On the basis that the investment in property appears to make commercial sense what tax factors should you take into account? If you are considering property investment in the Broxburn area we, at The A9 Partnership Ltd, can help you to make property investments in a tax efficient manner.
Investment in property has been and continues to be a popular form of investment for many people. It is seen as a route by which:
Of course, the net returns in capital and income will depend on a host of factors. But on the basis that the investment appears to make commercial sense, what tax factors should you take into account?
This factsheet should be considered only in relation to a UK resident property owner.
An initial decision needs to be made whether to purchase the property:
There are significant differences in the tax effects of ownership by individuals or a company.
Deciding on the best medium will depend on a number of factors.
The personal purchase of new offices or other buildings and the charging of rent for the use of the buildings to your company is very tax efficient from an income tax position as:
Capital gains on the disposal of an asset are generally calculated by deducting the cost of the asset from the proceeds on disposal and reducing this by the annual exemption. Gains are treated as an individual’s top slice of income and are generally taxed at 10% and 20% or a combination of the two. However gains on residential property are charged at 18% and 28%.
Unfortunately BADR is unlikely to be available on the disposal of business premises used by your company where rent is paid. This is due to the restrictions on obtaining the relief on what is known as an ‘associated disposal’. These restrictions include the common situation where a property is currently in personal ownership, but is used in an unquoted company or partnership trade in return for a rent. Under the BADR provisions such relief is restricted where rent is paid.
The decision as to who should own a residential property to let is a balancing act depending on overall financial objectives.
The answer will be dependent on the following factors:
If you already run your business through a company it may be more tax efficient to own the property personally as you will be able to make use of your CGT annual exemption (and your spouse's annual exemption if jointly owned) on eventual disposal to reduce the gain.
In contrast, a company may still be able to use an indexation allowance to reduce a capital gain. This effectively uplifts the cost of the property by the increase in the Retail Price Index (RPI) over the period of ownership up until December 2017 when indexation allowances were frozen, irrespective of the date of disposal of the asset.
Indexation is not available to reduce the gain on the disposal by an individual so in situations where indexation allowance is substantial, this could result in lower gains.
For personally-owned property the net rental income will be taxed at your marginal rate of tax, but if you are financing the purchase with a high percentage of bank finance, the income tax bill was previously relatively small. However for rented property with personal ownership the tax relief for finance is limited to 20%.
In contrast, the net rental income will be taxed at the current corporation tax rate of 19% which is generally lower than the income tax rates for an individual. Where the purchase is being financed with a high percentage of loan/bank finance, the corporation tax bill will be relatively small. However, please note that there may be significant increases in corporation tax from April 2023 if a company is used.
But there are other factors to consider:
Personal or joint ownership may be the more appropriate route but there are currently other significant advantages of corporate status particularly if you expect that:
If so, the use of a company as a tax shelter for the net rental income can be attractive.
Profits will be taxed at the current corporation tax rate of 19%. This rate applies to trading companies or property investment companies. However, please note that there may be significant increases in corporation tax from April 2023 if a company is used.
Where profits are retained, the income may be suffering less than if income tax applied. That means there are more funds available to buy more properties in the future.
There are two potential long-term advantages of the corporate route for residential property:
A potentially attractive route is to consider the property investment company as a 'retirement fund'. If the properties are retained into retirement, it is likely that any initial financing of the purchases of the property has been paid off and there will be a strong income stream. The profits of the company (after paying corporation tax) can be paid out to you and/or your spouse as shareholders.
Where the profits are taken by way of dividend:
CGT will be due on the gain on the eventual sale of the shares.
The share route may also be more attractive to the purchaser of the properties rather than buying the properties directly, as they will only have 0.5% stamp duty to pay rather than the potentially higher sums of Stamp Duty Land Tax (SDLT) on the property purchases.
SDLT is payable by the purchaser of the property in England and Northern Ireland. Land and Buildings Transaction Tax is payable in Scotland and Land Transaction Tax is payable in Wales.
Where expensive residential property, valued at more than £500,000, is purchased by a 'non natural person', broadly a company, there is a potential charge - the Annual Tax on Enveloped Dwellings (ATED). The ATED is payable by those purchasing and holding their homes through corporate envelopes, such as companies. In addition a higher rate of SDLT of 15% applies to the purchase.
There are exemptions from the higher rate of SDLT and the ATED charge; in particular, property companies letting out residential properties to third parties.
This factsheet has concentrated on potentially long-term tax factors to bear in mind with property investment.
You need to decide which is the best route to fit in with your objectives. At The A9 Partnership Ltd, we can help you to plan an appropriate course of action for your property investment in the Broxburn area.