IN079 - Investment in UK Property by Non-UK Residents

When non-residents of the UK or UK resident non-domiciled individuals invest in UK property, the way they structure their investment may have an enormous effect on the eventual returns.

Taxes that need to be considered are:

• Stamp duty
• Capital gains tax
• VAT
• Income tax
• Inheritance Tax

The effect of these taxes is most clearly demonstrated with a case study. The case study deals with commercial property but would equally apply to residential property which is being let commercially.

When dealing with residential property which is occupied by UK resident non-domiciled owners, there are other issues that need to be taken into consideration. Dixcart can advise on these issues, which are not specifically examined in this Information Note.

Clients should always take specific tax advice prior to making an acquisition of UK property.

Case Study

Mr. Jones was born in South Africa, but now lives in Hong Kong. Having seen the rise in the value of property in the UK, he decided to acquire a small office block in the Thames Valley corridor for £1 million.

Whilst he had a significant portfolio of shares which he did not wish to sell, he only had £300,000 cash to put towards the purchase price. He therefore borrowed £700,000 in Hong Kong using his share portfolio as security. He then subscribed for £1 million share capital in a UK company called Big Mistake Limited.

Big Mistake Limited then purchased the freehold property for £1 million.

The property was let and in the year up to 5th April, which was the first complete year of ownership, a rental income of £80,000 was received. The property was then sold for £1,200,000 to another non-UK resident.

The following are the consequences of Mr. Jones’s actions:

Stamp Duty

On the purchase of the property, Mr. Jones will have had to have paid stamp duty land tax at 4%. When he sold the building, the buyer would have had to have paid stamp duty land tax at 4% on £1.2 million, i.e. £48,000.

Mr. Jones suggested to the buyer, who was also non-resident and not domiciled in the UK, that he should buy the UK company and only pay ½% stamp duty on the purchase of the shares of the company, i.e. £6,000. He suggested that they could make an adjustment to the price so that the benefit of this saving was shared equally.

The buyer was initially keen, but after taking advice, was advised not to consider this because of capital gains tax problems.

Capital Gains Tax

On the sale of the property, the UK company would have to pay tax on the capital gain. The rate at which this would be paid is 30% as the company would be treated as a close investment company. We have ignored indexation relief, which would have been negligible for the period concerned.

The amount of tax payable on the capital gain would have been 30% of £200,000, i.e. £60,000.

Had the property been purchased through an offshore company, there would have been no liability to tax in respect of the capital gain on the sale of property as the UK does not charge capital gains tax on non-UK resident persons or companies.

VAT

When the company acquired the property, Mr. Jones was surprised that Big Mistake Limited was charged VAT at 17 ½ % on the total purchase price. Mr. Jones therefore needed to borrow a further £175,000. Whilst the company subsequently registered for VAT and was able to claim the VAT back, this took a few months to sort out and he suffered additional interest of £4,375 on the monies he had to borrow to pay the VAT.

If he had registered for VAT in good time, he could have ensured that he had a VAT quarter end that ended immediately after the acquisition of the property, thereby reducing the length of the loan.

Alternatively, it might have been possible, if the property was sold with an existing tenant, for the sale to be treated for VAT purposes as a transfer of a going concern, thereby avoiding the need to pay the VAT and then reclaim it.

It should be noted that, as a result of registering for VAT, Mr Jones needed to charge his tenants VAT. Fortunately, this did not cause a problem, as the tenant was VAT registered and was able to reclaim any VAT charged. If the tenant had not been registered for VAT, the tenant could not have reclaimed the VAT and therefore would have been unhappy with this sudden change in status.

Income Tax

Big Mistake Limited had to pay 30% corporation tax on its rental income (£80,000 x 30%), i.e. £24,000. This could have been reduced if:

• The company had borrowed the funds for the purchase of the property, rather than Mr. Jones, as interest could have been offset against the income.


• In addition, if the property was owned through an offshore company, rather than a UK resident company. This is because the rate at which tax would have been charged would have been 22%, rather than 30%.

Assuming an offshore company had been used to acquire the property and it had borrowed the £700,000 necessary to purchase the property at an interest charge of 8%, the tax charge on the rental income would have been £5,280 instead of £24,000.

Summary

By not taking advice, Mr. Jones was faced with the following:-

Actual LiabilityWhat the Liability could have been reduced toSaving for Mr. Jones
£ ££

Stamp duty 21,000 Nil 21,000
Capital gains 60,000 Nil 60,000
Interest on VAT 4,375 375 4,000
Income tax 24,000 5,280 18,720

On seeing that bad planning had cost him over £100,000, Mr. Jones had a heart attack and died.

Sadly, that was not the end of the adverse tax consequences of his position.

Inheritance Tax

Mr. Jones left his entire estate to his daughter. The value of the UK company at the date of his death, taking into account sale proceeds, rent received less all taxes, was £1,196,000.

Assuming Mr. Jones had no other UK assets, there would be an inheritance tax charge of £373,200, leaving £822,800 in Mr Jones’ UK estate, which would go towards repayment of his personal loan in Hong Kong of £700,000, with the remainder available for distribution to his daughter.

If the property had been owned through an offshore company, this liability could have been reduced to nil as Mr. Jones would have left shares in an offshore company, rather than shares in a UK company.

By lack of planning, £476,920 less was left to his daughter than could have been, had some basic advice been taken.

When using an offshore company to hold UK property, care must be taken to ensure the company is managed and controlled outside the UK.

Whilst this case study cannot take into account all matters that require consideration, it does demonstrate the importance of taking proper tax advice prior to investing in UK property.

If you would like further information on this, please call Laurence Binge in the Dixcart UK office.