Expat U.K. Property Investor? What They Didn't Tell You!

Property prices in the United Kingdom fell for the eighth month in a row in January according to the Halifax the mortgage lender. Yet there is still a buoyant rental market giving good returns as demand for good rental properties is high throughout the UK. This investment opportunity with falling UK property prices and buoyant rental income is attractive for those who chose to diversify. However, investing in the UK comes with price tags attached such as stamp duty, inheritance tax and income tax on the rents. It is important to be clear of the ‘price tag’ before committing a large investment of this sort. A UK property purchase decision should also encompass consideration of the following important factors:

1. Stamp duty imposed on the purchaser on properties purchased in excess of £125,000
2. Income tax deductions at 20% on net rental income by the agent or tenant under the non-resident landlord scheme;  
3. Capital gains tax exemption implications; 
4. Inheritance tax at 40% on UK situated assets for foreign domiciled individuals where the value of the property exceeds the £325,000 nil rate band.

Stamp duty

Stamp duty land tax (SDLT) is payable by purchasers of UK property in excess of £125,000 which means that most people investing in good quality properties in London could be paying anything between 4% and 7% for properties over £500,000 and above.

Following the recent UK anti-avoidance legislation a stamp duty saving scheme of transferring expensive London properties into offshore companies/trusts to avoid tax does not work and existing schemes came under scrutiny for an ‘annual charge’ tax. Now, on properties over £2 million, a 7% SDLT charge applies or a 15% rate if into an offshore company. Also an annual charge is to apply to residential properties valued over £2 million held within the "envelope" of a company or other non-natural person.  The annual charge starting at £15,000 per annum up to £140,000 per annum will encourage those who own expensive UK properties within a company to take it out of the envelope. Also there is a potential capital gains tax charge too, see CGT below. However, there are exclusions applying to the charge which commences on 1 April 2013.

Rental income

Rents need to be collected and it is preferable to have a good letting agent rather than rely on the tenant to deduct tax and account for it to the UK Revenue! An agent will charge between 10-15% of gross rents and will ensure that rental income is collected and void periods are limited, cover defaults insurance and ensure maintenance costs are kept to a minimum. The agent will also account to the UK Revenue the tax that is required to be paid quarterly under the Non-Resident Landlord scheme. In some cases exemption can be applied for under the NRL1 (individual landlords) and NRL2 (companies) but in most cases tax will be payable on net rents at 20%.

Capital gains tax (CGT)

The non-residence of the Malaysian landlord is key to avoiding UK CGT and providing this is the case the capital appreciation on sale will not be taxable. UK residents have CGT to pay on investment property gains of 18% or 28%.  However, there are already provisions under the Taxation of Capital Gains Act 1992 which attribute gains of certain non-resident companies to UK participators, or under which settlors or beneficiaries of non-resident trusts can be charged to tax on gains accruing to Trustees.  It would be sensible to consider very carefully whether a UK property portfolio should be held in either an offshore company vehicle or offshore trust or a combination of both that was previously the norm.

Inheritance tax (IHT)

This is by far the worst potential tax implication of investing in UK property because the tax rate can be 20% for lifetime gifts of property or 40% for gifts on death. Foreigners owning UK properties are not excluded from UK IHT because UK situated property is taxable at the rates mentioned even for non-domiciles. A nil rate band applies to each person of £325,000 so if a London property is valued on the owner’s demise at £1 million the estate will have to pay IHT of £270,000 within 6 months of the death! There may be the opportunity to pay this tax by 10 yearly instalments but unless the property is being left to a spouse it could be that it may have to be sold to pay the tax. If there is a loan for the purchase of the property then this will be deducted from the value of the property before the charge to IHT is applied.

Where UK property is held jointly (not tenants in common) then the need for probate is avoided but this still does not exclude an inheritance tax return being submitted. In this connection a UK Will should be drawn up that passes on the property to the intended beneficiaries rather than have a Malaysian Will ‘resealed’ under the Colonial Probates Act 1892.

 Action plan

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•       Target for higher capital growth and/or rental income e.g. London and South East England vs central and Northern England.
•       Appoint solicitor and letting agent who are respectively familiar with drawing up purchase agreements for non-domiciles and non-resident landlord rental withholding tax.
•       Consideration of a IHT free trust to cover the tax payable when the Malaysian owner passes on.
•       Non residence is maintained to ensure CGT exemption. The UK residence rules are changing from 6 April 2013.

EXAMPLE

A purchaser wants to invest £1 million in UK property for capital appreciation and rental income. The purchase of a London property would give capital appreciation of about 6% p.a. but incur SDLT of 5% i.e. £50,000. Rent on the property could be expected to be £2,500 per month. Instead he purchases 10 properties in the North East of England for £100,000 each paying no SDLT as all are under the £125,000 SDLT threshold. Rents could be about £350 per month each. Two years later he is offered £130,000 for three properties. He then gives one property to his son studying in Leeds at University. The purchaser passes on three years later leaving the remaining properties to his son each valued at £150,000. No SDLT is payable on the gift or where property is transferred by Will.

The net rents received would be taxable at 20% but if he had purchased one London property which made a loss because of, say, void rental periods or excess maintenance it could only be relieved in future years. If any of the ten properties made a loss that loss could be set against the income from the other properties in the current year before tax is applied.

 The gains on the sales of the three properties would be exempt from CGT provided that the purchaser was non-resident.

The gift to his son of the Leeds property is covered by £130,000 of his nil rate band so the tax liability on his demise will be £282,000 (£900,000 – (325,000 – 130,000) x 40%).

Jon Golding ATT TEP former tax author is UK Tax and Trusts adviser with PI Ltd, Kuala Lumpur. Contact jongoldingtax@gmail.com Tel: +6012 287 1550