Property and Tax Issues

Isis' Maggie Fleming answers readers questions in Saturday's Daily Telegraph newspaper for the Property Clinic section.

The questions and answers are reproduced for you here.

This page contains Questions & Answers from January 2007. Older articles are accessed through our Archives page.

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My wife and I have lived in our house for seven years. It is our sole residence and owned jointly. In September 2003, we incorporated and extended some of the ground-floor accommodation to form a self-contained flat, sharing the main entrance and common parts with our tenants.

We moved from the main house to the flat in April 2004 when our council tax was revised and work started to convert the rest of the house to flats, which were occupied in April 2005. We were in occupation during the building works.

If we wish to sell any or all of the flats while we are in residence, but after a three-year period from April 2005, would we be liable for Capital Gains Tax (CGT) providing it was still our main residence?

The decision was taken to convert the house as the rental income far exceeds the interest from our With Profits Bonds, which we used to fund the development. As many older owners may have followed this route rather than the equity-release option, the question of CGT will have a bearing.

Maggie Fleming writes:

You and your wife will qualify for Principal Private Residence relief (PPR) on the property as a whole for the period up to September 2003. At that point, what had been one residence became two. Subsequently, further homes were carved out of the original house. You now have a number of individual dwellings, any one of them capable of being the principal private residence of its inhabitants.

On sale of any one of the flats that you do not occupy, you and your wife would be entitled to relief for the period up to the point when that flat was carved out of the original house and for the final 36 months of ownership. The clock would start ticking on the later flats from April 2004, as that was when you moved into the first flat.

You would also be entitled to PPR relief on the parts of the property subsequently occupied by you, as well as the further relief of up to £40,000 per person due where a main residence has been let out.

There is, however, an important restriction to PPR relief where expenditure has been incurred with the purpose of realising a gain on disposal. If Revenue and Customs applied this, they would look at the difference in value between the property sold and its unconverted value, less conversion costs, and tax that. The section is usually only invoked to deny the final 36 months' relief where a property is converted and the flats sold immediately. You should take expert advice on the matter.

I have a query about rollover relief on Capital Gains Tax (CGT). I have had a house of multiple occupation (HMO) for 10 years, but am reluctantly having to sell as I now live several hundred miles away from it.

I have an inkling that you can sell one property and reinvest in another (or others) to avoid CGT. All I know is that the new property has to be of a similar type to the old, so that you are basically carrying on the same kind of business.

I do not really want to have another HMO, and would prefer to try different types of property investment with the proceeds of the sale. However, seeing as the property has quadrupled in value in the 12 years that I have owned it, I could be facing a hefty CGT bill, which I really want to avoid, even if it means another HMO.

Maggie Fleming writes:

I am sorry to have to tell you that your property does not qualify for CGT rollover relief. With the sole exception of furnished holiday lettings, which qualify for preferential treatment, HM Revenue & Customs regards rental income as investment income rather than trading income and therefore reliefs available to other kinds of businesses do not apply to a rental business. There is no special treatment for HMOs.

As a result, on sale of the property, your gain will attract only the normal non-business reliefs - the annual personal allowance of £8,800, indexation allowance for the period before withdrawal of this relief in 1998 and standard (not business) taper relief of 35 per cent for the period after March 1998. Both the personal allowance and the rate of taper relief will increase (the latter by 5 per cent) if sale is delayed until after April 5.

You can also deduct the costs of capital improvements and renovations to the property (provided these are reflected in its condition at the time of sale), as well as incidental costs of purchase and sale, such as stamp duty and solicitors' and estate agents' fees.

If you are married or in a civil partnership, you can gift a share of the property to your spouse or registered partner before sale. Provided that this is a genuine gift and there are no strings attached, a second personal exemption will be available and, depending on your partner's taxable income, some of the gain may be taxed at a lower rate. I realise, however, that this is unlikely to make much of a dent in the tax bill.