Property Incorporation Update – Tax Implications

Property Incorporation

Ever since the government announced plans in 2015 to restrict the tax relief on buy to let mortgage interest for individual investors, the hot tax topic for those affected has been the prospect of transferring properties into a limited company. Could property incorporation become a possible option for you?

Without wishing to go over old ground, the main issues that arise for those considering this option are usually:

  • Capital gains tax (CGT) – a transfer to a company would normally be a deemed disposal for tax at current market value, something that more often than not triggers significant CGT liabilities.
  • Stamp duty land tax (SDLT) – likewise the acquisition by the company would normally trigger SDLT calculated at market value.
  • Refinancing – the need to replace existing borrowings which are often at advantageous interest rates that can no longer be replicated in today’s lending market.

We have written a great deal about possible solutions to these issues but today I just want to focus on a practical problem that has arisen over recent months regarding the CGT issues arising on property incorporation.

Many of you will know that in order to incorporate without creating a CGT liability, we need to apply the provisions of section 162 of the Taxation of Chargeable Gains 1992 – referred to as “incorporation relief”.  One of the main conditions for incorporation relief to apply to a transfer is that the property portfolio in question must constitute a “business” in its own right.

Unfortunately what is or is not a business – as opposed to a simple investment – is often not clear cut.  There are a wide range of factors to consider but in the main, these consider the level of activity undertaken by the “business owners”.  Passive investment is unlikely to be a business whereas active management likely is.  Of course in the real world the line between those is often blurred. This is why we need to examine different factors of whether property incorporation may or may not be the best choice.

Scale is a factor – a portfolio made up of dozens of buy to let properties is likely to require a high degree of active input and thus is probably a business.  A portfolio of one or two – probably not.  But when the potential downside risk of huge CGT liabilities is at stake, few people are happy to rely on “probablies” from their advisers.

The solution therefore was always to apply to HMRC for a clearance under their non-statutory clearance procedure.  Under that procedure, you could write to HMRC setting out why you believed a particular portfolio met the threshold to qualify as a “business” and HMRC would typically write back with their view, often agreeing.

In recent months however, there has been a dramatic shift in policy.  For reasons we can only speculate over – perhaps as a deterrent to taxpayers thinking about incorporation or just as likely because there is insufficient manpower available to deal with the sudden and dramatic increase in incorporation relief clearance applications – HMRC has taken to refusing to deal with non-statutory clearances in this area.

Their justification is always the same – that the non-statutory clearance process is designed to deal with areas of uncertainty in tax legislation and the question of whether there is a business doesn’t constitute an uncertainty! Personally I can’t think of anything more ambiguous and in need of clarification but try as we might – and believe me, we have tried very hard – we can’t move them from this position. It seems to be hard policy that isn’t negotiable.  The fact that for years – and indeed for months after the announcement of the new rules on interest relief – they were providing clearances seems to cut no ice whatsoever.

This new policy – rightly or wrongly – has put a massive obstacle in the way of those buy to let investors that for whatever reason delayed thinking about incorporation.  Anyone in that position now seems to be faced with an impossible choice.  Either swallow the huge increases they face under the new interest regime or take a chance that HMRC will not disagree that the portfolio is a business and drag them through a long, difficult, stressful, expensive and potentially disastrous tax enquiry in an area where despite their expressed view that there is no uncertainty, no one can say for certain what the outcome will be!

If you own properties and are unsure of whether you need to register a management company with HMRC, feel free to contact Barry on or 020 8418 2663. It could be that property incorporation may be a valid option for you, but it is always best to speak to an accountant to help you determine whether your investment can be considered as a business under HMRC.

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