondly, he is only camping out in the property on the days when he does stay there.
This isn’t to say that he would necessarily need to go through all the paraphernalia of change of address cards, going on the voters’ list, etc., for the flat to be treated as a residence. But he would need to show that there was the intention of permanence in its use.
2. Buying new build properties to live in
Let’s imagine another problem scenario now. Mohammed buys a flat off-plan, intending to live there once it is completed. The terms of the off-plan purchase involve paying a 10% deposit up-front, with the balance being paid on completion of the property and, therefore, completion of his contract to buy.
You would probably have thought that his ‘period of ownership’ of the flat couldn’t begin until the flat actually exists and is habitable; but that’s not my reading of the legislation. The legislation states that the ‘period of ownership’ begins when you first incur expenditure on the acquisition, and this would be on the date of payment of the deposit.
So, if (say) it takes three years for the block of flats to be completed and for the flat to be habitable, Mohammed is stuck with a three-year period of deemed non occupation, but ownership, of the flat. HMRC’s extra statutory concession D49 (to be legislated from April 2020) allows you twelve months (or in exceptional circumstances, two years) of delay in taking up occupation of a property, if the reason is (amongst others) the property is still being built. But for longer periods than two years, the relief is completely non-existent.
3. Late elections
If I had a tenner for every time a client has come to me saying that they have two residences, and have done for more than two years, I would be a rich man. There is a strict two-year time limit for electing which of these properties should be your main one. If you let the two-year period pass, all you can do is consider acquiring a third residence (remember that it has to be a ‘residence’ within the qualitative test) and treat this acquisition as triggering another two-year period.
In fact, the third residence could be just rented, so this may not be as difficult as at first sight it appears.
4. Failing to return after a period of absence
In some ways, the rules for temporary absence from your main residence are surprisingly generous. You can treat a period of absence as if it were a period of occupation as your main residence; hence qualifying in the apportionment for full tax relief if the period fits in with any of these descriptions:
- A period of absence of three years for any reason;
- A period of absence of up to four years where you are working elsewhere in the UK; or
- A period of absence of any length if you are working outside the UK.
What all these qualifying periods of absence stipulate, though, is that you should return to your home after the period of absence (although you can get out of this requirement if your employer, etc., requires you to move somewhere else, where we are looking at the second and third bullets above).
What often happens in reality unfortunately, is that the taxpayer, not being aware of this very generous relief, fails to appreciate that they need to re-occupy. So, a very substantial taxable capital gain can arise.
5. Getting married!
It’s a notorious feature of our tax system, militating against marriage, that a married couple (or civil partners) can only have one main residence between them. This contrasts with the situation of an unmarried couple who are cohabiting. They can have one residence each, and, by careful attention to making any necessary elections, or gathering any necessary evidence, can, therefore, claim complete exemption on two properties.
By marrying, you could easily lose a very lucrative relief. Make of this what you will!
6. Exclusive business use
There’s really very little excuse for fouling up this area of tax planning. Where you use your home partially for business use, you would expect that PPR relief would be restricted because the relief is intended for a person’s home, not their office or place of work.
In fact, though, the rules are very easy to circumvent because you only have an apportionment of your property to exempt business use where that use is exclusively business. So, if you have an office (say) built as an annex to your home, and that office is only used for work on your business, meeting clients, etc., then you won’t get relief for that part of your house on any sale.
The answer is simple, of course; make sure that no single area of your home has such exclusive use. If you have an office built in your home, make sure that you use that office for private matters, such as paying household bills, sorting out household finances, etc. Don’t fall into the trap of exclusive business use.
Any ‘kitchen table business’ is perfectly safe here because it is using a property which is mainly residential in nature for occasional business purposes.
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If you want to get PPR relief on a property, make sure you ‘move in’ properly, and don’t just camp out there;
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Beware of properties where you have an interest for some time in the land before the property is built, and particularly beware of ‘off-plan’ purchases of property which is to be your main residence;
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If you have more than one residence, always review which one you want to be tax-exempt, before your combination of residencies has been the same for two years;
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If you spend any period living away from your home, be aware of the period of absence reliefs, and ensure, if appropriate, that you resume occupation of the house afterwards;
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Be aware of the effect of marriage on the potential availability of two main residence exemptions; and
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If you can at all help it, don’t use part of your home exclusively for business purposes
