“Treasury sticks to hard line on top-end homes” – source: Financial Times 12th December 2012
The Treasury has finally issued an element of their long awaited draft legislation in respect of the proposed changes to the manner in which “high value residential property” (those properties with a market value in excess of £2m) will now be taxed where the property in question is held within an offshore structure.
Whilst an important concession has been given to certain rented properties from both the Annual Residential Property Charge (“Annual Charge”) and a future capital gains tax (”CGT”) charge, the bulk of the original proposals remain unchanged and those affected by the changes should now be considering the suitability of their structures.
However, the draft legislation detailing the proposed CGT changes have yet to be issued, and are not expected until January 2013.
The annual charge will apply where UK residential property is held by companies, collective investment schemes and partnerships with company members, valued in excess of £2m on specified valuation dates.
The definition extends to include both foreign & UK companies and partnerships involving either, but ownership by an offshore trust is not to be included.
The Treasury has watered down their original proposals and relief will now be given where the property is “leased out in a property rental business or held for sale in a property development or rental business”. This is defined to include only those properties rented out to “qualifying persons” – broadly, individuals unconnected with the underlying
settlor/owner of a structure.
The Government has therefore made it very clear that they are targeting high value homes that are held for the benefit of the true, underlying owner (or individuals connected with the owner – broadly, other family members).
Genuine, high end residential property, commercially let to unconnected individuals will not now be caught by these provisions, as was the case with the original consultation proposals.
The original proposed charges remain unchanged and will be chargeable as follows:
Property value £2m to £5m £5m to £10m £10m to £20m Above £20m
Annual charge £15,000 £35,000 £70,000 £140,000
The first valuation date will be 1 April 2012 (or later, if the property was acquired after that date) and every 5 years thereafter.
The previous proposal for a property development business to have been carried on for two years appears to have been dropped.
Extension of capital gains tax charge (“CGT”)
The Government is also pressing ahead with the introduction of a CGT charge with effect from 6 April 2013 and the current regime will be extended to include any capital gains on the disposal of such properties where the owner is a non-resident, “non-natural” person (“NNP”).
The original proposal to include offshore trusts has now been dropped, leaving only a company (and a partnership consisting of at least one corporate partner) and a collective investment scheme within the definition of NNP.
It is worth noting that if an exemption to the annual charge applies there will also be a corresponding exemption from the CGT charge as well – ensuring symmetry between the two charges. This will be particularly beneficial to those structures holding residential property that is let to unconnected third parties.
It has also been confirmed that there will be no “special rate” as such and CGT will be applied at the rate of 28%, although it is now proposed that there will be some form of tapering relief for properties falling “just” over the £2m threshold. Further details are likely to be issued in January 2013 along with the draft legislation.
Interestingly, the Government has also taken on board the points raised about properties held long term within offshore structures, where there may be significant accrued capital gains. In that respect the new provisions will only apply to capital gains in relation to the value as at April 2013. This therefore means that all properties will be automatically rebased up to their 2013 values. Again, details are unlikely to be available until January 2013.
Whilst this is good news for properties that have been held for many years, it does of course mean that any future gains will now come into charge.
The Government has also dropped the idea of taxing capital gains arising on the disposals of shares in an offshore company that in turn holds high value residential property.
One final possible “sting in the tail” – whilst the CGT charge will apply to both UK and non-resident companies, it should be noted that the proposed rate of 28% (for a non-resident company) is significantly higher than the current corporation tax rate applicable to a UK limited company (23% from 1 April 2013 and 21% from 1 April 2014). The Government has confirmed that it will therefore consider whether to extend this increased rate of 28% to UK companies.
Whilst the above changes are on the whole, very welcome, the draft legislation still appears to be a strange lopsided attempt to legislate against their original concern – which before we forget, was to stop the mitigation of stamp duty land tax on purchase of high value property.
Strangely this concern has still not been addressed as it would still appear possible for a new purchaser to acquire the shares in an offshore company with no liability to stamp duty and then liquidate that company in order to extract the property out. Providing this exercise is done carefully, it will generally be possible to extract the property without incurring a liability to stamp duty land tax (subject to the anti-avoidance provisions of s.75A). This may get tricky where bank debt is involved, but nevertheless, with some assistance from the bank this should still not be an issue.
Whilst there could potentially be a CGT liability on post April 2013 gains, this of course would not impact on the purchaser as such as any potential liability would be reduced from the price of the shares.
That said, the scattergun approach of the original proposals will to a major extent, come into play in a little over 100 days and will have significant ramifications where UK family owned and occupied property is held through an offshore structure.
What can be done with existing structures?
All structures must be reviewed ahead of these changes. This will have to be undertaken on a “case by case” basis as structures are likely to be bespoke to the individual in question. A review will need to be undertaken to see if it is possible to restructure ahead of the changes without incurring any unnecessarily high tax costs – such as stamp duty land tax, CGT etc. In some cases it may be possible to do so in others it may not be possible.
3 options are likely to exist:
1. Do nothing (perhaps because the tax costs of restructuring will be too high),
2. Collapse the existing structure completely and hold the property personally (giving rise to a potential future Inheritance Tax (“IHT”) charge, or
3. Modify the existing structure – perhaps avoiding the annual charge but potentially leaving an exposure to a future CGT charge and IHT charge.
One thing is for certain – each exercise will be bespoke and there will be no “one fits all solution”. It may not be possible to solve all future tax issues and the optimum structure may well be a balance between income tax, a future CGT charge (if the property is likely to be sold) or an IHT exposure (if it is intended to retain the property as a long term investment).
Structures involving trust and corporate ownership
A complete collapse of such a structure could be the best solution, with the IHT exposure being dealt with separately – for example, it may be possible to secure a debt on the property or insure through life assurance.
If IHT is particularly important, and cannot be dealt with by alternative planning techniques, then it may best to simply retain the existing structure and pay the Annual Charge.
It is worth noting that where ownership is held directly through an offshore trust then the Annual Charge will not be in point and an automatic rebasing of the property will also be given. This will potentially leave an exposure to IHT at 6% on each decennial anniversary of the trust however it may be possible to mitigate this liability through bank debt.
New future acquisitions
The optimum structure for new residential property acquisitions will very much depend upon whether the property is being acquired for personal use or investment potential.
Consideration should be given to personal ownership as this will avoid the Annual Charge, a future CGT charge on disposal and the 15% stamp duty land tax charge.
Confidentiality could be protected through the use of a bare trust arrangement or a corporate nominee however care will need to be exercised in the way these arrangements are documented to ensure they stand up to HMRC scrutiny.
It may be possible to protect against IHT in a number of ways such as securing a mortgage (if borrowings are intended), the creation of a debt against the property through the use of a carefully structured trust arrangement (if no third party borrowings are intended), life assurance or split family ownership of the property.
Where the property is intended to be acquired for its investment potential (i.e. will be let out) then an offshore partnership may be an attractive alternative structure in order to secure IHT protection.
Clearly all existing structures will need to be reviewed in light of the above and, where appropriate action may well need to be taken. There is unlikely to be a “one fits all” solution and bespoke planning will need to be undertaken on a case by case basis.