Taxpayers who own more than one residence (whether in the UK or overseas) have a number of tax issues to consider in respect of the potential capital gains tax on a disposal of any of those residences. Practical advance planning in this situation can have a major beneficial impact on the amount of capital gains tax payable (now 28% reduced to 18% to the extent any taxable gain falls within the taxpayer’s basic rate band for income tax).
What is a qualifying residence?
The first issue is to establish whether or not any particular property is a residence which potentially qualifies for the purposes of capital gains tax principal private residence relief. Such a residence is a property in which an individual occupies as a home with some degree of expected permanence. (The relief can never apply to properties exclusively let by the taxpayer to third parties except in very limited circumstances where the taxpayer is required to live in job related accommodation, e.g. clergymen, army officers). Occupation does not have to be continual such that it is possible to have more than one qualifying residence available at any one time. The residence does not have to be owned by the individual so strictly a property rented by a taxpayer will qualify as a residence of that taxpayer if he/she uses it themselves as a home and this can sometimes cause difficulties in terms of capital gains tax relief if not dealt with appropriately.
Certain periods of long term non occupation (providing there is no other qualifying residence at the same time), in particular when the taxpayer resides in job related accommodation (up to four years), is working overseas (unlimited periods) or for any other reason (up to three years) are ignored. Short term periods of non occupation, for instance in respect of holidays, are also ignored and the last thirty six months ownership of any residence which has qualified for relief at some point in time always qualifies for relief for that last thirty six months irrespective of whether the property is occupied in that thirty six months or not.
If a property is acquired with the intention of renovating it and selling it on quickly for a profit, HM Revenue & Customs may seek to deny principal private residence relief as there was no intention of using the property as a residence with a degree of permanence even if the individual moved into the property while renovating it. Moving into a property while it is being marketed for sale is also unlikely to make that property a residence with a degree of permanence as there will be insufficient intention of staying on a longer term basis. It is even possible for HMRC to seek to tax any such gains as income (rather than capital gains) although this is unlikely for one property renovation and sale. If an individual carries out a serial number of property purchases, renovations and sales, a liability to income tax (and Class2/4 National Insurance contributions) will almost certainly arise, especially where such transactions are undertaken by anyone associated with the construction industry.
More than one residence
As detailed above, it is possible to have more than one residence at any one time. The obvious examples of this are a holiday home (as long as it is used as a residence at some point from time to time) or a residence near a place of work used for part of the week with another residence elsewhere for the rest of the family. Typically this would be the house in the country for the family and the apartment in the city occupied during the working week.
Once it is established that there is more than one qualifying residence, it is necessary to establish which residence qualifies for principal private residence relief. Only one residence can qualify for principal private residence relief at any point in time (except that relief is automatically available for the last thirty six months of ownership of any residence which has been a principal private residence of the taxpayer at some point in time irrespective of whether any other residence also qualifies for relief in the aforesaid thirty six month period). Husbands and wives (or civil partners) living together can only have one qualifying residence between them. If no election is made (see below) then relief is given to the principal (main) residence based upon the facts of the case. Relief is unlikely to be attributed to a holiday home as there would be another residence which would be the principal residence. Likewise relief is also unlikely to be attributed to the residence near the place of work if the family live at the other residence and the individual also resides there for the weekends and holidays.
Electing to designate the principal residence
The default principal residence may not be the most tax efficient choice (especially if that residence is rented), and under certain circumstances it is possible to elect an alternative principal residence. An election can only be made within two years of a change in circumstances. A change in circumstances generally is an increase or decrease in the number of residences held by the individual but note that a reduction from two residences to one is not a relevant change. The election can be varied at any time, once made, and is valid as long as there is no further change in circumstances (at which point the election is automatically revoked and the default position reverts unless a new election is made).
On the acquisition (or within two years thereafter) of a further residence (or disposal of a residence as long as at least two residences remain), it is likely to be worthwhile to elect (if no such election has previously been made) to make the residence that will not otherwise qualify for principal private residence relief the elected principal residence. It is then possible to vary the election shortly thereafter (say a month later) and reinstate the original residence as the elected principal residence. The effect of this election is to exempt one month and the last three years of any gain on the second residence from capital gains tax, at the cost of one month’s loss of relief on the principal residence. The HMRC guidance on this strategy, set out under reference CG64510, includes an example of the procedure and this is attached for your attention.
If a non UK domiciled taxpayer has a residence outside the UK, care needs to be taken in respect of any election or default position as any gain on the foreign residence may not be taxable in the UK if the remittance basis is being used.
An election must be in writing, signed by the individual (and, if relevant, their spouse or civil partner) and sent to the tax district of the individual (and that of their spouse or civil partner, if different). Note that confirmation by HMRC of receipt of an election does not mean that it has been accepted that such an election is valid. It is simply an acknowledgement of receipt and the validity of any election will only be considered if tax is at stake (i.e. when a disposal is made).
Transfers between spouses and civil partners (while living together) do not create a change in the number of residences and cannot be used to create the conditions necessary to make an election. However, in certain circumstances a transfer between spouses and civil partners can be beneficial. The rules in this respect are complex and specific advice to suit individual circumstances will be needed.
A major consideration as to whether or not to make an election (other than for a short period as outlined above) is the potential appreciation in value of each residence, the likely gain that will arise on each, and whether any residence is likely to be sold in the foreseeable future, in particular the next three years.
Once a residence has been established as a principal private residence (even if only for a very short period via an election as detailed above) a supplementary relief is available to exempt certain gains (up to £40,000 per taxpayer) attributable to periods when the property was let either partially whilst occupied or fully during a period of non occupation by the residence owner.