A runaway residential property market boasting increases of 20% year on year has made London the darling of the international property market for investors. So good are the returns that some investors have been content to leave those properties empty, the so called 'buy to leave' investors. But with the local population priced out of the market by foreign investors, the previous UK government struck back with a series of changes to the way the property market is taxed. The latest raft of changes kicked in in April 2015. Do they signal the end of the boom years for London property market or has the reprieve from the threatened 'mansion tax' ensured London will continue to thrive?
Historically, non-residents who have owned properties in the UK paid no capital gains tax when they sold them and inheritance tax could be solved by holding the property through a non-UK company. A transfer tax called stamp duty land tax (SDLT), levied on the acquisition of real estate, could also be avoided by selling the shares in the company owning the property, rather than the property itself. Public disquiet with this state of affairs led the previous UK government to take action.
In April 2013, high value residential properties held through companies became subject to an annual charge to tax, the annual tax on enveloped dwellings (ATED). ATED applied to properties worth £2m or more and the annual cost for the privilege of holding a property in this way was between £15,000 and £140,000 per year, depending on the market value of the property. A capital gains tax charge was also levied, payable at 28% on gains from the disposal of high value residential property that was already subject to ATED. On top of this, a penal rate of SDLT was levied on the transfer of properties to non-UK companies of 15%, to discourage owners from transferring property into companies in the first place.
Exemptions were available to landlords and developers, so that, with the exception of the buy to leave investors, foreign investors who did not use residential properties for personal use were largely beyond the scope of the rules.
In December 2014, a substantial increase to the rate of SDLT came next. From that point forwards, all future purchases of residential property worth over £1m are subject to an eye-watering SDLT rate of 12%. The rates of ATED were also bumped up, so that almost a quarter of a million pounds was payable for the privilege of holding the most valuable residential properties through companies and the threshold at which ATED kicked in was dropped to £1m, with a further drop to £500,000 on the cards.
Could things get any worse for homeowners in the UK? It appeared that they were about to.
From 6 April 2015, non-UK residents with homes in the UK were brought into the UK capital gains tax net. This represented a radical change in the rules and, going forwards, non-UK resident individuals thinking of dipping their toe into the UK residential property or offloading their existing properties, should take advice before doing so.
The new CGT charge applies to disposals of UK residential property by non-resident individuals, trustees, personal representatives of a non-resident deceased person and some non-resident companies. It does not apply to any other forms of UK real estate such as office buildings, shops or farmland.
CGT rates are in line with those for UK resident individuals, with the basic rate at 18% and the higher rate at 28%. Non-UK residents have an annual exempt amount, which in 2015/2016 will be £11,100. The good news is that only gains made above market values after 5 April 2015 are taxed which effectively rebases values to 2015. Losses arising may be carried forward and, even if they arise while the tax payer is non-resident, these can be set against other gains in the UK if the taxpayer becomes UK-resident.
Non-resident companies and partnerships are also caught by the new changes and are subject to certain restrictions. The rate charged to companies reflects the main UK corporation tax rate of 20%. Unlike the previous CGT charge imposed on companies already subject to ATED, there is no let out for landlords or developers.
Limited relief from the wide-ranging CGT charge came in the form of tweaks to 'principal private residence relief' (PPR). Essentially, PPR is a relief which provides complete exemption from CGT for individuals on the disposal of their main home. As a result of the extension of the CGT rules, PPR is also now available to non-UK residents, under limited circumstances. A non-UK resident individual has the right to nominate a UK property as their main home for relief from CGT. This only applies if the property is not beneficially owned by a company. PPR is also be available to trustees disposing of property used as a main residence by a non-UK resident beneficiary.
To qualify for PPR under the new rules, a non-UK resident individual must satisfy the '90-day rule' which means they will have to spend at least 90 midnights in their UK property (or across all of their properties where they have multiple properties in the UK) in the tax year in question. A non-UK resident beneficiary of a trust must also meet the 90-day rule in relation to a UK property in order to qualify for PPR.
Dubbed the Cinderella rule, when calculating 90 days for the purposes of the rule, the tax payer is required to ‘be home at midnight'. The test clearly requires the individual to be physically present in the property at midnight, so will tax payers with a riotous social life come unstuck? Helpfully, occupation of a residence by one spouse or civil partner will be regarded as occupation by the other so a couple can be resident at the property separately in order to fulfil the 90-day rule. However, each midnight can only count once.
PPR is considered on a year by year basis. As long as the property met the 90-day rule at some point during the period of ownership then PPR for the last 18 months of ownership should qualify for PPR in any event.
The 90-day rule reinforces the importance of accurate record keeping for non-UK residents who spend time in the UK, a practice they have already had to adopt to tiptoe around the rules for UK tax residence. These individuals will note the fine distinction between the 90-day rule and the UK Statutory Residence Test for which spending ‘more than 90 days' in the UK may result in acquiring a '90-day tie'. For non-residents who do not meet one of the automatic tests under the Statutory Residence Test, owning a UK-residential property will necessarily give them an 'accommodation tie'. Acquiring two ties in the UK, the '90-day tie' and the 'accommodation tie', will greatly reduce flexibility as to the amount of time they can spend in the UK and they will have to be especially careful not to inadvertently acquire any further ties which may result in being treated as UK resident.
These new CGT rules mean that, as of April 2015, non-UK resident individuals need to plan even more carefully how they spend their time in the UK. They may end up running the gauntlet of either a charge to CGT when they sell their UK homes or inadvertently becoming UK tax resident. Taking advice on the number of days which can safely be spent in the UK and how and when to dispose of the property in question is key to managing the risks.
Prior to the UK general election on 7 May 2015 and in the face of a continuing march upwards in property prices, there was persistent talk from a number of the UK political parties about creating a 'mansion tax' to further tax the ownership of high value residential property.
Many owners of high value residential property will have breathed a sigh of relief at the outcome of the election, as the new Conservative government has put an end to the mansion tax idea. This may mark a brief pause in the relentless pace of change to the taxation of UK property and allow the recent changes to filter through the market. However, as prices continue to rise, the issue remains at the forefront of political debate so overseas property investors would be well advised to watch this space.