The View from No 50
K P Bonney & Co
Chartered Accountants and
Chartered Tax Advisers
Ilkley LS29 6JA
Tel: 01943 870933
Fax: 01943 870925
HOUSE PRICES AND TAXATION
House prices and taxation. Two subjects certain to kindle interest in every reader.
We have all been amazed by the increase in house prices in recent years. In the five years from June 1999 to June 2004 the Halifax House Price Index rose from 252 to 524 – an increase of 107%.
We are constantly on the look out for ways to minimise our tax bills. We don’t mind paying our fair share but we take delight in making legitimate savings.
Of course nobody knows where house prices will go from here. If you are optimistic about the future then this idea might be of interest to you. We are concerned here with a buy to let proposition, not a house to be used as your own main residence.
Suppose you find a house which looks like a good investment opportunity. The house will cost £150,000 to buy and you think you will be able to sell it in ten years’ time for £250,000.
Ignoring annual exemptions and assuming a tax rate of 40%, you will pay capital gains tax of £24,000 on your disposal of the property. That is a gain of £100,000 less taper relief of 40%, giving a taxable gain of £60,000. Tax at 40% is £24,000.
Could the arrangement be made more efficient?
Well, yes it could in the right circumstances. The ‘right circumstances’ here require a member of your close family to be willing to live in the house, as their main residence, at some time during the period of ownership.
The trick is to buy the house through a trust. You set up the trust. You appoint yourself as a trustee. This ensures you remain in control of the trust. You appoint yourself as a beneficiary. This ensures you get your money back when the house is sold. You also appoint as beneficiaries other members of your family, amongst whom will be one who will occupy the house as their main residence for some period of time.
Suppose the house is let successfully until the end of year 9. One of your children, a beneficiary of the trust, occupies the house as their main residence in year 10 and then the house is sold by the trust at the end of that year.
What is different here?
Well, because the house was occupied by a beneficiary under the terms of a trust, the capital gains tax main residence exemption is available. Under the capital gains tax main residence exemption, the last three years of ownership are treated as a period of actual occupation by the beneficiary. This means that three rather than one year’s worth of gain is eligible for the exemption.
The fact that the main residence exemption is available also brings in to play the lettings exemption. The lettings exemption is the lower of (i) £40,000 and (ii) an amount equal to the main residence exemption.
Our original gain was £100,000.
Three out of ten years qualifies for the main residence exemption. This exemption is therefore £30,000.
The lettings exemption is the lower of £40,000 and £30,000. This exemption is therefore £30,000.
Our gain is now £40,000.
Taper relief is 40%, as before, which reduces the taxable gain to £24,000.
Tax at 40% is £9,600.
That’s a saving of £14,400 when compared with the original outcome.
The plan can be adapted to address the problem which more and more families are encountering i.e. how are my children ever going to be able to afford to buy a house?
Instead of selling the house to a third party, the trustees could give the house to the beneficiary.
This would not avoid the £9,600 capital gains tax bill but that might be considered a small price to pay for the value derived from the arrangement.
In fact the capital gains tax liability could be managed. The longer the beneficiary remains in residence, the greater the proportion of the overall gain which benefits from the main residence exemption. Deferring the transfer of the property to the beneficiary until an opportune time could eliminate the tax liability altogether.
Our advice: At a time when many families are thinking about investing in buy to let properties and about how to help their children on to the property ladder this plan might encourage you to turn a pipedream into reality.
Please consult with us before embarking on any tax planning exercise. It is important to tailor tax planning arrangements to fit your individual requirements.
One or two readers have commented on the apparent unfairness of the decision of the Court of Appeal in the tax case which we reviewed in July’s newsletter. We have since learned that the Court of Appeal has denied the taxpayer leave to appeal to the House of Lords. This means that the decision of the Court of Appeal is final.
Our advice: It is the quality of disclosure of information in a tax return which determines whether the Revenue can successfully make a ‘discovery’ in a tax year which has closed. Great care is required in drafting tax return disclosures. We can help here.
TRUE STORY - SAVINGS ACCOUNTS
A husband and wife implemented some basic tax planning by investing a lump sum in the name of the non taxpaying wife rather than the higher rate taxpaying husband. The money was invested in a fixed term, high interest bank account. The account matured after three years.
The couple assumed that interest was added annually. Indeed the annual statements from the bank showed how much interest had been earned in each year. Unfortunatley, it transpired that interest was only actually added at the end of the investment period. The effect of receiving three years’ worth of interest in one year was to make the wife a taxpayer. The tax saving achieved by the couple was not therefore as great as they had expected.
Our advice: In order to attract your savings, banks and building societies have to devise innovative savings products. Consequently, some of their offerings might not be quite as simple as they seem. It is important that you understand the terms of an account before you invest, otherwise you might end up paying more tax than you bargained for.
TRUE STORY – GIFT AID
Having received a larger than usual dividend from a family company, this client edged over in to the higher rate tax bracket in 2003/04. We do not expect this situation to recur in 2004/05.
Our client makes a regular monthly gift aid payment.
Under rules which have applied since 2003/04 you can elect to carry back to the previous year any gift aid payments you make in the current year up until the time you submit your tax return for the previous year.
Taking advantage of this rule we are deferring the submission of this client’s 2003/04 tax return until January 2005. This will enable us to carry back 10 months’ worth of 2004/05 payments to 2003/04 resulting in a saving of higher rate tax.
Our advice: Hailed (by the chancellor) as a wonderful act of generosity on his part, the opportunity to carry back gift aid payments is a a tax break which only a handful of clients benefit from every year.
It is not to be sneezed at, however. If it encourages new charitable giving that is a good thing.
The newly appointed manager spends a day with the manager he is replacing. The departing manager explains that he has left two envelopes in the desk drawer. If the new manager encounters a crisis he should open the envelope numbered one. If a further crisis occurs he should open the envelope numbered two.
Results go badly. The new manager feels threatened. He remembers the parting words of his predecessor. He finds and opens the first envelope. The message inside says “Blame me.” He does this and gets off the hook.
Results continue to go badly. Again the manager comes under pressure. He opens the second envelope. The message reads, “Write two envelopes”.
Copyright Ó K P Bonney & Co LLP 2004. All rights reserved. No part of this publication may be produced, stored in a retrieval system, or transmitted in any form or by any means, electronic mechanical, photocopying, recording or otherwise without prior written permission of the publishers. Disclaimer The publishers have taken all due care in the preparation of this publication. No responsibility for loss occasioned to any person acting or refraining from action as a result of any material in this publication can be accepted by the authors or the publishers.
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