Landlord Taxation - Another Pitfall?

19 October 2016

In July a number of new clauses were added to the finance bill without any kind of consultation on how profits from trading and investing in UK land will be taxed. The bill received Royal Ascent on 15th September 2016. The new clauses have effect for property disposals on or after 5th July 2016.

The problem arises from the wording of the legislation, profits from the disposal of UK land will be treated as trading profits and subjected to income tax and national insurance rather than capital gains tax if any one of four conditions are met, the conditions from the legislation as enacted are:

Condition A is that the main purpose, or one of the main purposes, of acquiring the land was to realise a profit or gain from disposing of the land.

Condition B is that the main purpose, or one of the main purposes, of acquiring any property deriving its value from the land was to realise a profit or gain from disposing of the land.

Condition C is that the land is held as trading stock.

Condition D is that (in a case where the land has been developed) the main purpose, or one of the main purposes, of developing the land was to realise a profit or gain from disposing of the land when developed.

It is hard to see how any landlord or potential landlord acquiring a property would not be caught by Condition A.

When the legislation was introduced the following comments were made in parliamentby David Gauke:

This measure is targeted at those who have a property building trade; it does not impact the tax profile for investors in UK property.

Despite this statement the legislation does not include such a let out, as such The National Landlord Association (NLA) took the further step of seeking clarification from HMRC. They received a response from Mark Carnduff of HMRC's capital taxes division which stated:

'HMRC considers that generally property investors that buy properties to let out to generate property income, and some years later sell the properties, will be subject to capital gains on their disposals rather than being charged to income on the disposal.’

The letter went onto state that there are exceptional cases in which the gains will be charged to income tax, these are:

‘where the investor decides to undertake development prior to sale. In this case the profit on the developed part, from the date the decision to develop for sale, will be trading income.

where the investor sells the land in a contract with a 'slice of the action' clause allowing them to benefit from future development of the property. In this case the 'slice of the action' profit will be taxed under the new legislation.’

The letter stated that these profits would already have been taxed as income under the existing legislation.

Sadly I see this as little comfort. Having worked in tax for over 20 years it is the wording of the legislation that matters, not statements or guidance that come out of HMRC.

Whether the profits from the disposal of a property are subject to capital gains tax as an investment, or income tax and national insurance as trading income has long been a common area of dispute between taxpayers and HMRC.

Before these changes HMRC had to argue that ‘The badges of trade’ were present to sufficient enough an extent to allow them to treat a property transaction as a trade.

Now all they need to do is show that one of the main purposes of purchasing a property was to realise a profit on the eventual disposal of the property.

In the current climate I fail to see how the government and HMRC will be able to resist the temptation to exploit landlords further and collect additional revenues on the disposal of their properties.

Based on the new legislation and the contents of the letter to the NLA I would also voice concern that any work done by a landlord prior to the disposal of the property that enhances it’s value will subject the gain, or at least the part of it resulting from that work, to income tax and national insurance, this could also make the landlord a contractor subject to the requirements of the Construction Industry Scheme (CIS).

Failure to meet your obligations under CIS, which include but are not limited to deducting tax from payments made to subcontractors and making monthly returns to HMRC, can lead to hefty monthly penalties which could already be at the maximum level by the time the failure comes to light.

I hope I am wrong and we can for once rely on the stated intent of the legislation.

If you require any assistance with this or any other tax matter please contact us or get in touch today by calling 0203 039 3993.

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