As part of the plan to help pay off the Government’s debt caused by Coronavirus, the Office for Tax Simplification has proposed significant changes to Capital Gains Tax. Jeni Browne examines what this could mean for landlords and whether it’s all as gloomy as it seems.
Coronavirus has been and continues to be, expensive for the UK Government. With an estimated bill of £394 billion expected by April 2021, we know that tax is the easiest way for the Government to raise funds to repay all this borrowing. It’s little surprise, therefore, that Capital Gains Tax (CGT) is one of the taxes under consideration for reform, following the Office for Tax Simplification’s (OTS) latest report.
What is Capital Gains Tax?
Under most circumstances, when you sell an investment property which has increased in value since you bought it, you will pay tax on the ‘profit’: the difference between the purchase value and the new value. Primary residences are exempt from this tax, however, buy to let properties and second homes are not.
I say “under most circumstances” because if a landlord a) owns the property in a limited company and b) devotes 20 hours a week to tasks associated with running the investment property then they may be able to claim incorporation relief. This means that they can defer the tax until the limited company sells the property. For more information on this exemption, please seek professional tax advice.
How is capital gains tax calculated?
Currently, the CGT rate is lower than income tax levels, and the level you’re charged depends on which income tax band you fall into. Basic rate taxpayers (£12,501 - £50,000 annual income) are charged at 18%, and higher rate taxpayers (£50,001 +) 28%.
What are the Proposed Changes to Capital Gains Tax?
Essentially, the proposal from the OTS recommends an increase in CGT. Under these recommendations, the basic rate would increase to 20% and the higher rate to 40%.
How Could the Proposed Capital Gains Tax Changes Impact Landlords?
Of course, if this proposal becomes a reality, then higher-rate taxpayer landlords could be hit the hardest when selling investment property with a 12% increase. But even the proposed 2% rise for basic rate taxpayers adds up depending on how much the investment property has increased in value. While it’s certainly not a fantastic prospect, but I don’t think it’s going to be the end of buy to let investment!
Some have speculated that these changes will lead to a mass exodus of landlords; selling off their investments before the values increase further. However, I think this is somewhat short-sighted. For the majority of buy to let landlords, your properties are a long-term investment. If this proposal does become a reality, I think that it will encourage more landlords towards limited company investment, as this structure can offer more opportunity to avoid the charge. However, for those with personally invested properties, it could be another barrier, in addition to stamp duty, to “transferring” existing buy to lets into limited companies. If you are concerned about this proposal and what it might mean for your property investment plans, I would strongly recommend speaking to a tax professional about your options here.
For those that have buy to let properties as an alternative pension scheme, then there may be a more significant impact. If you intend to sell and release the capital for your retirement, then these changes could significantly decrease your projected profit. I suspect that many in this position will hold onto properties and use the rental income throughout retirement instead. I have many clients who already intend to pass their property portfolios on as inheritance, and I imagine these changes would encourage more to choose this path. Again, what decision you make here really needs to be made with an account and professional tax adviser, as they will be able to calculate the cost implications of your different options.
Ultimately, however, this is still just a proposal – and similar proposals in the past have not led to any changes. But this time it may be different. While I have no doubt many landlords, myself included, will be keeping a close eye on the developments here, I don’t believe that there’s any need to jump to conclusions just yet. However, unlike changes in Income Tax that are usually only effective from the start of the next tax year, changes to Capital Gains Tax can be made with virtually immediate effect – so take advice and be prepared to move fast if it looks like there will be significant changes. We will, of course, keep you updated on any developments here, as any changes to Capital Gains Tax will impact landlords across the UK.
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2nd December 2020