Tax Articles

Tax benefits of joint ownership
         By Carl Bayley BSc ACA

As property prices continue to rise, the barrier to entry for new investors is getting steadily higher. The solution for many is to join together with other investors and pool resources in order to achieve the 'critical mass' necessary to get started in the increasingly competitive UK property market.

But how exactly do you pool your resources together? Some form of 'Special Purpose Vehicle' (aka "SPV") is often the answer.

In this article, we will take a look at some of the legal and tax implications of a few of the more popular forms of 'SPV' currently in use.

Joint Ownership

The simplest way to invest in property with other investors is joint ownership. Whilst this is not really an 'SPV' as such, it is certainly worth us giving it some consideration here. In England and Wales joint ownership can take the form of a 'joint tenancy' or a 'tenancy in common'. The key difference between the two is the fact that a 'tenant in common' owns, and consequently may sell, his or her own part interest separately, whereas 'joint tenants' jointly own one single and indivisible legal title in the property and can only sell it together.

Joint ownership in Scotland takes a different legal form which, in practice, is more like a 'tenancy in common'. English or Welsh readers investing in Scotland should note that they will be subject to Scottish property law on any properties which they purchase North of the Border, regardless of where they reside themselves. (Make sure you get a Scottish lawyer!)

Another key feature of a 'joint tenancy' is the fact that, on death, a joint tenant's interest passes automatically to the other joint tenant or tenants. This severely restricts the joint tenant's ability to undergo any Inheritance Tax planning since the joint tenancy itself overrides the terms of a Will or a Deed of Variation thereto. (Normally, a deceased's beneficiaries may use a Deed of Variation to vary the terms of their Will within two years of the date of death.)

Where the joint owners are a couple or another combination of family members, the prospect of shares in the property portfolio passing by survivorship may still be acceptable despite the potential drawbacks for Inheritance Tax planning. In a more commercial situation, however, where the investors are more akin to business partners, 'joint tenancy' is unlikely to be suitable and it will generally make more sense to invest as 'tenants in common'.

Another practical drawback to joint ownership is the fact that, in England and Wales, legal ownership of a property title is restricted to a maximum of four people. Where five or more investors join together, this will create some practical difficulties. Whilst these difficulties are not insurmountable, things do begin to get a little messy and the legal fees will start to mount up.

One thing that many people overlook is the fact that the joint owners of property do not need to own it in equal shares. Any combination of interests (totalling 100%) is possible with the aid of a competent lawyer!

For Income Tax and Capital Gains Tax purposes, the joint owners of property are usually taxed only on their own share regardless of the form which the joint ownership takes

Joint owners who are not a legally married couple may agree to share rental income in different proportions to their legal ownership of the property (perhaps because one of the investors is carrying out the management of the jointly held portfolio). The Income Tax treatment should follow the agreed profit sharing arrangements. It is wise to document your profit sharing agreement in order to avoid any dispute, however.

A legally married couple are in a different situation. Their joint property income is deemed to be received equally – i.e. 50/50. They may, however, choose to follow the proportion given by their legal title in the property if they elect to do so before the beginning of the relevant tax year. Often, however, the 50/50 treatment provides opportunities for tax saving and will therefore be left in place.

For Capital Gains Tax purposes, each joint owner will be taxed on his or her share of the gain arising. Where any reliefs or exemptions are available, such as Principal Private Residence relief, for example, these are given on an individual basis and not by reference to the property as a whole.

Example

Hector and Miss Kitka jointly own a property which they bought together in April 1999. They sell it in April 2005, making a total gain of £120,000, or £60,000 each. The property was Hector's house (i.e. his Principal Private Residence) from April 1999 to April 2000. Since then, it has been rented out to various other tenants.

Hector is entitled to Principal Private Residence relief of £40,000 on the property (4 out of his 6 years of ownership are exempt – the last three years ownership of a Principal Private Residence are always exempt in addition to the actual period of residence). His remaining gain of £20,000 is covered by Private Letting relief, leaving him with no taxable gain.

Miss Kitka, however, has never resided in the property and therefore receives no Principal Private Residence relief and no Private Letting relief. She will be able to claim some taper relief and perhaps her annual exemption, but she will still have a sizeable taxable gain. The fact that the property was once Hector's Principal Private Residence is of no help to her whatsoever.

Partnerships

Moving on a step from joint ownership, the next structure to consider is a property investment partnership.

In many ways, the partnership simply combines joint ownership with the type of profit sharing agreement which we referred to above.

However, a partnership is considerably more flexible, as, subject to the terms of the partnership agreement, partners may join, leave or change their profit share at any time.

In Scotland, a partnership is a legal entity and may own property directly itself.

In England and Wales, however, a traditional style partnership is not a legal person and hence may not own legal title in property. This problem is generally circumvented through the use of nominees. Hence, between two and four of the partners will usually own the partnership's property as nominees for the partnership. For legal reasons, it is wise to ensure that there are at least two nominee interests – a single nominee could claim to own the property outright!

Since the year 2000, a new legal entity has been available throughout the UK – a Limited Liability Partnership, or 'LLP' for short. Like a Scottish partnership, an LLP is a legal person and may own property directly.

Each partner is taxed on his or her share of rental income and capital gains, as allocated according to the partnership agreement.

One major drawback to property investment partnerships, however, is the danger of incurring Stamp Duty Land Tax charges at frequent intervals. Since 22nd July 2004, Stamp Duty Land Tax has been payable whenever a partner:

Introduces property into a partnership,
Takes property out of a partnership, or
Reduces his profit share.
In the case of a reduction in profit share, there must be some consideration given for the transaction concerned (cold comfort, as there usually will be, even if only accounted for via the partners' capital accounts – which is enough to trigger the charge).

Example Part 1

Dave has been in a property investment partnership with four friends, Dozy, Beaky, Mick and Tich, for several years. The five friends each have a 20% profit share. Dave would now like to retire and wishes to leave the partnership. The partners agree that, by way of consideration for giving up his partnership share, Dave should take the property known as 'Dee Towers' with him. Dee Towers is worth £1,000,000.

Dave already had a 20% share in Dee Towers through the partnership so he is treated as acquiring an 80% share, worth £800,000, when he leaves the partnership. He will therefore face a Stamp Duty Land Tax charge of £32,000! (4% x £800,000)

Example Part 2

A short time later, Mick inherits £1,000,000 from his great aunt Shirley. He decides that he would like to invest this in the partnership. At the same time, Tich has decided that he would like to retire and wishes to sell his partnership share. Mick therefore buys Tich's 25% partnership share for £1,000,000, thus increasing his own share from 25% to 50%.

Immediately prior to Mick's new investment, the partnership had a property portfolio with a total gross value of £20,000,000 and borrowings of £16,000,000. Whilst the partnership's net assets are only £4,000,000, the Stamp Duty Land Tax charge is based on its property portfolio's gross value.

Mick has increased his profit share from 25% to 50%. He is therefore treated as having acquired a 25% interest in property worth £20,000,000. Hence, Mick will be faced with a Stamp Duty Land Tax bill of £200,000!

(This figure is arrived at as 25% of £20,000,000 charged at 4%.)

By and large, therefore, anyone using a property investment partnership should try to get their profit shares right in the first place and do their utmost to avoid changing them at a later stage.

Note: A straightforward cash investment into the partnership will not incur any Stamp Duty Land Tax charge. Hence, if Mick had simply put £1,000,000 into the partnership, rather than buying out Tich's share, he could have avoided the Stamp Duty Land Tax charge whilst still increasing his profit share to 40%. (40% x £5,000,000 = 50% x £4,000,000 = £1,000,000 already held plus £1,000,000 invested.)

Companies

Another useful method for a number of people to invest together is to use a property investment company.

Using a company has a number of advantages, including the low Corporation Tax rates applying to profits. (19% to 30% in most cases, depending on the size of the company.)

Those same low tax rates apply to capital gains on property disposals too, although companies have far fewer reliefs available to reduce their taxable gains.

Subject to some anti-avoidance rules, the shares in a property investment company can change hands for a Stamp Duty charge of only 0.5%, which represents a considerable saving compared to the rather draconian 4% applying to property investment partnerships as we have already seen above. Furthermore, the charge on company shares would be based on the actual consideration paid for those shares and not on the gross value of the underlying properties.

Example Revisited

As above, Mick is investing £1,000,000 in a property investment business which owns a property portfolio with a gross value of £20,000,000 but has net assets of only £4,000,000. This time, however, he is purchasing shares in a property investment company. His Stamp Duty liability will therefore be only £5,000. (Compared with Stamp Duty Land Tax of £200,000 in the previous example.)

The lesson here is clear – if you and your colleagues are likely to want to change profit shares with any degree of frequency whatsoever, a company is likely to be much better than a partnership.

The main drawback to using a property investment company, however, is the additional tax which generally arises when the investors withdraw profits from the company, either by way of dividend or by winding the company up. This is a subject which we have covered in detail in previous articles but the main point to note is that a company is usually of little benefit to the investor if all or most of its profits are being withdrawn in the early years of the investment.

Syndicates

The term 'syndicate' is a very loose one. When you join a property syndicate, you may, in fact, be investing through any one of a number of structures (or SPV's), including those which I have already outlined above, Unit Trusts (either UK or Offshore) or a much more loosely defined Joint Venture agreement.

The best that I can say is that you should find out exactly how your syndicate is structured and take your own independent legal and tax advice on it.

As with any other kind of investment, you need to be very careful who you trust with your money!

Carl Bayley is the author of several Tax Planning Guides available from www.taxcafe.co.uk including "How To Avoid Property Tax", "Using A Property Company To Save Tax" and "How To Avoid Inheritance Tax" - See Below. Carl also frequently lectures on the subject of property taxation and has spoken on the subject on BBC radio and television.



Top Ten Tax Deductions
         By Carl Bayley BSc ACA

Sometimes these days it seems like the World has gone 'Top Ten' crazy. Everywhere you look, there's a 'top ten this' and a 'top ten that'.

Not to be outdone, I present here my 'Top Ten Tax Deductions'. I must admit that there is no statistical basis for my chart rankings, but I have based my list on 20 years of experience in dealing with small businesses.

1. The Car

Sole traders and business partners may claim a proportion of their car's running costs, including petrol, insurance, road tax, repairs and maintenance, based on their annual business mileage. Sadly, your regular home to work travel doesn't count as 'business use' for this purpose.

On top of all the running costs, you can also claim capital allowances on the car at the lower of £3,000 or 25% of the car's 'written down value' each year. The car's 'written down value' is the amount you paid for it less the amount of capital allowances you've claimed on it previously.

For a new car, you get a full year's allowance in the year of purchase, even if you buy it on the very last day of your accounting period. You will usually also get a balancing allowance when you sell your old car. So, changing your car regularly makes good sense for tax purposes!

All your capital allowances must be restricted to your 'business use' proportion in the same way as your running costs.

Company owners face a choice regarding their car.

If their company owns the car, they can claim all of it's running costs plus capital allowances, as described above, but without any restriction to the 'business use' proportion. The price of this is that they must then pay Income Tax and Employer's National Insurance Contributions on a 'Benefit in Kind' equal to somewhere between 15% and 35% of the car's purchase price when new. The total annual tax cost for a company car bought for £30,000, for example, may be as much as £5,544.

On the other hand, if the shareholder/director owns the car personally, they may claim mileage expenses from the company at the rate of 40p per mile for the first 10,000 miles of business travel each tax year and 25p per mile thereafter.

These mileage claims are tax deductible for the company and tax free in the director's hands.

The best choice in each individual case will depend on the director's own personal circumstances. One thing which is pretty clear is that it is almost never worthwhile allowing the company to pay for the director's private fuel costs as this can lead to an extra tax cost of up to £2,661 per annum.

2. Your Home

The owners of most small businesses will work from home at least occasionally, even if just to do the paperwork sometimes.

In these cases, the taxpayer may claim an appropriate proportion of his or her household bills as a business expense, including heating and lighting costs and council tax.

Here the proportion is generally based on the number of rooms in the house, excluding bathrooms, toilets, kitchens and hallways.

Example

David's house has one large living room downstairs, a kitchen, a bathroom, two bedrooms and a small box room.

David keeps some of his business paperwork in the box room and tends to spend one evening most weeks sorting it out. There is also a camp bed in the box room, which is used by house guests about twice a year.

David could justifiably claim around 24% of his household bills as a business expense. This is because he uses one room out of four for business purposes about 95% of the time.

3. Your Family

Sadly, you cannot claim for the cost of supporting your family.

However, there is a way to claim deductions for the support which your family gives to your business. If any member of the family does any work for your business, you may pay them an appropriate salary and claim it as a business expense. Be imaginative – if your wife takes business calls on your house phone then she's working for the business!

If the recipient has no other income, you will be able to pay them up to £4,895 this tax year without any Income Tax or National Insurance costs arising.

4. Making The Most Of Travel and Subsistence

Let's suppose you need to go to Paris on business and stay there overnight.

You could take a cheap flight, slog your way into the city from Charles de Gaul by train and metro and grab a quick bite at McDonalds. Cheap, not cheerful and fully allowable.

Alternatively, you could travel first class by Eurostar, move around the city by taxi and dine at Maxine's. Not cheap, much more cheerful and still fully allowable.

The point is, when you're away on business, your travel and subsistence costs are fully allowable and it's none of the Revenue's business how much you want to spend.

As a result, having a slap up meal while you're away on business will often end up costing you only half as much as the same meal at home. So, why not treat yourself? The Government's sharing the bill!

5. Childcare Costs

There are now some very generous tax reliefs for childcare costs.

For example, if you run a crθche at your company's premises which is available to all employees' children, the cost will be tax deductible and there will be no taxable Benefit in Kind for you if your own children use it.

6. Telephones

Sole traders and partnerships can claim the cost of business calls on home phones and mobiles. Line rental can also be claimed where it is purely a business line.

Director/shareholders may claim reimbursement for the cost of business calls made form home phones.

Your company can also buy you a mobile phone without any taxable Benefit in Kind arising.

7. Loans and Overdrafts

Generally speaking, interest costs which you incur personally are not usually allowable, whereas interest on overdrawn business accounts and loans is deductible.

The best strategy from a tax standpoint therefore, is to borrow within the business rather than personally.

8. Pension Contributions

As long as you stick within the relevant contribution limits, you should be able to get tax relief for pension contributions which you either make personally, as a sole trader or partner, or which your company makes on your behalf.

This will extend to contributions for any family members working in your business.

9. Decorating the Office

The cost of decorating your business premises will be allowable.

This could extend to items such as paintings and antiques which your use to decorate areas which will be seen by customers and the general public. You will need to make a business case for the expenditure, and larger items will only attract relief under the capital allowances system, but, nevertheless, the scope exists for some significant deductions to be claimed.

10. Staff Parties

The cost of staff parties and any other form of staff entertaining is usually deductible. Typically, this will cover the Xmas party or annual dinner.

As long as the annual cost of any staff functions is kept under £150 a head, there will be no taxable Benefit in Kind for the employees either. This allowance can be used to exempt one or more functions each year, the total cost of which does not exceed £150 per head.

In Conclusion

I have tried to list some of the most common types of deduction available to almost any kind of business. As I said before, however, be imaginative – almost anything which you can demonstrate has been purchased for business purposes will qualify for some kind of deduction. Most of us wouldn't be able to claim for reindeer food, for example, but Santa Claus can!

Carl Bayley is the author of several Tax Planning Guides, including Bonus Versus Dividends, his guide to tax efficient company profit extraction, How to Avoid Property Tax and How to Avoid Inheritance Tax. Carl also frequently lectures on the subject of taxation and has spoken on BBC radio and television