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 November 2002. Older articles are accessed through our main Property Tax page.

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Isis Financial Planners offers tax planning advice as well as a Tax Self Assessment Service.

I am about to rent out a brand new house that I have bought for an investment. I am a teacher and have just come into the 40 per cent tax band. I will receive £500 per month in rental. Is it more advantageous from a tax position to form a company to rent out the property? And is it better to furnish the house?

Maggie Fleming writes:

You need to consult an accountant who will talk through the issues with you. In your circumstances, the main advantage of forming a company is that no corporation tax will be due on your profits, as they will be comfortably within the nil rate band. However, tax will be due when you extract the money from the company, either as dividends or as salary. You are likely to opt for dividends, as the tax rate is lower.

However, is it worth the trouble? After you have deducted all allowable expenses, your net profit may be low. As an unincorporated landlord, you need only complete an additional page on your tax return. As an incorporated business, you have all the costs and hassle of incorporation, making annual returns to Companies House, corporation tax returns, accounts in the proper format etc. Will your accountancy fees wipe out the tax saving?
If you let the property furnished, you are entitled to a "wear and tear" allowance each year, calculated as 10 per cent of gross rents less charges such as water rates. At approximately £600 a year, this is a useful deduction from profits.

Ten years ago I bought a building plot and registered it in my son's name for capital transfer tax purposes. I have since built a house on the land which my wife and I live in. Will this house have to be declared for tax purposes by my son when we die? We do not pay him rent for the house.

Maggie Fleming writes:

I assume that the original purchase was effective for inheritance tax (IHT), which replaced capital transfer tax in 1986, and that there is no question of a reservation of benefit - if you are in any doubt about this, check the position with a solicitor. Ideally, you would have gifted the money to purchase the land to your son and he would have bought it. After seven years, the gift would have fallen out of your estate.

Assuming that there is no Inheritance Tax (IHT) liability, your son will nonetheless have a capital gains tax liability, probably quite a hefty one, when he comes to sell the property after your death. The gain will be based on the difference between the sale price and the cost of acquisition. It will be reduced by indexation allowance and taper relief and he will have a personal exemption (currently £7,700) to set against it but there could still be a considerable tax liability. No gain will arise until he sells the house, so if he decides to occupy it himself (which could be tax-effective) or rent it out, no immediate liability will arise.
If your son is married, he can gift a half-share in the property to his wife before selling it and this will help reduce the tax liability.

My parents, both retired, wish to release some of the equity they have in their property to enjoy their later years. To do this they need to sell a share of the freehold to me. How do we go about this and can I get a mortgage secured on the share of the property they wish to sell?

Maggie Fleming writes:

You and your parents should talk the matter through with a solicitor, as you will need to consider issues such as whether you hold the property as tenants in common or joint tenants and what would happen if you were to pre-decease your parents or they needed to sell or were to divorce. Your solicitor can draw up a legal agreement to cover all eventualities and will also be able to arrange the transfer of an interest in the property to you.

Because of the complexities of multiple ownership, it may be difficult for you to get a mortgage on this property - at the very least, a lender will need to be satisfied that you have an appropriate legal agreement in place. If you already own your own home, it would be easier if you could raise the mortgage against it, rather than your parents' property. Any existing loan would have to be taken into account.

From a tax point of view, you should be aware that, if you purchase an interest in the property, you will be liable to Capital Gains Tax (CGT) in the future. Unless you intend to live in the house with your parents, you will be liable to Capital Gains Tax (CGT) on your share when the property is sold - the charge will be based on the difference between the sale proceeds and the market value at the time you acquire your share. Taper relief and personal exemption will reduce the gain but any balance will be taxable.

In January 2000, I bought a house for my mother to live in. The house was in my name. My mother has recently passed away and I now want to sell the house and will make a profit of £38,000 to £40,000. To minimise the amount of Capital Gains Tax (CGT) payable, is my husband able to put his name on the deeds before we sell? How much tax will we pay and can we claim for expenses we have incurred with the house?

Maggie Fleming writes:

Provided that it is a genuine gift with no strings attached, you can give your husband a half-interest in the property prior to sale. I would advise that you use a solicitor to ensure that the documentation is watertight. By transferring a half-share in this way, you will each be able to use your own personal exemption of £7,700 against the gain, so that you will each have a taxable gain of approximately £12,000. The rate of tax will depend on the extent of your income - a non-taxpayer will be taxed at 10 per cent and 20 per cent on the gain while a basic rate taxpayer will pay 20 per cent if the gain, when added to income, does not exceed the basic rate band, and 40 per cent on any part of it that does.

You can claim a deduction for the incidental expenses of purchase and sale, such as solicitor's and estate agent's fees and stamp duty. You can also claim for the cost of capital improvements, such as building an extension, provided that these are still apparent in the state of the property at the time of sale.

As you have not owned the property for three whole years, no taper relief is due at present. However, if sale is delayed until after the third anniversary of purchase in January 2003, the gain will be reduced by 5 per cent.