What‘s the most tax efficient structure through which to own investment property?
Are you a high rate tax payer with surplus cash, looking to invest in property?
Do you already own several investment properties and are you sure you have the most tax efficient ownership structure? Are you growing a personal portfolio where a corporate solution would be more tax efficient?
Investment property can be owned through four different structures; personal ownership, ownership by an investment company, trading company or pension scheme and all have varying impacts upon your clients tax position.
Although tax is a significant consideration for most, other factors also affect this decision. These factors include the convenience of running the structure and the ease with which the property can be passed on.
That said, if tax is your major concern there are generally four main types of tax to consider. Tax on income (including corporation tax), capital taxes, inheritance tax and stamp duty land tax.
Personal ownership
If you buy investment property with a mortgage and you own it personally, capital repayments of the mortgage will need to come from income that has suffered up to 50% income tax.
Investment company
If a company owns the investment property it pays corporation tax on the rent usually at 20%. If the property is held personally, the company option is favourable only if the individual is a higher rate tax payer (40 or 50%). Thus up to 80% of the rent is available to fund capital repayments of the mortgage rather than 50 or 60%.
As far as capital gains are concerned, historically the corporate route was perceived as disadvantageous. If the company was wound up and the property sold, it would trigger a capital gain within the company. However when the company itself was then sold, there would be a capital gain on the sale too.
Today, the scale of this disadvantage is reduced as personal capital gains tax is now 28% for higher rate taxpayers, and corporate capital gains remain at only 20% (if income and gains do not exceed £300,000 in a year).
Trading company
Many clients see investment property as a pension fund. The funds might have come from trading activities. The properties can be acquired within the company avoiding the costs of extracting funds. At retirement clients could decide to sell off the trade but not liquidate the company. The company is now cash rich and can continue to act as an investment company, whether property or other investments, paying out dividends within the basic rate tax bands, generating no tax liability and no additional tax obligations.
Pension fund
A formal pension fund is a particularly tax efficient way to own the property. However, it is restricted to owning commercial property and cannot invest in residential property.
So, what is the most tax efficient structure through which to own investment property?
Accepting that we are generalising and that we are considering residential property, using an investment company will make a client better off from an income point of view and will not necessarily be a disadvantage when properties are sold. Furthermore, it may be possible to operate a trade through the company that will give business property relief for inheritance tax purposes even though the bulk of the value remains in the investment property.
Finally passing on shares in a company is often more controllable (reducing the scope for family friction) than giving shares in individual properties.
As ever, circumstances and future plans are unique to each client and tailored advice should always be sought. If you would like to speak with us on this subject, call Graham Buckell on 01332 365855 or email grahamb@batesweston.co.uk. You may also find our information on the Buy to Let residential market of interest.