High Value UK Residential Property - Tax Changes
This year’s UK Budget Statement announced changes to Stamp Duty Land Tax (“SDLT”) with effect from March this year and proposed a new annual charge as well as a major extension to the scope of Capital Gains Tax (“CGT”) with effect from April 2013. Together these affect the purchase, ownership and sale of high value UK residential property. A broad summary is set out at Schedule 1.
Briefing - 02/10/2012
We are told by HM Treasury that all this is with a view to "ensuring the fair taxation of residential property transactions". Unfortunately, even though the intention may be one of fairness, owners of high value residential property in the UK cannot simply afford to do nothing in reliance on this bland reassurance.
Perhaps the Coalition Government's idea of a mansion is different from the reality of what £2m buys in central London.
This note summarises the changes already made and those that are proposed. It is the latter that cause the greater concern. Timing issues are at the heart of this.
Urgent action is likely to be needed in many cases well before April next year and the window for taking action is likely to be limited.
There has been a consultation process and responses will be published on or by 11 December 2012. The final detail of the proposed changes, in the form of draft legislation to be included in the Finance Act 2013, will not be published until 11/12/2012 - but the thrust is now clear and the new rules will come into effect from April 2013. This gives a very narrow time frame for taking advice, obtaining valuations, carrying out any rebasing or other restructuring and arranging alternative finance, which may itself be the most time consuming part of the process.
In many cases there may be no need for radical restructuring, but each case does need to be reviewed as early as possible. The review process should include consideration of the primary purpose behind existing structures.
Currently, clients and advisers are, or should be, gathering data which will be needed for a full review over the next few months.
In the meantime, prospective purchasers of new properties will need to take specialist advice on the structuring of transactions and future ownership.
Apart from "fairness" the given reason for the changes has been cracking down on what are described as "avoidance" techniques, especially SDLT avoidance, by non-UK domiciled and non-UK resident individuals arranging to hold UK residential property through offshore trusts and/or companies.
In fact, very rarely, if at all, has the motive been the avoidance of SDLT, and individuals not resident in the UK have been exempt CGT in any event. The preservation of anonymity has been a more important factor.
The principal reasons for setting up an offshore structure in these cases have been the preservation of anonymity and inheritance tax protection.
In considering the way forward, clients should consider which of these (or whichever other key driver) is the primary objective behind the existing structure, as this will affect and possibly determine the chosen solution.
The upshot is that however misplaced the Government's targeting, the proposed changes will require careful consideration. Existing structures will certainly need review and some may need adjustment.
CHANGES ALREADY MADE
Two changes took effect from 22 March 2012:
SDLT at 7% on the purchase of residential properties; but
at 15% on the purchase of UK residential properties for more than £2m by a "non-natural person". This term refers to entities such as companies, partnerships with a corporate partner and collective investment schemes. It does not include cases where the purchaser is an individual or a trustee of a settlement or a nominee of a natural person. Property developers are also excluded in certain circumstances and for once have favoured status in UK taxation.The effective rate of SDLT can still be reduced for mixed use properties, i.e. where both residential and non-residential properties are acquired in the same transaction.
Where two or more properties are acquired together, they will be assessed separately as to the £2m+ threshold.
THE PROPOSED CHANGES
Annual charge - The UK Treasury is proposing to levy an annual charge on UK residential properties valued at over £2m and owned by "non-natural persons".
The same "non-natural persons" are affected as are liable for the new 15% rate of SDLT that has applied since March 2012:-
- collective investment schemes; and
- partnerships with a corporate partner - but generally excluding bona fide property development businesses.
A point to note raises issues of liquidity and funding - i.e. that if the vehicle itself cannot meet the annual charge, it may be levied on shareholders, investors or ultimate beneficiaries.
The first annual charge will arise on 1 April 2013 and will be based on the property's value at 1 April 2012, if the property was already owned on that date. For properties acquired after 1 April 2012, the actual acquisition cost will be used.
Both freehold and leasehold interests are affected, including for the same property. They are valued and assessed separately.
The system is one of self-assessment, i.e. those liable for the charge will be responsible for assessing and reporting the property's market value. It is likely therefore that property owners will have to commission professional valuations (possibly as a defence against penalties for under-valuations) unless, for example, HMRC offer a valuation checking service.
There will be a separate tax return for the annual charge to be filed by 15 April for the year to the previous 1 April. This is an extremely tight deadline.
At this stage it may not be necessary to incur the expense of a professional valuation as at 1 April 2012, but informal soundings could be taken to see if a property value is definitely more than £2m, definitely less, or on the threshold.
Valuations will then be required every five years, i.e. for properties owned on 1 April 2012, the next valuation will need to be as at 1 April 2017 for the purposes of the April 2018 annual charge.
There is a block charging system for properties valued at between £2m and £20m. The effective rate of tax will be between 0.3% and 0.75%, with rates increasing each year in line with inflation. For properties valued at over £20m, the effective rate will decrease as the initial liability will be capped at £140k. Though the charge will be index-linked, the bands will remain the same, as will the £2m threshold, so pulling in more properties by inflation. The bands are shown in Schedule 2.
Extension of CGT
A major change is proposed, extending the CGT regime to include disposals of UK residential property for more than £2m (and assets that represent such) by "non-natural persons", including where they are non-resident. In the past, CGT was generally only payable by UK residents.
These changes are intended to discourage the holding of residential property through corporate arrangements.
It seems that for the extended CGT rules the definition of a "non-natural person" may be wider than the one used for the 15% SDLT rate and the annual charge.
It will certainly include companies, but may also include:
- Personal Representatives;
- Clubs and Associations (but not Charities); and
- Offshore entities such as Foundations, Stiftungs and Anstalts that allow property to be held indirectly.
It is essential to note that the new CGT charge on disposal of high value residential properties will apply to the total gain over the original acquisition cost and not just the gain over and above the value at April 2013, when the new rules are introduced. There is no statutory rebasing.
Only disposals where the sale price is more than £2m are caught (or, between connected persons, where the market value is over £2m). But the whole gain will be charged. Clearly this gain could be very substantial and in some cases it may be difficult to identify the original acquisition cost, such as where there was a hold-over on the transfer of the property into the structure.
The new rules will not just apply to the disposal of the residential property itself. They will also apply to any gains on the disposal of assets that represent high value UK residential property. This will include shares in a company where more than half its value derives from such property.
It seems that a beneficiary's main residence exemption could still in principle apply where the new tax charge falls on offshore trustees, but the exemption will not be available if the disposal is made by a company.
The normal rate of CGT applies - currently 28% with no indexation of cost nor tapering for the ownership period.
Action Now / Future Action
Now is the time for gathering information and taking preliminary advice, including ball-park valuations, and a review of the underlying purpose.
Now is not the time for wholesale unscrambling, given the costs involved and the tax complexities, especially since there is no mechanism or "amnesty" period for tax-neutral unwinding or reorganising before April 2013, and since there is as yet no certainty about the effectiveness of some of the proposed solutions.
Taxpayers who are likely to affected by the proposals should discuss them with their advisers to see how they are likely to be affected and the possible solutions, but with a view to being able to take swift action as and when the detail of the law is known.
It must be borne in mind that all relevant information, valuations and all rebasing or other restructuring as is necessary will need to be in place before the end of March 2013. This means preliminary work is needed now. The review window is narrow and closes on 31 March - which by the way, is Easter Sunday.
Much of the planning is likely to be centred on the rebasing of acquisition costs for CGT purposes.
Other early work, in order to be as fully prepared as possible, includes the following:
Identifying offshore structures owning UK residential property worth more than £2m or with a value close to this threshold and, where necessary, obtaining provisional or ball-park valuations but not necessarily at this stage incurring the expense of formal valuations.
- Reviewing those structures in light of the proposals and on the basis that they are implemented. Do the structures remain fit for their primary purpose? Would the costs and tax complications of major restructuring be justified, or are the proposed charges acceptable, assuming the structure does continue to satisfy the primary purpose?
- Reviewing any debts on the property and the nature and amount of the debt. Will existing lenders be prepared to continue to provide facilities and, if so, on what terms if a restructuring is needed?
- Reviewing all contractual rights and liabilities applicable to each structure. They would need to be taken into account if the structure has to be adjusted.
- For clients simply wanting anonymity and for whom Inheritance Tax is not a primary concern, consider putting their structures into nominee companies.
- Where a company may need to be liquidated, consider the time required for the liquidation process in the jurisdiction concerned. Some need more time than others.
- Before embarking on any major restructuring, take specialist advice on the tax issues which can be highly complex. We are not tax advisers (and this note should not be taken as advice but simply general guidance), but we will be pleased to work with clients' own tax advisers in reviewing structures and implementing their tax plans.
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