The Concept of Property Tax in the UK - Essay Example

Property Tax Part A A house owner while purchasing or selling his home, has to pay the following taxes in UK ly Capital Gains Tax, Stamp Duty Land Tax, Inheritance tax, Yearly tax on Enveloped Dwellings. The incidence of tax on an individual will be depending upon the house owner’s tax status and will be footing upon whether he is a UK resident or not for tax objectives1. In UK, an individual who is owning a single property which is his main home need not any capital gain tax (CGT). If the value of the property has appreciated since he purchased that property, even then, he is not obligated to pay any CGT if he disposes of his main property, and he is entitled to pocket the whole profit as tax-free2. Stamp Duty Land Tax (SDLT) - This is generally payable while purchasing or selling of land or property in the UK if the amount crosses certain limits. “SDLT Thresholds & Rates” Transfer / lease premium / purchase price value SDLT Rate For up to £ One lakh and twenty-five thousands 0 From £ One lakh and twenty-five thousands to £ two lakh fifty thousands 1% From £ Two lakh fifty thousand one to £ Five lakhs 3% From £ Five lakhs one to One million 4% Since, David’s property costs £505,000, he is liable to pay SDLT at 4%3. Assuming that David is having more than property in UK, assuming that David new property at 12, Mudchute Court is second property owned by him or one of the many properties he owned, then, for reducing his capital gain tax, he can claim the following as a deduction from the capital gains earned on the disposal of 12, Mudchute Court namely fees paid to solicitors, all professional fees paid to estate agents, Stamp Duty Land Tax (SDLT) and expenses incurred for improving the property. Further, as David lived in the new property bought for few weeks, he can term it as “principal private residence” to avail exemptions between properties he owned as he is planning to sell it after two years. However, David has to establish some corroborations that he lived there for some time albeit even it is for short-term. If David resided in that house even for some weeks in the new property which should be his second or one of the many properties owned by him, which facilitates him to write off the past three years of capital gains when David decides to sell it after two years. Thus, David should elect the new property as his residence and should inform the Income-Tax Authorities within two years of purchase of 12, Mudchute Court. It is to be noted that the choice can be changed by the David if he wants to select some other property he owned. If he fails to inform about his “ principle private residence “ to tax authorities , then , he would be losing his chance to claim exemption from capital gain taxes under the above scheme4. It is to be noted that just living in the property for avoidance of capital gain taxes can prove to be costlier to David as held in Court of Appeal in HRMC5 case where the defendant employed an intricate chain of derivative transactions to minimise capital gain tax on £10.7 m. The court opined that any “Ramsay principle” employed to float false schemes to circulate money in an attempt to avoid tax will be held as invalid6. David can claim” taper” relief if he owns the new property for 3 years and then sells it. By doing this, he can avail additional 5% tax cut in his capital gains and a further 5% tax cut for each year of his owing the property with a maximum of 40% after 10 years7. Section 223 of the Capital Gains Act stipulates any individual who has used the property for some time and later, let out the same, can claim up to £40000 as “letting exemption.” As David lived in the new property for few weeks, he can claim a further allowance of £40000 to set off the capital gain. It is advised that David can buy the property in the joint name of his wife so that both David and his wife are eligible to claim £ 80000 (£40000) each. Thus, joint owning the property by David and his wife will facilitate them to claim £80,000 as allowance to set off against the capital gain earned8. Further, David and his wife, as a joint-owner can claim an additional annual CGT allowance of £ 9200 thereby facilitating a married couple to claim an allowance of £ 18,400 from profits earned due to sale of property as tax-free. If David wants to claim on solo basis without adding his wife, then, he is eligible to claim £ 9200 as allowance9. David can a claim deduction for the mortgage rent paid him assuming that if he has taken a loan for the purchase of 12, Mudchute Court property and thus minimise his taxable income. He can employ the “mortgaged up” process where the landlords supposed to employ interest-only loans where the capital is not repaid. As there is no requirement to strip the capital repayment element of the mortgage which is not tax deductible from the interest cost , David is advised to use the interest-only borrowing as it makes the filing of tax returns much easier. Likewise , David can claim renovation expense spent on 12, Mudchute Court to refurbish it before sale from the capital gain tax to be payable10. (1082 words) “Answer to Part B” Since Betty’s Crocus Cottage is worth about £900,000, since the value is more than the threshold of £325,000 under the inheritance tax limit , Betty’s legal heir (Amanda) or estate administer has to pay inheritance tax at 40% on the Crocus Cottage value of £900,000. To avoid this, Betty can make a gift of her property to daughter Amanda and in such cases, the property will be exempt from inheritance tax after Betty’s death. However, for this, Betty has to live for 7 years and if she dies earlier, then, the property will be subject to inheritance tax. This is known as “Potentially Exempt Transfer”. It should be noted that if Betty attaches any conditions while making the property as a gift to Amanda, or if Betty is deriving benefit continuously from her property after making gift, then, in such case, the gift would not be exempted from inheritance tax11. If Betty after making gift of the property to Amanda wants to keep an interest in the property like continue to reside the property without paying rent to Amanda, then, such gift will be considered as not a potentially exempt transfer. The normal charging rate for inheritance tax is at 40%. However, if Betty dies between three and seven year after making the gift, then “Taper Relief” will be applicable. The following is the Taper relief reduction rates12: The time gap between the date of death and the date of gift made Taper Relief percentage applicable to the tax owed “Three to Four Years “ Twenty percent “Four to Five Years “ Forty Percent “Five to Six years “ Sixty Percent “Six to Seven Years “ Eighty percent “Above Seven years” One Hundred Percent Betty can still reside in the premise provided that if she creates an adequate record that she has paid a nominal or notional rent to Amanda, her daughter, to stay in the house. Another form for minimising tax incidence is to create a trust thereby transferring the Crocus Cottage for the benefit of Amanda. Gifting the property may still be subject to Inheritance Tax as Crocus Cottage value is over £ 900000 which is higher than the minimum threshold of £ 325,000. In recent court case, Mr. Wild established a discretionary family trust to make sure that his property was transferred to his widow, Susan, 79, his son Ian and his daughter Julia, in the most tax-efficient style. In this case, Wild employed a special legal arrangement known as a trust, instead it as a will, a way of transferring his property to his family after his death. This devise is often employed to minimise an inheritance tax burden for the surviving spouse. In this case, Wild’s son attempted to stop of his mother receiving any of her Wild’s estate. However, the relationship between the mother and the son broke out as she had removed her son out of her own will. The son declined to extend his support to his mother for being paid her £500,000 her share of assets within the trust. Ian used his veto right over transfer of assets from the trust to any one of the beneficiaries as the trust deed required unanimity among trustees for flow trust funds out of the trust. The court in 2013 removed Ian from the trust and held in favour of Susan and Julia to manage the trust13. Thus, discretionary family trust is being employed as “a beneficial inheritance tax planning mechanism. By employing discretionary trust , Betty can keep the property intact by placing them in a trust as the trust property will be exempted from the IHT (inheritance tax) and Betty can also keep control over the assets during her life time rather than gifting the asset to Amanda14. Betty can employ a legal devise called as a carve-out as pronounced legal in St. Aubyn case15, where the right to future income from the Betty’s property can be “ carved-out” before Betty’s property placed into a trust, and this does not fall outside the reservation rules16. By employing the home reversion schemes, Betty can sell a share of her property to the scheme provider for the consideration which is less than market value prevailing at that time. When Betty dies or shift into long-run care home and if the part of the property is disposed of, and the scheme provider receives the same percentage of share of whatever Betty’s property sells for as repayment. For instance, if Betty disposes of fifty percent of her property to the service provider, and she would get about 50 percent of the sale consideration price17. Betty should make a discretionary trust where Amanda will be main beneficiary and may appoint her solicitor as another trustee to administer the trust. Betty can make a “letter of wishes “to the trustees explaining how Betty wants the trust assets to be shared. Betty should instruct her solicitor that her letter of wishes’ forms part and parcel of the trust deed. A trust is normally is wound up within the twenty-four months of Betty’s death and under the law, the trust can survive up to 125 years. When a trust is wound up, the assets are divided as per the wishes of Betty, which is stated in the trust deed18. (1002 words) “Answer to Part C” In UK, the Stamp Duty Land Tax (SDLT) was introduced in April 2011, which imposes 5% duty on the purchase of residential property for the residential property with the value of more than £ 1 m. Though SDLT is a tax on land transactions and will also be levied if anyone purchases a leasehold or freehold interest in any property. The incidence of SDLT is also arise when purchase consideration is paid for the purchase of property or land despite the fact, whether that purchase price is paid by cash or consideration in kind or for the provision of any services. Presently, the highest rate for SDLT on home or residential property is 5% if the sale consideration exceeds £1 billion19. However, in case of mixed property or non-residential property, as in the case of purchase of a farm with a mixture of non-residential and residential features, 4% will be charged as SDLT where the purchase consideration surpasses £500,000. One of the legal ways to minimize SDLT, which is often perused is the sub-sale scheme. It is an artificially formulated scheme so that SDLT is paid very less than what it is due to be paid and in some occasions, it might be amounting to zero or nil amount. Sub-sale relief is a tax planning initiative where A consenting to dispose of a property to B who in turn accepts to sub-sell the same property to C. It is typically functioning by discharging the transfer from A to B from SDLT, so that SDLT is paid only once on the total amount of consideration by the individual who finally buys it. Sub-sale relief schemes’ are frequently claimed to be a legal and viable planning mechanism. Majority of these schemes’ avail the benefits of the provisions in the SDLT regulations which widely known as “sub-sale relief.” Though, sub-sale relief cannot be regarded as an aggressive SDLT minimising mechanism but many individuals are using this tool over the past years, mainly by abusing the loopholes in the SDLT regulations to minimise or wholly avoid paying SDLT so that SDLT is paid only one time on the whole amount for the property disposed of by the individual who finally buys it20. Sub-sale relief worked in favour of individual buyers or seller very well before 2007 as in 2007, some anti-avoidance rules were introduced. HRMC initiated its first SDLT avoidance case to the tribunal and is repeatedly challenging SDLT avoidance schemes. Individuals who are using this tool are relying upon the fact about HRMC not detecting, and this happens to be a highly risky strategy. With the effect from 17 July 2013, the sub-sales rules were amended by HRMC so as to make them more effective and to put an end to their manipulation through different SDLT avoidance schemes. In Vardy case21, misuse of sub-sale relief through an avoidance scheme was successfully challenged by HRMC22. Another strategy is that employment of corporate form either through an UK company or through an offshore company to buy the property where it does offer potential advantages in the second time sales onwards but not in the first-time purchase. A company-owned property can be transferred by transferring the majority of its shares to the buyer by paying just 0.05% stamp duty or no stamp duty at all in case of offshore companies. Under this strategy, a buyer of residential property can save up to £ 90000 by buying the property owned by a company through the transfer of shares instead of buying it directly. It is to be observed that employing a company to buy a residential property and the directors of that company residing in that property for some time may result in significant income-tax charge which is likely to overshadow any savings through SDLT. One another method is to attribute the part of the consideration for the purchase of property to chattels and some other assets not liable to tax provided that the amount accredited to these properties assets do not surpass their real value23. Chattels usually not form part of the furniture and fittings in a property but anticipated to form part of the property namely the boiler or light switches. Chattels are not attached to the property and could be shifted away easily like white goods, beds and sofas. In Orsman case24, it was claimed by the HRMC that worktops that were fixed on the batons and mounted on walls cannot be regarded as chattels and the tribunal consented with the views of HRMC and the plaintiff was asked to pay an additional stamp duty amounting to £5024 for the chattel used in the property which he previously not included in the calculation of SDLT25. In Project Blue Ltd26 case, it was held by a tax tribunal that employment of the SDLT avoidance scheme under which the plaintiff, the property developer employed a sub-sale and substitute finance arrangements to circumvent the payment of taxes on the purchase of property in London. As per HMRC, the outcome of the above case would really impact about two dozen analogues commercial cases and about 900 mass market residential property case, with a collective £135 million tax in dispute. The aforementioned plaintiff now witnesses a higher tax bill than it would have paid if it not entered into the SDLT avoidance schemes. HMRC found that the plaintiff should have paid a higher SDLT had it not employed avoidance schemes27. (1012 words) Bibliographies Books Adams R, Capital Gains Tax Planning 2011/12 (2011 edition, A&C Black 2011) Bien M, Sorting Out Your Finance (2nd edition, John Wiley & Sons 2011) Gifford, Understanding Act of Parliament (First edition, Cavendish Publishing 1996) Harris, T & Wunschmann-Lyall, I, Core Tax Annual: Capital Gains Tax 2011/12. (2011 edition, A&C Black 2011) Johnson T & Hart C, The Stamp Duty Land Tax Handbook (2nd edition, Taylor & Francis 2014) Jowsey E, Real Estate Concepts: A Handbook (First edition, Routledge 2014) King J & Carey M, Personal Finance: A Practical Approach. (First edition, Oxford University Press 2013) Knight J W, Probate, & Inheritance Tax for Dummies. (2nd edition, John Wiley & Sons2011) Rayney P, Tax Planning for Family and Owner-managed Companies 2013-2014 (First edition, A & C Black 2013)12.26 Sanders S, Tax Aspects of the Purchase and Sale of a Private Company Shares (22nd edition, Bloomsbury A & C Block 2013) Schoenblum J A, Estate Planning Forms and Clauses (2012 edition, LexisNexis 2012) Sims S, Understanding and Paying Less Property Tax for Dummies (UK edition, John Wiley & Sons 2011) Spencer P, Property Tax planning (13th edition, Bloomsbury A & C Block 2012) Journal Articles Attanasio O, Leicester A, & Wakefield M, ‘Do house prices drive consumption growth? The coincident cycles of house prices and consumption in the UK.’ (2011) 9(3) Journal of the European Economic Association 399-435. Boadway R, Chamberlain E, & Emmerson C, ‘Taxation of wealth and wealth transfers. Dimensions of tax design’ (2010) The Mirrlees review 737-814. Websites Dyson R,’ Landlord Tax Crackdown “gets serious’ accessed 15 August 2014 Evans R, ‘Can a Trust Really cut your inheritance tax bill?’(The Guardian 16 June 2013)< http://www.telegraph.co.uk/finance/personalfinance/tax/10121532/Can-a-trust-really-cut-your-inheritance-tax-bill.html> accessed 16 August 2014 Maccallum S, ‘It is possible to avoid stamp duty on land and property?’ < http://www.boodlehatfield.com/the-firm/articles/is-it-possible-to-avoid-stamp-duty-on-land-and-property.aspx> accessed 15 August 2014 Outlaw.com, ‘Tax Tribunal Ruling against SDLT avoidance scheme could ensure payment of £135m tax, says HMRC’< http://www.out-law.com/articles/2013/july/tax-tribunal-ruling-against-sdlt-avoidance-scheme-could-ensure-payment-of-135m-tax-says-hmrc/> accessed 17 August 2014 Case Laws HM Revenue & Customs (HMRC) v Howard Schofield Vardy Properties [2012] UK FTT 564 (TC) Orsman v HMRC Project Blue Ltd v HMRC 2013 St. Aubyn v Attorney General [1952] Read More