Property Investors

Incorporating properties into a company – CGT and SDLT

simon

Simon Misiewicz

15th September 2018

We will answer your questions about incorporating residential properties into a limited company

As property accountants, we are regularly asked questions about Companies House. We will look to answer the below questions in this article.

– Is it worth putting property into a limited company?

– Can you gift a property to a limited company?

– Can you move residential properties into a limited company?

– What is involved when looking to incorporate buy to let properties into a limited company?

– What tax issues might you face when moving properties into a limited company?

– Do you have to pay Stamp Duty Land Tax (SDLT) when incorporating property into a limited company?

– Will there be a Capital Gains Tax (CGT) liability when moving residential property into a limited company?

– How much will to cost to move properties into a limited company?

Section 24 mortgage interest relief cap means that you are likely to pay more property tax

You may be interested in our main article on Limited companies and tax structures. You may also be interested to know how more about our property tax services to help you buy and rent residential properties in a more tax-efficient way.

We have written an article that shows what Stamp Duty Land Tax is and how it is calculated. You may wish to calculate and save the SDLT liability.

I’ve previously written an extensive article that demonstrates that many people will pay more tax on their property portfolio. UK landlords will pay more property tax is because of  Section 24 mortgage interest relief cap, which was announced in 2015. There were a number of changes that reduced the costs that could be offset against your property income, including:

– The restriction of mortgage interest relief to 20%

– Removal of the 10% wear & tear allowance

We discussed in another article how the impact Section 24 mortgage interest relief cap could be mitigated.

If you are a higher rate taxpayer then you will pay a lot more tax. If you have an income of circa £20K with mortgage interest costs of circa £40K then you could be moved from being a basic rate taxpayer to a higher rate taxpayer. It may be worth considering transferring your property portfolio to a limited company.

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Tax considerations when selling residential property to a limited company?

Many clients ask the question -“Can I sell my house to my limited company?”. The simple is yes of course. When you sell a property to a limited company there are issues around:

– Capital Gains Tax (CGT) that you will have to pay. This is the difference between the market value and the price that you paid for the property.

– Any Stamp Duty Land Tax (SDLT) costs that will be incurred by transferring the properties into a limited company. Again I have already written an article on this

– The redemption penalties that you will incur by paying off your existing Buy To Let mortgages early

– The solicitor fees incurred by transferring the properties into a limited company

– Any additional accountancy fees of running the limited company

– Any additional interest that you are likely to pay by using a commercial mortgage for your limited company over and above the buy to let (BTL) rates that you pay when holding properties in your own name

– The additional arrangement fees that you will pay using a commercial mortgage

Example of how UK landlords will pay more property tax because of Section 24 mortgage interest relief cap. 

For the purpose of this article, we are going to name my client John to protect his identity.

John earns £35,000 from his employment income and £5,000 from his property portfolio. He does not think that he will be affected by the budget changes because he is not a higher rate taxpayer. But he is wrong because this is how his property business is illustrated:

£45,000 property income

£35,000 mortgage interest rate costs

£5,000 other costs

£5,000 profit

John’s tax liability would have been £5,880 in the pre-budget announcement world. Now, with the budget changes, his tax will increase by £6,523 because of Section 24 mortgage interest relief cap.

Before the tax changes, mortgage interest was subtracted from property income before tax was calculated. Under the new system, tax will be calculated on the property income before mortgage interest costs are subtracted, then a rebate of 20% of the mortgage interest will be added back. So John’s taxable income jumps from £40,000 to £75,000 and he has thus taxed a much higher proportion of his income.

If John was to buy more properties, then he would also pay 40% tax on any further profit that he makes.

In 2015-16 the higher rate taxpayer band kicks in at £42,836. Under the new rules, that is the point at which John would be paying 20% more tax on the paper profits even though in reality he is making less than £42,386. Our property accountants have been helping their accountants have been working with their clients to ensure that the impact of Section 24 is minimised. Clearly one of the areas of focus has been to transfer properties into a limited company.

Mitigate Capital Gains Tax when incorporating residential properties into a limited company

You will be liable for CGT based on the profit you have made when transferring the property into a limited company, regardless of the price paid by the company. Even if you gave the property to the company for £0 you will be deemed to have transferred the property at market value.

For example, Mr A transfers his property for £0 to his limited company

– £200,000 deemed market value of a property

-£100,000 cost of property

– £100,000 taxable gain

Some time ago our property accountants wrote an article about incorporation relief referencing a specific case “Ramsay v HMRC (2013)“.  HMRC insisted that a couple should pay CGT because they transferred their properties into a limited company.

Mrs Ramsay demonstrated that she and her husband spent at least 20 hours per week on their property and as such proved that they were in fact in business.

Judge Roger Berner said in the appeal hearing: “I am satisfied that the activity undertaken in respect of the property, again taken overall, was sufficient in nature and extent to amount to a business for the purpose of s162 TCGA. Although each of the activities could equally well have been undertaken by someone who was a mere property investor, where the degree of activity outweighs what might normally be expected to be carried out by a mere passive investor, even a diligent and conscientious one, that will in my judgment amount to a business. I find that was the case here. For the reasons I have given, I allow this appeal.”

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Mitigate Stamp Duty Land Tax when incorporating properties into a limited company 

Here is an example of where there will be no SDLT charge benefitting from the Parntership[ Act 1890 law.

A partnership of A and B has relevant partnership property including a commercial unit and various shareholdings in several limited companies. The commercial unit has a market value of £1.5 million subject to an outstanding buy to let mortgage debt of £500,000 and the shares have a market value of £180,000.

C joins the partnership paying £300,000 for a 25 per cent share.

HMRC states that the liability will be based on the consideration given less the excluded amount.

Firstly we need to establish the net market value of the chargeable interest:

– MV – SL

– MV = £1.5 million

– SL = £500,000

Net market value equals £1 million.

As C was not a partner before the transfer this will be equal to the partnership share he acquired, i.e., 25%.

The excluded amount is therefore:

25% x £1m = £250,000

To establish consideration for SDLT purposes we look at the consideration passing less the excluded amount:

£300,000 – £250,000 = £50,000.

This will be the consideration for SDLT purposes.

As the SDLT consideration is less than the 0% threshold, if a certificate of value at £125,000 is included in the instrument, the SDLT liability is nil. This doesn’t take into account the 3% SDLT surcharge implemented in 2016.

In reading the provisions of Sch 15 FA 2003 it is necessary to distinguish between the actual consideration given for the acquisition of a partnership interest and the “chargeable consideration”. This is because it is the “chargeable consideration” that determines the extent of the SDLT charge on the acquisition.

Buy to let mortgage lenders and their view of the property incorporation process

A number of people are stating that you do not need to inform your mortgage companies when incorporating.

Buy to let mortgage products are not regulated by the Financial Conduct Authority (FCA). As such the banks will lose out if you move the properties into a limited company without telling them. Do you think they will be impressed? The mortgage interest costs are typically higher if you have properties in an incorporated business. They will also be looking for some sort of administration fee to transfer the properties into a limited company.

Some lawyers and accountants are suggesting that the banks will not do anything because you are paying the mortgage. Banks can make more money from other clients nowadays compared to you. This is especially the case where you have a buy to let mortgage of less than 4% interest. Do not give them a good reason to pull the mortgage out from under your feet.

We discussed how property investors may reduce Stamp Duty Land Tax in another article.

A step by step guide of how to incorporate your properties into a limited company via a partnership Act 1890

The below step by step guide will help you understand the process of benefitting from the incorporation relief when moving buy to let properties into a limited company. The below complies with the requirement of the Partnership Act 1890.

1) Complete the Partnership

 – Online registration if you have a government gateway login: SA400 and SA401’s and then send to HMRC. HMRC will then provide a Unique Tax reference code for the partnership.

 – Forms if you do not have a government gateway login: SA400 and SA401’s and then send to HMRC. HMRC will then provide a Unique Tax reference code for the partnership.

2)  Prepare a partnership agreement (we recommend utilising the support of a solicitor in drafting this important document). This document needs to outline the amount of capital contributions as well as the flexibility each year to allocate profits based on the efforts put into the partnership (as you see fit). You and the solicitor need to ensure that the partnership agreement and arrangement is watertight to ensure it does not fall into HMRC’s definition of “Sham partnership” (just to avoid tax.

3) Submit 3 years worth of self-assessments for the partnership. Please note that any property revenue losses upon incorporation (ie those you can use to offset in the year) will then be lost as they cannot be offset against partnership profits.

4) You will need to work with your mortgage broker/banks to arrange finance in the limited company to replace existing mortgages. This may take some time so it is best to start this process nine months in advance of the incorporation date

5) Once 3 years worth of partnership accounts has been produced it is now possible to incorporate the property business into a company. The share allocations will be based on the capital contributions from part 2 to ensure that there are no CGT/SDLT issues.  The share values will be based on the net assets of the partnership.

6) You will need to work worth us/your solicitor to agree on what you do with the “Directors loans” and any Latent Gains for Capital Gains Tax purposes. This is based on the mortgages in place that are greater than the original acquisition costs of the property portfolio. This is otherwise known as a capital account.

Mortgage editor's comments

Partnership incorporation, in compliance with the Partnership Act 1890, is a great way for a buy-to-let property investor to transfer their portfolio into an SPV limited company. It’s becoming a hugely popular way of mitigating tax – especially for investors whose buy-to-let incomes have pushed them into the higher-rate tax payer band.

Incorporation is a lengthy process, which must be executed correctly in order to reap the rewards. You’ll need to work with a property tax expert to set it up – so why not our friends at Optimise?

Here’s what you’ll need to do:

– Find out if you meet the rules around partnership incorporation. The expert property tax consultants at Optimise can review your circumstances and identify if your investment process is a good fit for partnership incorporation.

– Find out if you meet the criteria for incorporation-friendly mortgage lenders. The SPV mortgage specialists at SPV Company Mortgages can help with this bit; using our extensive knowledge of the property finance market to connect you with the right lenders.

There’s a few more steps needed to complete your transformation from personal investors to an officially incorporated partnership – but rest assured, you can let Optimise and SPV Company Mortgages take care of all the rest.

And once the process is complete, you’re free to enjoy the most tax efficient buy-to-let property ownership structure available in the UK today.

Get in touch with our team at SPV Company Mortgages to start your partnership incorporation financial journey now.

https://www.limitedcompanyspvmortgages.co.uk/contact-us/

How much does it cost to incorporate your buy to let properties into a limited company?

There are a number of costs that you need to consider when thinking about incorporating your buy to let properties into a limited company.

Many of our clients that have been through the incorporation process have paid between £8,000 and £25,000 in legal and finance fees.

Legal fees

There are solicitor conveyance costs that need to be paid. Solicitors will draw up partnership agreements and perform the conveyance of your properties from your personal name into a limited company.

Conveyance solicitors will also provide legal advice of h0w to go through the incorporation process.

Finally, conveyance solicitors will send the Stamp Duty Land Tax (SDLT1) forms to HMRC, which are used to show the tax paid.

Buy to let mortgage redemption penalties

Incorporating a property into a limited company also means paying off the buy to let mortgage in your own personal name. Paying off a buy to let mortgage early could result in a penalty. This financial penalty is often referred to as a redemption penalty. The reason why this penalty arises is because you paid off the buy to let mortgage early. The banks in question will lose on the mortgage interest costs that you signed up to on your mortgage terms and conditions.

Buy to let mortgage arrangement fees

Not only will you have to pay a buy to let mortgage redemption penalty but you may also have to pay a mortgage arrangement fees. This fee will be paid as your limited company will be getting a buy to let mortgage in place to buy the property.

Mortgage broker fees

The mortgage broker will also need to be paid. They will be working on your behalf to pay off the existing mortgages and put in new buy to let mortgages in the name of the limited company.

Of course tax

We have already talked at length about the various forms of tax that you may have to pay. We have also demonstrated many ways in which UKL landlords may mitigate the various forms of property tax when looking to incorporate their property portfolio into a limited company.

Is it really worth incorporating your buy to let portfolio into a limited company?

There are many advantages of incorporating a buy to let property portfolio into a limited company. However, as you can see from the above that there are a number of costs associated with this process.

You will need to weigh up the initial costs of incorporating your buy to let portfolio into a limited company and the tax benefits that you may benefit from in the future.

You will initially have the high costs of the incorporation process to gain from the tax savings benefits in the future.

This means that the process of moving residential properties into a limited company may not be cost effective in the early years.

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