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Foreign ownership of UK property: What do the new rules mean for your investment structures?

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For overseas owners of UK land and property, the tax rules have become more complicated over recent years – and for the most part, less beneficial.

Many of the changes introduced affect not just non-UK residents, but also foreign-domiciled UK residents (known as ‘resident non-doms’, or RNDs). They apply to residential and commercial

property; and to direct and indirect ownership (i.e. property ownership via a company, partnership, trust or other entity).

The resulting tax landscape is complex, with hidden risks for overseas non-resident property developers.

It’s important to understand the new rules, and their implications for your portfolio strategies. And it’s vital that your ownership structures take account of the risks, while being as tax efficient as possible.

Tightening the net

A slew of measures have all but eliminated the tax benefits of indirect foreign ownership of UK residential property.

This is now subject to:

• the maximum rate of Stamp Duty Land Tax (SDLT) at 15%
• a dedicated tax charge, called the Annual Tax on Enveloped Dwellings (ATED)
• new rules to bring it more fully into the UK inheritance tax (IHT) net

In addition, the Finance Act 2019 has widened the scope for foreign indirect ownership of UK land and property to incur capital gains tax (CGT).

Meanwhile, a new tax-avoidance rule specifically targets disposals of foreign entities with at least 75% of their value in UK land and property. It allows to HMRC to counteract any tax advantages derived from such disposals.

Indirect disposals have also lost their protection from economic double taxation, meaning they could potentially be taxed twice under different sets of rules .

Future changes

On the plus slide, there’s a change in the offing that may be positive for non-resident owners of UK land and property.

From April 2020, income from company-owned property assets will attract corporation tax – which falls to 17% at the same time. This compares favourably to today’s situation: overseas companies currently pay basic-rate income tax on proceeds from UK property, at 20%.

But inevitably, it’s not all good news. The government is consulting on a 1% SDLT surcharge for non-resident property purchases, likely to apply to direct and indirect structures.

And there’s speculation that they’ll go further, closing existing gaps between the tax treatment of foreign-owned residential and commercial property; and between direct and indirect ownership. That could end the eligibility of indirect structures to avoid IHT and SDLT on UK property in certain circumstances.

Key decisions

Faced with an increasingly difficult tax landscape, non-resident property developers must consider two crucial questions – neither of which have simple answers:

1. Should new investments in UK property be made via foreign entities?

Under current rules, there can be tax advantages to purchasing UK commercial property via an overseas company.

But the opposite is the case for residential property, thanks to ATED, the higher SDLT rate, and greater IHT exposure. Unless, that is, the property being purchased is to be redeveloped, or let on commercial terms to a third party with no connection to the owner.

2. Should properties held in foreign corporate entities stay that way?

If acquiring a property for their own use, non-residents should consider collapsing any existing property-owning companies, to avoid ATED and other potential tax liabilities.

Selling a company’s shares (as opposed to the property itself) will attract a much lower SDLT rate than a property sale. But the gains will likely be eroded by the commercial risks and higher transaction costs of selling a company.

The tax rules affecting these decisions are highly complex; and there will be a combination of commercial and personal priorities to weigh up alongside the tax implications. Expert technical advice will be essential when structuring your foreign-owned UK property portfolio.

The Goodman Jones property team can help you find the right strategies in light of the recent changes, and keep your portfolio optimised in an evolving tax landscape.

 

Pre-Planning for ATED

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My Blog of 31 August ran through the recent history of property taxation in the UK. It identified that ATED (the Annual Tax on Enveloped Dwellings) was introduced a number of years ago with a consequential impact for Capital Gains Tax and Stamp Duty Land Tax.

ATED is a tax charged on non-natural persons (for example companies or partnerships with at least one company member) which hold an interest in one or more UK residential dwellings. The tax is applicable to both non-natural persons incorporated in the UK and incorporated overseas. You will also appreciate that there is a difference between a charging return and a relieving return with only a charging return leading to a tax liability and therefore valuation considerations.

The ATED charge is a fixed sum depending into which band of value the property falls. The valuation date is the later of 1 April 2012 and the date that a property is first subject to ATED. When a property is newly acquired the valuation date is the acquisition date. Should a property come into existence for the first time then the determining date is the date that it is first recognised for Council Tax purposes.

The filing date for an ATED Return is 30 days from the date the property first falls into the ATED charge. There are extensions to 90 days in prescribed situations such as the creation of a new dwelling. All enveloped properties held on each 1 April need to be subject to an ATED filing. The deadline for these filings remains 30 days later, being the end of April.

When ATED was first introduced in 2013 the first charge was for properties worth more than £2m on 1 April 2012. Since 2013 ATED has applied to properties of lower value and now ATED applies to properties worth more than £500,000.

Valuations

When ATED was first introduced in April 2013 the first valuation date was 1 April 2012. This was helpful as it gave taxpayers the opportunity to obtain valuations and determine if their properties were worth more than £2m more than twelve months prior to the introduction date for ATED. Accordingly taxpayers had time to obtain valuations and plan for the impact of ATED.

The ATED regulations state that the valuation would be revised every five years and therefore properties will need to be revalued on 1 April 2017 to determine into which band they fall. As ATED applies to properties worth more than £500,000 there will be many properties which fall into the ATED regulations for the first time on 1 April 2017. Although there is no statutory requirement to appoint property valuation professionals to revalue the property, this is the safest course of action as it demonstrates a greater level of HMRC compliance than using a director’s valuation.

As there are going to be considerable numbers of properties subject to ATED from April 2017 and therefore considerable numbers of valuations to be determined we believe that there is going to be a shortage of access to valuation professionals in April 2017. In order to allow our clients the best possible access to valuation services we are in discussion with them about either having valuations undertaken between now and April (with a desktop review at 1 April 2017) or making bookings with valuers for six months hence. We have a number of surveyor clients who we can recommend with our recommendation being based on factors such as the type of property, the location of the property and any special features of the property.

In conclusion there is an understood benefit of employing a valuation professional for ATED purposes and we can foresee a shortage of these services next spring. We are presently speaking to our clients about pre-planning for this future requirement.

A recent history of property taxation – 2016

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CGT
Compared to today, property investment taxation before 2013 was relatively straightforward with one of the more complex discussions being convincing non-residents that they really could realise profits on investment sites without UK Capital Gains Tax.  Changes were made in 2013 which proved to be the start of a wholesale reform to various aspects of property taxation.

Introduction of Annual Tax on Enveloped Dwellings (ATED)

2013 heralded the introduction of the ATED (Annual Tax on Enveloped Dwellings) legislation which applied to high value UK residential property “enveloped” in certain structures.  The tax implications were an annual ATED charge, a 15% rate of Stamp Duty Land Tax and Capital Gains Tax at 28% on increases in value from April 2013.  When ATED was first introduced the definition of high value was property worth more than £2m.  Since then the definition has fallen to property worth more than £500,000 with subtle differences between ATED, CGT and SDLT thresholds.

There are exemptions against the ATED regulations but these exemptions need to be claimed and therefore many ATED Returns are submitted to HMRC which do not result in tax liabilities.  Based on our client base we submit far greater numbers of “relief” returns than “charging” returns.

Capital Allowances

One year after the introduction of ATED there was a change in the regulations governing capital allowances.  In order for the purchaser of a commercial property to claim capital allowances on the site’s fixtures and fittings the vendor must have already claimed allowances on those assets.  This has led to commercial discussions about purchasers paying professionals to determine the claims which the vendor makes for pre-completion periods or reductions in purchase price to reflect the tax relief that the purchaser will not be able to claim as the vendor has not maximised their claims.

Stamp Duty Land Tax

Later in 2014 the SDLT rates for residential properties moved from a slab system to a progressive rate.  This was to help avoid artificial ceilings on prices caused by purchasers not being willing to pay £1 more for a property as that £1 would result in greater SDLT.  The slab system still operates for properties charged under the commercial property rules.

ATED brought certain non-residents into the Capital Gains Tax net.  From April 2015 that net was widened with the introduction of Capital Gains Tax on non-residents who dispose of UK residential property.  The chargeable gain only applies to value generated from April 2015.  For properties owned prior to April 2015 the chargeable gain can be determined by either a time apportionment of the gain or determining the actual increase in value from April 2015.  If the latter is adopted then an April 2015 valuation would be necessary to determine the post 2015 gain.  A connected change was the requirement for non-residents to report the gain within 30 days of conveyance.  Unless the non-resident had an existing relationship with HMRC then the Capital Gains Tax may also have to be paid within the 30 day period.

Although UK Capital Gains Tax rates fell on 6 April 2016 the reduction did not apply to gains from residential property.  A further change on 6 April 2016 impacted residential landlords.  Traditionally these landlords claimed a 10% wear and tear allowance against furnished rental income to reflect the cost of repair and replacement of furnishings and white goods within a property.  Although this was an optional treatment it was the method widely used by landlords.  From 6 April wear and tear allowance has been abolished and landlords should claim tax relief on the actual cost of replacing these assets.

New rules for purchases of second homes or buy-to-lets

April 2016 was also the month in which new rules were introduced which resulted in higher SDLT rates on purchases of second homes or residential buy to lets.  For effected properties SDLT is 3% higher than the rate of SDLT which would otherwise apply, but there are exemptions for lower value properties, caravans, mobile homes and boat houses.  There is a specific relief for individuals who move home and buy their new home before selling their previous home.  These individuals will need to pay the higher rate of SDLT on the purchase of a second home and then recover the excess SDLT on sale of the first home.  There is a time limit to sell the former home and a time limit to claim a refund.

Offshore property developers

Offshore property developers of UK sites have been able to structure their affairs so that part of the development profit is charged to UK tax.  This does not allow for a level playing field between the domestic developer, who is fully charged to UK tax, and the offshore developer.  Legislation was introduced on 5 July 2016 to level this playing field.

Rental income

Individuals who receive income from renting out rooms in their home could receive up to £4,250 per year without tax.  From April 2016 this has been increased to receipt up to £7,500 per year. The Government accept that some people can generate small amounts of income from rentals of, for example, their homes whilst on holiday.  From April 2017 there will be a new £1,000 allowance for property income with individuals not needing to declare, or pay tax, on sums less than the allowance.

Mortgage Interest

From April 2017 mortgage interest on loans to acquire buy to let properties will only be tax deductible as if the landlord is a basic rate taxpayer.  This tax relief restriction is being phased in over 4 years with the full restriction applying from April 2020.  The mechanism to generate the relief is a credit against tax liabilities and not a deduction from rental profits.  This can result in taxpayers falling into higher rates of tax and therefore being unexpectedly subject to the restriction. As the changes only apply to those paying income tax this has led to questions about the benefit of holding these properties in a company.  Such a change in structure needs to be carefully thought through as it leads to other considerations.

From 6 April 2017 it is anticipated that there will be changes to the non-domicile legislation which will bring more individuals into the UK Inheritance Tax net and could result in properties which they own through offshore structures being subject to UK Inheritance Tax for the first time ever.

The ATED legislation was introduced in 2013 and was a major shift in the UK property tax base.  Who would have believed that it would be the start of a number of changes?  Further changes are expected in 2017.

 

What are the changes to Annual Tax on Enveloped Dwellings (ATED)?

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Following a greater than expected tax yield from the introduction of the ATED (Annual Tax on Enveloped Dwellings), HMRC have decided to widen the net over the next two years. Originally, the ATED charge for holding UK residential property within a corporate structure was aimed at those individuals sheltering properties worth in excess of £2,000,000 from Stamp Duty Land Tax. However, HMRC have decided to introduce the following new bandings (with annual charges adjacent):-

Value of Property Charge
£1,000,000 to £2,000,000 £7,000
£500,000 to £1,000,000 £3,500

The higher banding is operative for the ATED period 1 April 2015 to 31 March 2016, whilst the lower banding will start for the ATED period 1 April 2016 to 31 March 2017.

For both new bandings there will be transitional rules, as HMRC accepts that there may be some delay due to a lack of awareness of the changes. The usual and transitional submission/payment dates for the period 1 April 2015 to 31 March 2016 are shown below:-

Properties in Excess of £2,000,000 (Usual):-
Submission Deadline 30 April 2015
Payment Deadline 30 April 2015

Properties valued between £1,000,000 and £2,000,000 (Transitional):-
Submission Deadline 1 October 2015
Payment Deadline 31 October 2015

Whilst the changes noted above will clearly result in many additional properties being caught, further bad news has come in the form of inflation busting tax increases of around 50%.

For example, a corporate owning a property worth £2,100,000 can now expect to pay a charge of £23,350, an increase of £7,950 on the previous year. The greater the value of the property, the bigger the tax increase. From 1 April 2014, the annual chargeable amounts are being increased in line with the CPI (Consumer Prices Index).

One saving grace is the opportunity to claim relief in certain circumstances. Probably the most common reliefs are where the property is let on a commercial basis or held for development purposes. However, the relief still needs to be claimed through an ATED Return due by 30 April 2015 (or 1 October 2015 for the new banding). Failure to submit a Return and claim relief can result in penalties of at least £1,300 by the time the Return is six months overdue. The penalties are set out below:-

Initial Late Filing Penalty – £100
After 3 Months – £10 Per Day (up to a maximum of £900)
After 6 Months – £300 or 5% of the tax due (higher of)
After 12 Months – £300 or 5% of the tax due (higher of)

Whilst on the subject of relief, where a property is let to a connected party (spouse, child or lineal descendant of the corporate shareholder), no relief can be granted.

Although HMRC do allow taxpayers to Self-Assess the value of their properties for ATED purposes, it should be noted that if HMRC challenge and the value proves to be incorrect, penalties can be levied. The penalty regime is the same as that used for Self-Assessment and other taxes (Schedule 24 FA 2007 & Schedule 55 FA 2009).

For existing ATED payers, a value should have been ascribed as at 1 April 2012. For properties purchased after that date, the value used is the purchase price. HMRC have stipulated that the values need to be reassessed every five years so 1 April 2017 will be the next applicable valuation date. If a property has been purchased during the period between valuation dates, there will still be a requirement to reassess the value at the next main revaluation date. For example, a property bought on 1 April 2015 will need to be revalued on 1 April 2017 and not five years after the date of purchase.

You may also like to refer to Cetin Suleyman’s blog, which touched on many of the issues raised above.

It’s not just World Cup games that end in penalties – The Annual Tax on Enveloped Dwellings (ATED) Returns could lead to a few too!

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So another World Cup match ends in penalties with the Netherlands suffering the curse of the English in last night’s game against Argentina, and I suppose it was almost inevitable that both teams would play a cat and mouse game after seeing what Joachim Low’s men did to both Brazil’s national team and its national pride the previous night.

And I can’t help thinking that penalties (of the fiscal kind) will be another inevitability for the future given the UK Government’s recent announcements to “Low”er (Sorry, I couldn’t resist that) the threshold for reporting Enveloped Dwellings from £2,000,000 to £500,000.  This is part of the relatively new Annual Tax on Enveloped Dwellings regime (“ATED”)

In outline terms, the ATED rules require that high value residential property held within a corporate (or non-natural person) structure will be subject to a number of measures to combat anti-avoidance.  These range from a higher rate of Stamp Duty Land Tax (SDLT) (15%) to the Annual Tax itself, assessed by reference to the valuation band in which the property sits.

In fact, “assessed” is the wrong word to use here because the ATED tax is actually based on self-assessment.  It is up to the taxpayer, in this case most likely the property owner, to assess their liability and submit a return accordingly.  Now the vast majority of my clients will be eligible for one of the various reliefs on the basis that they are either letting the property or developing it for resale, so does that get them off the hook?

Well, yes and no.  Whilst they’ll have no tax liability they still have an obligation to file the return and that’s where penalties could come into play.  Furthermore, the return appears at first glance to be an annual return but there is in fact an additional obligation to submit an ATED return 30 days after acquiring an eligible property, or 90 days after the creation of a new property.  It’s worth adding at this point that a separate ATED Return must be completed for each individual Enveloped Property.

So back to penalties.  The ATED penalty regime is heavy – a £100 fixed penalty for being late by a day, followed by a £10 per day fine for each of the next 90 days and then a further £300 once 6 months have passed and so on.

But let’s be practical, Enveloped Properties valued at over £2m are not that common and so one could say that at present the non-compliance risk for developers and investors, who let’s face it have a myriad of other things to contend with when acquiring properties or completing developments, is not so great.

However, next year the £2m threshold falls to £1m, and the year after it falls to £500,000.  This gives an exponential increase in the number of ATED returns required, and inevitably an increase in the number of property owners falling foul of their filing obligations

And, just like all World Cup games that end up in penalties, it will seem very unfair to those on the receiving end.

 

Property owned in Corporate Structures – the net widens following 2014 Budget announcements

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I previously wrote on this blog a post suggesting that HMRC were keen to widen the net to bring more properties into the tax rules concerning residential property owned within a Limited company, or other “non-natural person” wrapper.

I did some research at that time and concluded that with property price inflation, even if the rules were not changed, the day wouldn’t be too far away before many “modestly” priced London properties were worth over £2m and therefore liable to the full range of tax measures.

I needn’t have bothered! Whilst not completely out of the blue, one of the announcements made in yesterday’s budget was the reduction of the £2m threshold to £500k for:

– the 15% Stamp Duty Land Tax on acquisitions,
– the Annual Tax on Enveloped Dwellings (ATED) charge, and
– the liability to Capital Gains Tax at 28% on gains.

The Stamp Duty Land Tax change is effective immediately, with the other two aspects following from 1 April 2016 onwards for properties worth between £500k and £2m. An interim provision will bring properties worth between £1m and £2m into the ATED regime from 1 April 2015. Current proposals are for the ATED to be set at £7,000 per annum for properties worth £1m to £2m, and £3,500 per annum for those worth between £500k and £1m.

HMRC state that these new measures are designed to tackle tax avoidance and not damage commercial enterprises. The Chancellor also states an intention to bring back into use large numbers of property currently sitting empty, and I can’t argue that that isn’t a good idea. For these reasons I would expect reliefs will be available in the same way as the current reliefs for property businesses. We’ll know more when the Finance Bill is released.

However, even though there may not be an actual tax impact on genuine property businesses, one cannot escape the fact that for many situations a Limited company is an attractive structure in which to acquire property. The regime as it currently operates is geared so that such property owners are presumed guilty of using their company for tax avoidance and liable for the taxes until they declare their innocence by submitting the annual ATED return, and claim one of the available reliefs. So that’s yet a further piece of annual compliance for the diary (together with a requirement to make various disclosures regarding values etc) and it comes with the usual threat of penalties for non-compliance.

Now, given that one-bedroomed flats are commanding over £500k in parts of London, and according to thisismoney.co.uk, 50% of London homes are worth more than £1m, this is not simply a “widening of the net” but more akin to sending a super-trawler up the Thames – and as Eric Cantona of Manchester United fame once said – “the seagulls follow the trawler because they think sardines will be thrown into the sea”!