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Capital Gains Tax

Capital Gains Tax (CGT) is applicable whenever you sell or otherwise dispose of real estate in the UK (e.g. lease, exchange or give away) other than your principal home.

If you build a home or renovate a property and plan to sell it when the work is completed, to avoid paying CGT it must be your principal home (i.e. you cannot own another ‘principal’ home in the UK) and you must usually occupy it for one year before selling it (there’s no fixed period).

If you let part of your principal home to someone who isn’t treated as a member of the family (i.e. who doesn’t eat with the family or share the family rooms), you may have to pay some capital gains tax when you sell it. For more information see the Inland Revenue booklet Letting and your home (IR87).

Second Homes or Investment Property

If a property was acquired before 31st March 1982, no capital gains tax is usually payable. When you sell a second home purchased after 31st March 1982 and make a gain that’s above your annual CGT allowance – £8,200 in 2004/2005 – you’re liable for CGT. However, if your second home qualifies as a furnished holiday letting and you re-invest the proceeds of a sale in another qualifying property within three years, you can avoid CGT. If you’re married, you can share ownership with your spouse and you both qualify for the annual CGT allowance. If you pay tax at the higher rate and your spouse is a basic-rate taxpayer, it makes sense for her to own a second home or the lion’s share. You can also elect your buy-to-let home as your principal residence, although you must live there for a period (evidence is required), whereby your last three years of ownership become CGT-free and you also benefit from lettings relief of up to £40,000.

CGT is payable at your highest rate of income tax (companies pay corporation tax at their normal rate) and liability must be included in your income tax return. However, you can deduct expenses incurred during the purchase (including legal fees and mortgage arrangement costs) and sale, plus the cost of improvements and maintenance during the period of ownership. You may also qualify for indexation allowance and/or taper relief. Losses from other assets can also be offset against gains made from a buy-to-let.

Indexation Allowance

This is an allowance that adjusts gains for the effects of inflation up to April 1998. The value of a property purchased after 31st March 1982 and before 1st April 1998 is adjusted for the increase in the Retail Prices Index (RPI). After 1st April 1998 a new taper relief system was introduced and this may also apply to disposals after this date. When a property is disposed of, its cost is adjusted for the increase in RPI between the date of purchase and its sale, and the adjusted cost is deducted from the net sales proceeds to arrive at the gain or loss. This calculation is termed the indexation allowance (RPI tables are provided). This is a complicated subject and you should ask a tax office or accountant for help in making the calculation.

Taper Relief

Taper relief reduces the percentage of a gain on which CGT is payable, depending on how long you’ve owned a property before disposing of it. On 6th April 1998 a new taper relief system was introduced which applies to assets disposed of on or after this date:

• Non-business Assets – The percentage of capital gains payable on non-business assets reduces to 95 per cent after three years and to a maximum of 60 per cent after ten or more years.

• Business Assets – A property used for letting qualifies for
business taper relief, which is more generous than non-business taper relief. When you’ve owned a property for one year, only 50 per cent of a gain is taxable and after two years, three-quarters of any gain on its sale is exempt from CGT. If your second home is classed as a ‘furnished holiday letting’ it qualifies as a business asset.

For more information about taper relief, see Inland Revenue helpsheet, Taper Relief (IR279).

Multiple Homeowners

If you have two (or more) UK homes, living part of the year in one and part in another, you can choose (elect) which is your principal residence for capital gains tax purposes, but you must live in it some of the time (you can also elect a buy-to-let property as your principal home). It’s best to choose the one on which you think you will make the largest profit as your main home. You should inform the Inland Revenue of your choice of principal home within two years of buying a second home, otherwise they may decide which property is your main home (although you can change your mind at any time afterwards).

Your choice of main residence for capital gains tax purposes doesn’t affect your choice for council tax purposes. The cost of improvements made to a property can be offset against CGT, but not repair and maintenance. An unmarried couple can legally own two ‘principal’ homes, whereby each claims a property as his or her main home, but if they get married only one home qualifies as a principal home (the other becomes a second home and is liable for CGT).

If you live in a home for a number of years and also let it for a number of years before selling it, the Inland Revenue looks at the total gain from the date of the purchase to the date of the sale. It then divides the gain in proportion to the years the property was used as a principal residence (which are exempt from CGT) and the years it was let (for which CGT is payable). For example, if you owned a property for ten years and let it for three of those ten years, CGT would be payable only on three tenths of any gain (provided you occupied it for the other seven years).

The Inland Revenue (08459-000444, ww.ir.gov.uk) publishes a number of leaflets about capital gains tax, including Capital Gains Tax (CGT1), most of which are available via its website.

© Survival Books Limited 2005

“Buying, Selling & Letting Property” 2nd Edition, David Hampshire.
Reproduced with the permission of Survival Books Limited.

Further information on this topic can be found in “Buying, Selling & Letting Property” 2nd edition, by David Hampshire.

For extensive, annually updated information about buying, selling and letting property, you can purchase this book at www.survivalbooks.net

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