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 July 2004. Older articles are accessed through our main Property Tax page.

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As a family, we are thinking of buying a holiday home between us. One thing of concern is the potential Capital Gains Tax liability that will build up over the years. Is there any mileage in the idea of selling the property every few years to a friend in the last month of the tax year and buying it back in the first month of the next tax year?

The capital gain divided between us over a few years would hopefully be covered by our allowances (say, four co-owners). We would loan the proceeds to the friend for the few weeks the property was in his possession so no investment would be called for.

The legal costs and Stamp Duty (assume less than £250,000) would still make for a big saving in the long term.

Maggie Fleming writes:

This is something that people used to do with shares - it was known as "bed & breakfasting" - and it was a popular way of using up your annual exemption, until it was more or less outlawed in 1998. There are no similar specific provisions regarding the sale and re-purchase of property.

There is anti-avoidance legislation in force regarding artificial transactions in land. The effect of the legislation is to turn a capital gain into an income receipt (which would negate the benefit of the annual exemption). While the legislation is widely-drawn, the Inland Revenue (IR) would normally only apply it where there was a trading motive and income tax had been avoided. As this does not apply in your case, I feel you need not worry about this provision.

However, the IR is likely to challenge you on the grounds that the arrangement is a sham (if it can make sense of the various "disposals" of the same property shown on your tax returns). It could argue that the "intermediate" disposals were not disposals at all and simply ignore them. If challenged, you would not have a leg to stand on. So you would be out of pocket and have achieved nothing.

You should also bear in mind the effect of your scheme on taper relief. Each time you re-purchase the property, the taper-relief clock would have to be re-started from scratch.

I would be grateful if you could give me your opinion of the capital gains tax (CGT) implications in the following case, which is perhaps rather unusual.

When my mother died in 2000, I inherited the house which had been in our family since 1939. Unknown to me, however, I had owned a half-share of the property since 1961. My father had died intestate in 1950 and apparently in accordance with the law, as he had no other significant possessions, a half of his estate (ie the house) became mine when I was 21, though I didn't know this until after my mother's death.

The house, a cottage in Cumbria, is now valued at £200,000. There was no inheritance tax (IHT) to pay on it, but I would be interested to know what would be the likely CGT liability if the house were sold now?

Maggie Fleming writes:

This is complicated. You have acquired two different interests in the property at two different times and, for tax purposes, you should treat these as two separate assets.

One asset (a half share in the property) was acquired by you at probate value at the date of your mother's death. The other asset (the other half share) was acquired by you at the age of 21 at its value at that time – however, you can substitute its market value at March 31, 1982 as your base cost for CGT purposes, if that gives a higher figure. If you sold the house now, you would have to prepare two calculations based on these different dates and costs. Indexation allowance would be available on your father's half only, while taper relief would be available on both.

There is another complication. You mention that the house was your family home. Some measure of principal private residence relief may be due if you lived in the house at some point during your period of ownership. This is most likely to be applicable to the half you inherited from your father. Although, for principal private residence relief, you ignore periods before April 1, 1982, nonetheless, if you did live in the cottage before that date, you can claim relief for the final 36 months of ownership, even if you moved out before April 1982. You can also, of course, claim relief for any periods of occupation since April 1982.

As the matter is complex, you should engage a tax practitioner to prepare the computations for your tax return, if you decide to sell the property

I bought a buy-to-let property in October 2003 and was wondering what costs I can set against tax, as my tax return for the last financial year needs completing.

I know I can offset the monthly mortgage outlay but what about the actual expense of purchasing the property; for example, solicitor's fees, land registry fees, stamp duty, search fees, survey fees, mortgage arrangement fee, buildings insurance, etc?

Maggie Fleming writes:

You can deduct any expenses which are not of a capital nature from the rents you receive in order to calculate your taxable profit. You need to be careful with the mortgage repayments, though; you can only deduct the interest that you pay – you get no relief for the capital element.

Broadly, the expenses you can deduct are recurring expenses – insurance premiums, ground rent, gas safety check, water rates, management charges, the cost of advertising for a tenant, expenses for granting a lease of one year or less, everyday repairs and maintenance and so on.

If the property is let furnished, you can also claim 10 per cent of net rents (usually gross rents less water rates) as a "wear and tear" allowance – this is intended to cover depreciation of furniture. If let unfurnished, you can claim for the replacement of items such as carpets.

Apart from buildings insurance, I am afraid the expenses listed by you are capital. You will get relief for these only when you come to sell the property, when they will be deducted from your capital gain. Other capital expenses you will be able to claim at that time will include improvements to the property (for example, a loft conversion or an extension) as well as the incidental costs incurred during the sale.

The Inland Revenue produces a comprehensive booklet on the subject, IR150, which you can obtain by calling their orderline on 0845 9000 404. The land and property notes which you should have received with your tax return also list the kinds of expenses you can claim.

Can you please advise us on the best course to take so that my parents' house remains in the family and my sister and I pay as little inheritance tax (IHT) as possible?

My parents (both in their 80s) live in a house which has been owned by my mother's family for more than 120 years and is valued at £850,000. My sister and I will jointly inherit the property upon their deaths, incurring a tax bill which would force us to sell. However, my son has recently declared that he would like to make the house his family home in the future.

Obviously, it may be too late to pass the house over on "the seven-year rule" and this would be unfair to my sister. Can you suggest a way of "buying" my sister's interest during my parents' lifetime?

Maggie Fleming writes:

There are two separate issues involved – one is mitigating IHT to try to make it affordable to keep the house in the family and the other is buying your sister's interest. If either of your parents died, there would be a substantial tax bill on the value of their share of the house, let alone their other assets.

There are several ways they may be able to reduce IHT. A good first step would be for them to sever any existing tenancy and hold the property as tenants in common. They should ensure that they each use their nil rate bands by willing a share of the property to someone other than the surviving spouse, with, of course, any necessary safeguards for the survivor.

Another possibility would be for your parents to gift an undivided half-share of the property to your son, assuming that he is not a minor, and for him to move into the property and share it with your parents. Normally, a gift of this sort would not be effective, as it would be a "gift with reservation of benefit", but these rules do not apply where the donee lives with the donor. Your parents would, however, have to live seven years for the gift to be fully effective. The remaining half-share could be left to your sister.

How you compensate your sister is entirely for the family to decide. After your parents' deaths, it may be possible to raise a mortgage to buy out your sister.