This article will look at some of the issues which arise from property transfers. We shall concentrate on the main taxes that are in point with property – capital gains tax (CGT) and stamp duty land tax (SDLT). VAT can also be an issue with property transactions.
A relatively brief article such as this can only touch on what are often quite complex scenarios, involving several taxes and consequences for all concerned.
People often assume that giving an asset to another person will be tax-free. Unfortunately, CGT is normally due even where there is a gift (i.e. with no (or reduced) consideration). The donor is taxed as if he or she had sold the asset for full market value (the ‘market value rule’). Essentially, HMRC is saying that it wants its share of the tax that would be due on a commercial sale, even if you don’t want or receive any proceeds!
HMRC is most likely to pick up on this in cases where property is transferred to a relative, or to a trust but, in fact, it potentially applies in almost all cases (but see, for instance, spouses later on). The legislative support for this is at TCGA 1992, ss 17, 18. HMRC’s Capital Gains manual has more at CG14530.
A ‘bad bargain’ is NOT a gift!
HMRC should not try to insert a higher value just because they think you could have made a higher gain. Essentially, if you agree to sell to an unconnected party at a discount (example e.g. because you are in a rush to sell), then that is usually fine so far as HMRC is concerned. Likewise, if you didn’t know you could have sold for a higher price, but made a ‘bad bargain’ (see CG14541). But the notion of a ‘bad bargain’ does not apply for gifts between connected parties, such as relatives, trustees or in some cases business partners (more on this later).
If HMRC can say that you deliberately intended to confer some element of gift or bounty, then the transfer is otherwise than a bargain made at an arm’s length, and market value should normally be used instead.
Transfers between spouses/civil partners
Most readers will be familiar with the rule that says that there is not usually a CGT charge when property is transferred between spouses. Strictly, there is still a disposal for CGT purposes but:
While it is generally acceptable to say that the transferee spouse simply ‘inherits’ the transferor spouse’s base cost, the transferee spouse does NOT always inherit the transferor spouse’s ownership history.
This point is particularly important from the perspective of entrepreneurs’ relief and, say, the ‘associated’ disposal of property used in a qualifying trade, where assets need to have been held for at least a year in order to be eligible. Unlike its predecessor, business asset taper relief, the transferee spouse cannot qualify by reference to the transferor spouse’s holding period (although, where the transferee spouse does qualify in his or her own right, more ownership in an asset can be transferred without having to wait a further year for the extra portion to qualify – this can be very useful).
The main residence
Where one spouse transfers an interest in his or her main residence to the spouse, the transferee spouse ‘inherits’ the transferor spouse’s ownership history for their interest (TCGA 1992, s 222(7)). The same applies to inheritance on death. Basically, these rules are meant to ensure that it doesn’t matter who owns what interest in the family home. But it also means that, if the transferor spouse’s ownership history is not ‘perfect’ – perhaps having spent too long away from the property for it all to qualify – then the transferee spouse’s ownership will likewise be compromised. However, these rules apply only if the property is the main residence at the point of transfer – this point is acknowledged at CG64950. Very briefly, this can present planning opportunities if managed correctly, so that periods which might otherwise be eligible for private residence relief may be saved.
The generous rules for transfers between spouses require that they be living together as a couple. The rules continue to apply in the tax year in which ‘permanent’ separation occurs. After the end of that tax year, the spouses are in the uncomfortable position of still being ‘connected’ for CGT purposes (prior to decree absolute) but unable to enjoy the ‘no gain/no loss’ regime they might have relied on for years beforehand. This means that the ‘market value’ rule will normally apply, regardless of any proceeds actually received. Care is needed to navigate the quite complex CGT rules around separation and divorce.
Stamp duty land tax
SDLT is generally due on the consideration paid by the purchaser. A lifetime gift from one individual to another, of any property, is therefore exempt from SDLT. Broadly, this applies to all gifts, not just those between spouses. However, one of the key traps for SDLT purposes is that agreeing to take on part of the mortgage on a property ‘counts’ as consideration:
Example – Transfer of interest in mortgaged property
Fred owns a let apartment worth £400,000 and subject to a mortgage of £300,000. Fred decides to put half into the name of his wife, Wilma, and they will split the rental profits equally. No CGT is due. However, Wilma also takes on half of the mortgage so, for SDLT purposes, she is deemed to have paid £150,000 for her stake in the property. There is no spouse exemption. She will be liable to SDLT on that ‘consideration’ in excess of £125,000.
The rules for partnership property can become very complex. Basically, each partner is deemed to own a part-share in the partnership’s assets. Depending on the circumstances and any partnership agreement, a change in the partnership sharing ratio (e.g. on introducing a new partner or on a partner’s retirement), can result in a disposal for CGT purposes. One of the quirks of partnership property is that CGT and SDLT may follow different ratios, depending on the partnership agreement. The regime for dealing with CGT in partnerships is found in HMRC’s Statement of Practice D12, (see CG27170), which can allow a no gain/no loss outcome in many cases – but not all.
Likewise, the rules for SDLT generally mean no charge will arise, but partnerships that mainly invest in property are more likely to be caught – see for instance HMRC’s stamp duty land tax manual at SDLTM34010.
VAT on property is notoriously complex (N.B. although residential properties are usually exempt from VAT, commercial property sales are commonly caught). SDLT is chargeable on the VAT-inclusive price.
Perhaps, surprisingly, one of the areas in which VAT ‘tries to be helpful’ is in terms of property business transfers. If a property sale counts as a business transfer for VAT purposes, then it may actually be ‘outside the scope of VAT’, and no VAT will be due. What some non-VAT practitioners miss is that the VAT regime for a ‘transfer of a going concern’ (TOGC) is mandatory, not optional (although, again with planning, even a sure-fire TOGC in relation to property can perhaps be made non-compliant, if required). Section 6 of VAT Booklet 700/9 is very useful as a starting point.
There are, of course, numerous potential traps with VAT and property, such as the capital goods scheme and the flat rate scheme (which can catch out those letting residential property alongside the taxable business) to name a couple.
All of the above issues have been relevant to cases on which I have advised in the last few years. But in such a short article, it is possible to point out only a few of the potential traps, and one or two opportunities such as transferring residences between spouses at the right time, enhancing entrepreneurs’ relief between a couple, or using TOGC with property businesses. Professional advice well in advance of any proposed property transaction is highly recommended.
This is a sample article from the monthly Property Tax Insider magazine. Go here to get your first free issue of Property Tax Insider.