- 1 UK Property Bought by
Foreign Corporate Owners
- 1.1 United Kingdom Property Services
- 1.2 Need for Tax Structuring
- 1.3 Taxation of UK Property
- 1.4 Options for acquiring UK property
- 1.5 Tax Considerations Income Tax
- 1.6 Inheritance Tax (IHT)
- 1.7 Capital gains tax Existing position
- 1.8 Proposed changes
- 1.9 Brief Outline of Tax Considerations
- 1.10 UK residential property When to Buy through a company Single Purpose Vehicle (SPV)
- 1.11 Annual Tax on Enveloped Dwellings (ATED) v.s. SDLT
- 1.12 Exemptions from Charge of ATED
- 1.13 Long-Term Residential Buy-to-Let Portfolio Using Third-Party Bank Debt Tax Advantages
- 1.14 Case Study- Example
UK Property Bought by
Foreign Corporate Owners
United Kingdom Property Services
The United Kingdom has long been considered a “tax haven” for non-resident individuals, companies and trusts investing into the UK property market. The favourable tax treatment for non-resident landlords has long been believed to be one of the major reasons for the long term continuing rise in property values in the UK. Rental income has traditionally exceeded both inflation and the normal rates of interest for cash investments and as a long term investment United Kingdom situated property has usually proved to be a valuable source of capital gains
Need for Tax Structuring
As with other types of assets, to maximize the return on an investment in UK property, it is essential to consider the acquisition structure for its tax efficiency at an early stage – certainly before exchange of contracts for the property purchase and preferably even before beginning the search for a property.
International investors, who may be from jurisdictions with relatively low rates of income and/or capital gains tax, may not attach great importance to tax planning or may think that the holding structure for a property acquisition can be revisited later without too much trouble.
It is important to get the structure right from the outset, as the penalty for changing one’s mind after the property has been acquired is likely to be at least an additional Stamp Duty Land Tax (SDLT) charge of up to 15%.
Taxation of UK Property
In general, there are three main categories of direct UK taxes that are relevant in the context of ownership of UK residential property:
Income tax on any rental income from the property;
Capital gains tax (CGT) on a disposal of the property at a gain; and
Inheritance tax (IHT) on transfers of value on death or, in specified circumstances, during an individual’s lifetime.
Annual Tax on Enveloped Dwellings (ATED) – For residential properties valued over £2 million and owned through a company or certain other non-natural persons, the new Annual Tax on Enveloped Dwellings (ATED), introduced in April 2013, may also be relevant. The ATED is an annual charge which applies where certain “non-natural persons” or “NNPs” – companies, partnerships which include one or more corporate partners and collective investment schemes – own a residential UK property with a value exceeding £2 million. This tax is due to be extended to properties worth over £1 million with effect since 1 April 2015 and those worth over £500,000 from 1 April 2016.
In addition, SDLT is payable by purchasers of UK property, at the rate of 5% where the purchase price exceeds £1 million or 7% where it exceeds £2 million. The rate increases to 15% for residential property valued over £500,000 acquired by a company or other non-natural person unless there is an applicable relief, e.g. for a property acquired by property developers or to be used in a rental business.
However, no SDLT is payable (i) on gifts of UK property unless the gift is to a connected company; or (ii) the transfer of shares in a company deriving its value from UK property (although in the case of a transfer of shares in a UK company, stamp duty at a rate of 0.5% may be payable).
Options for acquiring UK property
The principal options available for wealthy foreigners acquiring UK property are, as follows:
Direct ownership by an individual;
Ownership through a single-purpose, foreign-registered holding company, the shares of which are owned by (an) individual(s); and
Ownership through a foreign-registered holding company, the shares of which are owned by non-UK resident trustees of a discretionary trust created by non-UK resident and non-UK domiciled individual.
The form of ownership which will suit each individual investor will vary not only according to his or her personal tax circumstances but also, and often more importantly, according to other factors such as privacy of ownership, or any applicable forced heirship rules, such as Sharia law or those of many European and other civil law countries.
Income tax will be relevant if a UK property is rented out, in which case the rental income will have a UK source and will be taxable in the UK, except to the extent of any allowable expenditure. The tax rates and other specific considerations may vary according to the structure through which the property is held, and advice will be needed accordingly.
Inheritance Tax (IHT)
Even where an individual is domiciled outside the UK, inheritance tax will be applicable to his or her UK estate. Using an appropriate structure, IHT on a UK situate property may be avoided. However, many individuals would prefer to hold a property directly and, in many cases, for other tax reasons, this may be advisable.
In this situation, to mitigate IHT a property may be purchased with a mortgage to reduce its value in a non-domiciled individual’s estate. Legislation introduced in 2013, which restricts the deductibility of liabilities for IHT purposes in certain circumstances, may limit the effectiveness of such a strategy where it applies. However, in such circumstances, other options for IHT mitigation, such as insurance, may still be available.
Capital gains tax
Under the existing law, if a property is directly owned, non-UK resident individuals (other than temporary non-residents) are in most cases outside the scope of CGT.
Equally, where a UK resident individual occupies UK property as their main residence worldwide and certain statutory conditions are met, no CGT is payable on a disposal of that property. Where the gain is taxable and not covered by the main residence exemption, the rate of tax is 18% for basic rate taxpayers and 28% in all other cases, subject to an annual tax-free allowance, where applicable.
If a property is within the ATED charge, because it has a value exceeding the relevant threshold value and is owned through a company or other NNP, (whether held by a trust or not), on a disposal of the property, the company which owns it will also be liable to CGT at the rate of 28% on any ATED related chargeable gains (which are those arising since acquisition or 6 April 2013 (whichever is later) unless an election is made to include all gains since acquisition). As the ATED related CGT charge only applies to ATED related gains, where a property is not liable to the ATED for a period of time, due to the application of a relief such as that for property rental businesses, any gain attributed to that same period will not be taxed.
Gains on a disposal of a property owned by an NNP but which is outside the scope of the ATED charge either because of its value or due to the existence of a relevant relief may still result in a charge to CGT if certain anti-avoidance provisions apply. In certain circumstances, these may attribute a proportion of the gains of an offshore company to its UK resident shareholders or, in the case of companies held by offshore trustees, to UK resident and domiciled settlors, or UK resident beneficiaries of the trust.
A consultation was published in March 2014 on the proposed introduction in April 2015 of a CGT charge on future gains made by non-UK residents disposing of UK residential property. This closed in June. HMRC are considering the responses they received and will report further as to how they intend to proceed.
Once introduced, the proposed measures will represent a further and important consideration in terms of which is the most tax efficient structure for holding UK property. Non-UK residents holding or acquiring UK residential property now (whether directly or through a holding structure) should take into account that, unless they intend to dispose of the property prior to 6 April 2015, they may be liable to a CGT charge on any gains after that date even if they would not be so liable under the existing law.
Brief Outline of Tax Considerations
This note provides a very brief outline of the tax considerations which may be relevant in structuring an acquisition of UK property. Specific and detailed advice tailored to an individual’s personal circumstances will be required in each case.
No single structure will be always right for acquiring and holding UK property. In each case, the appropriate solution will be determined by consideration of the investor’s tax attributes and intentions for the future in terms of how the property will be used (for personal occupation, to generate rental income, for capital appreciation, for development or to quickly resell at a gain) and where individuals and their families will be living in the foreseeable future. With the world becoming a much smaller place and investments and lifestyles becoming progressively more international, to ensure continued tax efficiency, the holding of UK property should be revisited each time there is a material change in circumstances.
Importantly at the moment, given the recent proposals for the introduction of a CGT charge on gains made by non-UK residents disposing of UK residential property, any existing or proposed UK property-holding structure should be revisited regularly.
UK residential property
When to Buy through a company
Single Purpose Vehicle (SPV)
There has been a relentless attack by the current UK government on perceived tax avoidance by persons who have purchased residential property in the UK through a company. Typically, non UK domiciled purchasers formed an overseas company to acquire the UK residential property interest and this company carried out no other activities other than its ownership of the property. The company was therefore a Single Purpose Vehicle (SPV).
The concern was that Stamp Duty Land Tax (SDLT) was being avoided because on a future sale the SPV was sold rather than the underlying property itself. This meant that on a sale of an overseas company owning UK residential property, there would be no Stamp Duty liability or SDLT liability, as long as the sale contract was executed overseas.
This process could go on indefinitely, with each subsequent purchaser buying the shares in the SPV rather than buying the property itself, with obvious long-term damage to the Exchequer.
Annual Tax on Enveloped Dwellings (ATED) v.s. SDLT
The first line of attack introduced by the government was the Annual Tax on Enveloped Dwellings (ATED), which applied from 2013/14, with a tax charge starting at £15,000 per annum on properties valued at £2m or more on 1st April 2012 (or date of acquisition if later). The charge increased to:
£35,000 per annum for properties valued between £5m and £10mn
£70,000 per annum for properties valued between £10m and £20m, and
£140,000 per annum for properties valued in excess of £20m.
The charge increases by inflation each year (so the basic charge is £15,400 for 2014/15) but the thresholds of £2m, £5m, £10m and £20m have not been increased.
The government has now announced that the charge will be extended to properties valued at between £1m and £2m with an annual charge of £7,000 since 1st April 2015 and to properties valued at between £500,000 and £1m with an annual charge of £3,500 from 1st April 2016.
Exemptions from Charge of ATED
There are a number of exemptions from the charge; the main ones of which are where the property is used for the purposes of a property rental business (as long as the property is let out to unconnected third parties) and where the property is used for the purposes of a property development trade.
Note that an annual ATED return must still be made even where an exemption is due. Therefore, the compliance burden will increase enormously over the next couple of years as more and more lower value properties are brought within the ATED charge and returns must be completed even where they are exempt from the charge.
Although ATED was originally advertised as compensating the Exchequer for lost SDLT revenue, the government continued its attack on these structures by increasing the rate of SDLT to 15% on purchases by companies of residential property valued in excess of £500,000 after 20 March 2014. There are exemptions from the higher 15% SDLT rate similar to those for ATED and if such exemption applies, the relevant rate reverts back to 4% for purchase between £500,000 and £1m, 5% for purchases between £1m and £2m, and 7% for purchases over £2m.
However, where an exemption is claimed such as where the property is to be used for a rental business, then the relevant activity must continue for a minimum of 3 years, otherwise the exemption will be lost and the SDLT rate will revert to 15%.
For example, if an exemption is claimed because the property is being used in a property rental business, and at any time during the 3 year period the property is occupied by a connected person, then the SDLT exemption is lost and the additional SDLT must be paid over.
The purpose of the purchase of residential property through an overseas SPV is the removal of the capital gains tax exemption for non UK resident companies who have an interest in UK residential property. Originally, the removal of the exemption was limited to overseas companies who were liable to pay ATED, so it only applied to residential properties valued at more than £2m where an exemption was not applicable. However, the government has announced that the exemption from capital gains tax for non-resident persons will be removed in total, with effect from 1st April 2015, although the final details are yet to be published.
So given all this penal legislation, when would anyone contemplate purchasing UK residential property through a company? Our view is that we can see very limited circumstances where a purchase within a company will still be beneficial if the ATED and 15% exemptions do not apply.
Long-Term Residential Buy-to-Let Portfolio
Using Third-Party Bank Debt
However, there are still circumstances where it will be beneficial where the ATED and the 15% SDLT rate exemptions do apply. For example, where an investor is building up a long-term residential buy-to-let portfolio using third-party bank debt, there may be significant tax advantages from being able to repay the debt from retained profits taxed at the corporate rate of 20% rather than at personal tax rates of up to 45%.
There will be an additional benefit for non-domiciled investors in these circumstances when an overseas company is used, because the company, and therefore the underlying portfolio, will fall outside of their estate for Inheritance Tax purposes.
Case Study- Example
Harold, a wealthy individual resident in the Far East, has surplus funds of approximately £1m that he wishes to invest in UK property, having heard that returns, significantly larger than those which might otherwise be obtained merely by leaving money on bank deposit, may be enjoyed.
Harold has identified a portfolio of properties which will cost £1.6m and which will provide a gross rental return of 7.5% and an estimated capital growth of 2.7% per annum. Harold obtained the advice of a firm of UK chartered surveyors and seeks further advice as to the manner by which the ownership of that property portfolio might be structured in order to minimise or avoid, legally, any income or capital gains tax.
Harold may consider establishing in, say, the Isle of Man, a discretionary trust for the benefit of himself and his family. Harold‘s £1m is settled in the trust. The trustees then establish a limited liability company in an appropriate low tax jurisdiction and, through that company, subject to obtaining finance to cover the £600,000 shortfall, acquire the portfolio. The directors of the purchasing company also register their company with the Inland Revenue as a non-resident company, thereby enabling all rental income received from tenants of the property to be paid gross to the non-UK resident landlord companies.
The company submits annual accounts and tax returns to the UK Inland Revenue, which show a deduction from the profits received equivalent to the interest paid to the bank together with other expenses. After a period of, for example, five years the portfolio is sold for £1.9m and no capital gains tax is payable on the uplift in price. Issues of stamp duty (the UK tax payable on the transfer of property) may also be reduced or avoided in certain cases.
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