Capital Gains Tax on Incorporation of a Property Rental Business

Introduction

UK residential property has been subject to many changes when it comes to tax in the recent years, immediately springing to mind is the removal of the wear and tear allowance, the 3% additional Stamp Duty Land Tax (SDLT) charge, the 8% surcharge on Capital Gains Tax (CGT), provisions of ATED and CGT being payable within 30 days.

Some of these changes only affect individuals, while some only affect corporate businesses and some affect both.

Section 24 or ‘finance cost restriction’, however has been the most worrying change for private residential landlords, especially where highly geared portfolios could suffer tax charges in excess of their profits.

Currently, as there are no restrictions on finance cost charges to limited companies, incorporation has become very attractive to landlords, however there is more to consider before opting for this option.

What is Incorporation? 

It is simply the transfer of a business owned by the individual or a partnership to a limited liability company structure.

Where the business is looking to utilise CGT incorporation relief (section 162, TCGA 1992) the company pays the transferor for the business by issuing new shares. The incorporation relief will roll the gain inherent in the properties at the time of the transfer into the base cost of the shares. Thus, the gain is only brought into charge if and when the shares are disposed of.

For section 162, incorporation relief to apply the transferor must be an individual or a partnership (this could be general, limited or LLP partnership) and the transfer must be to a company in exchange for newly issued shares. Any other consideration other than shares that is paid to the transferor for example by creation of a loan account is chargeable to CGT.

There is also a “going concern” requirement for the business, which is likely to be met by most property rental businesses.

What is a business?

The word “business “is not defined by statute and therefore has often given rise to contention between HMRC and the taxpayer.

Until a few years ago there was very little guidance or case law. The definition of business was considered in the Upper Tier Tribunal (UTT) in the case of Elizabeth Moyne Ramsey v HMRC (2013).  

The case facts:

·        Mrs Ramsey’s business consisted of a joint interest in a property which was divided into ten self-contained flats.

·        The property consisted of a communal area as well as a garden, car park and garages and  substantial repair and maintenance was carried out on them.

·        Mrs Ramsey was involved and carried out some of the work personally.

·        Additional assistance was provided to an elderly tenant

·        Mrs Ramsey was carrying out preliminary work for the planned refurbishment and redevelopment of the property prior to the transfer of the property to a limited company.

·        Mrs Ramsey and her husband each spent 20 hours a week on the management of the property business and neither of them had any other source of income during the relevant period.

The UTT decided that the level of activity was sufficient to deem the business as being beyond what is normally expected to be carried out by a mere passive investor, making the level of activity the main indicator whether a business exists and section162 incorporation relief is available or not.

There are other aspects to incorporation that would need to be considered carefully such as Stamp Duty Land Tax (SDLT) before deciding to incorporate, however an aspect that we feel is often overlooked is the opportunity for landlords to restructure their business as this could result in running their portfolios more efficiently and even mitigate future Inheritance Tax (IHT).

If you have any questions regarding incorporation, section 24, SDLT, IHT or restructuring your property business please don’t hesitate to contact us on [email protected].

Alex Bahamin ACCA MAAT

 
About The Author;

Alex is a qualified chartered certified accountant, member of ACCA and AAT.

He is a property tax advisor, investor and has been helping landlords keep more of their wealth for themselves and their families.

With both technical expertise and personal experience of being a property investor himself, Alex can help other property investors save tax and structure their businesses in the most efficient way.