Given the recent surge in house prices, coupled with a re-evaluation of ‘life priorities’ after the upheavals of the pandemic, it may be unsurprising to hear that many people are looking to cash in and realise the gain to be made on the sale of their second home. Inevitably, these large gains can result in significant Capital Gains Tax (CGT) liabilities.
The current tax position
CGT is payable on the sale of a residential property at 28% for higher rate taxpayers and 18% for basic rate taxpayers (only on any amount within their unused basic rate band).
In line with HMRC’s long term approach to ensure that any tax liabilities are paid to them as soon as possible, it is now necessary to complete a separate CGT return within 60 days of the sale completion. Any CGT payable on the gain is also due within the same timeframe.
With over a quarter of any gains realised potentially being due to HMRC it may be worth considering what you can do to reduce Capital Gains Tax on second homes?
Does the property qualify for Private Residence Relief?
Firstly, CGT is not payable on a property which has always been used as your main residence. Individuals who own more than one property can opt to elect which property is their main residence if they are within a certain timeframe.
Although an election can be made, to qualify for Private Residence Relief (PRR) it is necessary for both properties to have been used as your main residence. This would most commonly be the case where you spend weekdays in one property and weekends in the other property.
By making an election, you can benefit from PRR, although it is important to understand that this process will result in your other property not being covered by the relief. The decision on your elected property can be changed in favour of the original property shortly afterwards, and this is often to use to benefit from the final period exemption. Historically, this exemption period used to be 36 months but HMRC have gradually reduced this to 9 months, although planning ahead in this way can still offer a significant saving if the property is only owned for a relatively small number of years.
Where you have used the property as a holiday home and the property is not your main residence, an election is not an option. We are often asked if simply moving into your second home for a period of time can qualify for tax relief for you as your main residence. Unfortunately, it is not this straightforward, although relief can apply if you can demonstrate that you intended to occupy the property as your main residence on a continued and permanent basis. It is important to remember any relief would be time apportioned, based on the length of time you have occupied the property as your main residence throughout the whole period of ownership.
Finally, it is important to note that HMRC regularly investigate the eligibility of a person for Private Residence Relief, and it is therefore important to take professional advice in respect of your position.
Is the property in joint names?
If the property is owned in your sole name it can in some cases be beneficial to transfer part or all of the property to your spouse. This can offer a saving where your spouse has not utilised their CGT annual exemption for the year, or if they are a basic rate taxpayer and pay the lower rate of CGT.
Whilst this can provide a CGT saving in some cases, there are a number of points to consider such as any Stamp Duty Land Tax that may arise on transfer, or where there is a mortgage on the property, and whether the tax saving outweighs any cost of transferring the ownership. It is therefore very important to obtain specialist advice before making any transfers.
Has the property been let as a Furnished Holiday Let (FHL)?
If you have let the property as a Furnished Holiday Let (FHL), meaning that the property was let for a large number of short periods and has met certain letting conditions in the 2 years before sale, you could be entitled to CGT benefits. A property let as an FHL benefits from Business Asset Disposal relief (formerly Entrepreneur’s Relief) reducing the CGT rate to 10%. This can apply on gains up to the lifetime allowance of £1 million or any unused amount if you have already made use of a part of your Entrepreneur’s Relief allowance.
An alternative option could be to consider letting the property as a buy-to-let for 2 years before selling, but this will depend on the nature of the property, and it is important to ensure you understand the letting requirements before doing so.
Could you realise capital losses?
In order to help reduce your CGT liability you could consider realising capital losses you have on other assets, such as investments. The losses realised can be offset against the gain in the current tax year, thus reducing your liability. Likewise, if you have capital losses which you have claimed in previous tax years, these can also be offset to reduce your liability.
Have you renovated the property?
Whilst the options set out above may not be suitable, you can still reduce your CGT liability by simply ensuring you claim all relevant expenses. These can include incidental costs in relation to the sale, any costs and Stamp Duty Land Tax you incurred when initially purchasing the property, as well any capital expenditure you have incurred by improving the property. Relief is not available on general repair and maintenance costs, but it can be claimed for costs relating to structural work such as adding an extension or changing the layout of the property.
The deduction of capital expenditure is again an area HMRC regularly look at, and we would strongly recommend obtaining advice to ensure you are claiming the maximum amount you are entitled to.
Current rate of CGT
Even with the options set out above, you may still be left with a CGT liability. However, it is worth noting that the rate of Capital Gains Tax is currently lower than it has historically been, and you may therefore choose to sell now to protect yourself against any future increase to the tax rate.
This is clearly an area the government are interested in, as the Office of Tax Simplification were asked in 2019 to review the difference between Income and Capital Gains Tax rates although the government have since indicated that there are no immediate plans to increase the current rates of CGT.
Is this the best time to sell my second home?
In summary, there a number of financial factors to consider when deciding if and when to sell a second home. Inevitably the circumstances of the sale of each property will be different, so it is vitally important to take professional advice regarding your own position. The tax team at Scrutton Bland are well placed to advise on this matter, with a breadth of knowledge and experience in dealing with sale of second homes.