Here we are in the brave new world of higher Stamp Duty Land Tax (SDLT) rates for certain residential property purchases. As from 1 April 2016, anyone buying an additional UK residential property, such as a second home or buy-to-let, faces paying a surcharge of 3% above the standard SDLT rates (see my blog of 14 January 2016 for further details of the changes as they were announced in the Autumn Statement 2015).
UK residential property remains a popular investment class for many people who already own their own homes, so are there any planning opportunities?
Parents who want to continue to purchase residential properties and have children who do not yet own any could still benefit from standard SDLT rates on their purchase by using a trust. The legislation effecting these SDLT changes, in the Finance Bill 2016, provides that, if a property is purchased by trustees, the beneficiary of the trust will be treated as the purchaser for the purposes of the higher SDLT rates if the terms of the trust entitle the beneficiary either to occupy the property for life or to receive any income earned in respect of the dwelling. Accordingly, parents wanting to purchase an additional residential property jointly for up to £650,000 (or worth more, but with a mortgage to cover the excess) could transfer funds into a trust of which one or more of their children (or grandchildren) are the life tenants. Unless the life tenant child is disabled, £650,000 is the limit in order to avoid an Inheritance Tax (IHT) charge on funds passing into trust. The parents’ gifting history over the past seven years should be carefully reviewed as it may be necessary, or prudent, to put in less than £650,000 in order to avoid immediate or possible future IHT charges.
If the property purchased by the trust is a second home, the child will have the right to occupy that home under the terms of the trust. If it is a buy-to-let instead, the rental income is the child’s. This may not be suitable for all but, if the parents’ main interest in the property investment is to benefit from the gain after the property is sold, as well as retrieve their initial investment, then the trust can be made to measure for this purpose, by ensuring that the trustees (who may well be the parents themselves) are given powers to transfer trust capital to themselves.
Parents should understand that, if they can potentially benefit from the trust in this way, the property in the trust will still be taxable to IHT on the death of a parent, with no spouse exemption available. Life cover written in trust may provide an affordable answer to this issue, if it is of concern. Also, the trust will be settlor-interested for Income Tax purposes, so the net rental income from the buy-to-let property will be taxed as theirs, not the child’s (although they will be entitled to a tax credit for the tax paid by the trustees).
The practicalities of owning a property through a trust must not be overlooked. The trust must permit non-diversification of trust assets, must allow parents as trustees to benefit themselves as beneficiaries and disallow the anti-trustee self dealing rule – any old life interest trust deed will not do! Thought must also be given to how the trust will pay for repairs to and maintenance of the property – inadvertent additions to the trust by the parents personally paying for capital repairs to the property can have tax consequences. Some ongoing professional advice will inevitably be needed to keep the trustees in step with their fiduciary duties and in compliance with their annual tax obligations, where the property generates rental income. The costs of these must be factored in, of course.
If that all sounds like a lot of effort, consider the bottom line. Parents wanting to purchase a £650,000 additional residential property for investment will pay £42,000 under the new higher SDLT rates. Using a trust to purchase the property instead, as outlined above, will save £19,500 of SDLT, as the SDLT liability falls to £22,500. This is a classic example of how trusts can provide a solution to what could become a common problem for any family who wants, or needs, to own more than one residential property.