Sale of a second home or investment property – Reporting the gain and paying the tax

Unlike a gain on the sale of a main residence, which qualifies for private residence relief (as long as the associated conditions are met), any gain that arises on the sale of a second home or an investment property (such as a buy-to-let property) will be liable to capital gains tax. Since 6 April 2020, different rules apply to residential capital gains as compared to gains on other chargeable assets.

Report the gain

Residential property gains not covered by private residence relief must now be reported to HMRC within 30 days on the date of completion. To do this, it is necessary to set up a Capital Gains Tax on UK property account on the Gov.uk website and use this to report the gain. However, if the gain is reported on a self-assessment return before the end of the 30-day limit, the gain does not also need to be reported via the online service.

A penalty of £100 is charged for a failure to report the gain within 30 days.

Pay the tax

A payment on account of the tax due on the gain must also be made to HMRC within 30 days of the completion date. This is the best estimate of the capital gains that is due at that point in time. To calculate the amount due, the following should be taken into account:

• the annual exempt amount (unless already used on a previous property gain in the same tax year);
• any losses realised prior to completion (unless already utilised on a previous capital gain); and
• the likely rate of tax – this will be 18% if total taxable income and gains for the year are less than the basic rate band and 28% to the extent that they exceed this. The gain is treated as the top slice when working out which tax band it falls into.

Payment can be made online via the taxpayer’s Capital Gains Tax on UK property account. Interest is charged if the tax is not paid within the 30-day window.

The overall capital gains tax position for the tax year will depend on other disposals in the year. If other disposals are made in the year, the position is recalculated after the end of the year on the self-assessment return. Any additional tax falling payable must be paid by the normal capital gains tax due date of 31 January after the end of the tax year. If the eventual liability for the year is less than the amount paid on account in respect of property gains, a repayment of the excess will be made. A repayment may arise if, for example, a loss is made on  shares following the disposal of the property.

Practical tip

When selling a second home or an investment property, remember to work out the capital gain and to report it to HMRC and pay the associated tax within 30 days of the completion date.

‘Normal gifts out of income’

The Oxford English Dictionary defines the word ‘normal’ to mean ‘conforming to a standard; usual, typical, or expected’. A minor, often misunderstood inheritance tax (IHT) gift exemption uses this definition of ‘normal’ whereby payments made (however large) are deemed to be inheritance tax-exempt transfers. To succeed, it needs to be shown that the payment represents part of the donor’s normal (‘usual’) expenditure taking one year with another and a ‘normal standard of living’ is subsequently maintained by the donor.

The donor needs to be left with enough net disposable income after tax to live on after making the gift without resorting to drawing on his/her capital to see through the month. The amount could be based on a formula or a calculation but importantly, a pattern of regular giving needs to be in place. The gift does not need to be made every year – there is no magical formula but there needs to be a clear commitment in place.

Gifts that can fall under this exemption include:

• monthly or other regular payments;
• regular gifts e.g., for Christmas and birthdays, or wedding/civil partnership anniversaries; and/or
• regular premiums on a life insurance policy for another

Maintenance payments to:

• an ex-spouse or former civil partner;
• relatives dependent because of old age or infirmity; and/or
• children, (including adopted children and step-children who are under 18 or in full-time education).

‘Intention’ is key for the exemption to succeed and that intention must be put into effect; it is no good just saying that you will be giving someone payments, either a series of payments must be made to show a pattern or, better still, the intention should be in writing. A formal letter from donor to donee (or parent of the donee if a minor), preferably witnessed, and the first payment made would be sufficient proof.

Payment should preferably be via a bank account transaction in the form of a standing order or, failing this, at least a cheque. If the gifts are in cash it is important that regularity is established and an easy way of doing this is for the donor to pay a bill or a series of bills for the donee.

There is no set time span over which the taxpayer must show the pattern of giving. HMRC prefer to see a series of payments made over a period of three or more years but the case of Bennett & Others v Inland Revenue Commissioners [1995] BTC 8003, placed doubt on this arbitrary figure. In this case Judge Lightman stated that “for an expenditure to be ‘normal’ there is no fixed minimum period during which the expenditure shall have occurred”. He added that a pattern of expenditure might be established either by reference to a sequence of payments, or by proof of a “prior commitment or resolution”. This case confirmed that exemption is still possible where differing amounts have been paid over a period of only a year as long as a clear commitment has been made. As such this exemption now covers situations where, for example, one premium of a life assurance policy is made or under a deed of covenant but the payee dies before the second payment can be made – here there is a clear intention to make payments.

Statutory payments from April 2021

By law, there are various statutory payments that an employer must make to an employee while the employee is absent from work due to the birth, adoption or death of a child. The employer must pay employees who meet the qualifying conditions at least the statutory amount for the relevant pay period. The statutory payment rates are increased from April 2021 and apply for the 2021/22 tax year.

An employee is only entitled to statutory payments if their average earnings for the qualifying period are at least equal to the lower earnings limit for National Insurance purposes.

Statutory maternity pay

Statutory maternity pay (SMP) is payable to an employee who is on maternity leave. Although an employee can take up to 52 weeks’ statutory maternity leave, statutory maternity pay is only payable for 39 weeks. The payment ceases if the employee returns to work before the end of the maternity pay period (MPP).

For the first six weeks of the MPP, SMP is payable at the rate of 90% of the employee’s average earnings. For the remainder of the MPP, SMP is paid at the lower of 90% of the employee’s average earnings and the standard amount. For 2021/22, this is set at £151.97 (up from £151.20 for 2020/21).

Statutory adoption pay

Statutory adoption pay (SAP) is payable to one parent on the adoption of a child. The other parent may be entitled to claim statutory paternity pay. The provisions for adoption pay and leave largely mirror those for maternity pay and leave – the employee is entitled to take up 52 weeks’ leave, while the adoption pay period (APP) runs for 39 weeks, unless the employee returns to work before the end of this period.

As with SMP, SAP is payable at the rate of 90% of the employee’s average earnings for the first six weeks and at the standard amount, or 90% of the employee’s average earnings if lower, for the remainder of the adoption pay period. The standard amount is £151.97 per week for 2020/21.

Statutory paternity pay

Statutory paternity pay may be payable on the birth or the adoption of a child. The child’s father, mother’s partner or the adoptive parent who is not in receipt of SAP and leave may be entitled to statutory paternity leave and paternity pay. Eligible employees are entitled to two weeks’ statutory paternity leave which may be taken in a single block or in two one-week blocks.

Statutory paternity pay is payable while the employee is on statutory paternity leave (as long as the eligible conditions are met) at the standard rate (£151.97 for 2021/22) or, if lower, at the rate of 90% of the employee’s average earnings.

Shared parental pay The shared parental pay (ShPP) and leave provisions allow parents to share leave and pay following the birth or adoption of a child. Where an employee returns to work before the end of the MPP or APP, the employee can share the remaining leave and pay with their partner.

Shared parental pay is payable at the standard amount, set at £151.97 for 2021/22, or where lower, at 90% of the employee’s average earnings.

Statutory parental bereavement pay Parents are entitled to statutory parental bereavement leave following the death of a child under the age of 18 or a still birth after 24 weeks where this occurs on or after 6 April 2020. Bereaved parents are able to take two weeks’ parental bereavement leave, either in a single block or as two separate weeks. Eligible employees are also entitled to statutory parental bereavement pay (SPBP) at the standard amount (£151.97 for 2021/22) or, if less, at 90% of their average earnings.

Selling your main residence with land – Will the SDLT return trip you up?

Most people do not expect to pay capital gains tax when they sell their only or main home, particularly if the property has been their only home for their entire time that they owned it. However, what is less well known is that the exemption places a limit on the amount of garden that falls within the main residence exemption. This may catch out those who sell their main residence and have large gardens or land.

What is allowed?

The legislation allows grounds up to the ‘permitted area’ to fall within the main residence exemption. This is set at 0.5 of a hectare (1.24 acres). However, a larger area may be allowed where, ‘having regard to the size and character of the dwelling’ this is required for the reasonable enjoyment of the property.

Case law

The case of Phillips v HMRC UKFTT 381 TC concerned the sale of the Phillips’ main residence, which had a garden of 0.94 of a hectare. As it was their main residence, the Phillips did not declare the gain to HMRC. HMRC investigated the disposal while checking SDLT returns in March 2017, having discovered that at 0.94 of a hectare, the grounds exceeded the permitted area of 0.5 of a hectare allowed by the legislation.

In considering whether the larger grounds were needed for the reasonable enjoyment of the property, recourse was made to previous decisions. These included the case of Longston v Baker 73 TC415, in which the taxpayer contended that land in excess of 0.5 of a hectare was needed to house and graze his horses. However, the judge noted that it was ‘not objectively required, i.e. necessary, to keep horses at houses in order to enjoy them as a residence’.

In the Phillips’ case, the Tribunal found in their favour, ruling that the land was required for the reasonable enjoyment of the property, which is large and in a rural area. However, as previous decisions show, it is far from a given that the Tribunal will always rule in the taxpayer’s favour when it comes to deciding whether land sold with a house falls within the main residence exemption.

Caution required

Some caution is required when selling a property that has substantial grounds, particularly if some of the land is used for equestrian purposes. The purchaser will pay SDLT, and where this is at mixed property rather than residential rates, a review of the SDLT returns may trigger an investigation.

IR35 and off-payroll working – What to do from 6 April 2021 if you provide services through an intermediary

Prior to 6 April 2021, workers who provide their services to a private sector organisation through an intermediary, such as a personal service company, need to consider whether the IR35 rules apply to them. This will be the case if the nature of the engagement is such that if they provided their services directly to the client rather than through their personal service company, they would be an employee of the client.

Where an arrangement falls within the scope of the IR35 rules, the worker’s intermediary needs to determine the deemed employment payment on 5 April at the end of the tax year. The intermediary must account for tax and National Insurance (employee’s and employer’s) and pay it over to HMRC.

Since 6 April 2017, workers providing services to a public sector body through an intermediary have not needed to consider IR35. Instead, under the off-payroll working rules, responsibility for determining whether the worker would be an employee if the services were supplied directly falls on the public sector body. If the worker would be classed as an employee were this the case, tax and National Insurance must be deducted from payments to the worker’s intermediary, and paid over to HMRC, together with the associated employer’s National Insurance.

From 6 April 2021, the off-payroll working rules, as they apply where the end client is a public sector body, are being extended. From that date, they will also apply where the end client is a medium or large private sector organisation. The changes will affect workers providing their services through an intermediary.

When agreeing an engagement from 6 April 2021 onwards, the worker should check the size of the end client so that they know which set of rules are in point.

End client is a medium or large private sector organisation

Where the end client is a medium or large private sector client, from 6 April 2021, the worker no longer needs to consider the IR35 rules. Instead, under the extended off-payroll working rules, the end client must determine whether the worker would be an employee if they provided their services directly to the end client, rather than via an intermediary.

The end client must provide the worker with a copy of the determination (the status determination statement). The worker should check this. If they don’t agree with it, they should tell the end client. The client must then reassess the status determination and let the worker know within 45 days whether the original determination stands, or issue a new one.

If the nature of the engagement is such that the worker would be an employee if the services were provided directly, the fee payer will adjust the invoice from the worker’s intermediary to exclude VAT and the cost of any recharged materials to arrive at the deemed employment payment, and deduct tax and National Insurance from the payment to the worker’s intermediary. This will have a cash flow implication – the worker’s intermediary will no longer receive payments gross.

The worker will receive credit for the tax and National Insurance paid against that due on payments made by the worker’s intermediary to the worker.

End client is a small private sector organisation

The extended off-payroll working rules do not apply to small private sector organisations.

Consequently, the position is the same on or after 6 April 2021 as it is now. The worker’s intermediary must continue to consider whether the IR35 rules apply, and operate them if they do.

End client is a public sector organisation

There is also no change from 6 April 2021 where the end client is a public sector body. As now, the public sector body must assess whether the off-payroll working rules apply and issue a status determination to the worker. If the engagement falls within the rules, they must deduct tax and National Insurance from payments to the worker’s intermediary.

Business interruption insurance – Are pay-outs taxable?

Business interruption insurance provides cover for losses as a result of events that close or severely disrupt the business. Policies may cover a loss of profits that arise as a result of the ‘interruption’. They may also meet fixed costs that the business has to continue to meet despite being closed.

Many businesses who had been forced to close as a result of the Covid-19 pandemic and associated lockdown measures and who attempted to make a claim on policies that they believed provided cover for the associated loss of profits found that their insurers did not agree. The sticking point was the wording of the policy where this excluded diseases unless specifically named.

To provide clarification for policyholder and insurers, the Financial Conduct Authority (FCA) took a test case. The high court found mostly in favour of the policyholders. On appeal, the Supreme Court ruling in January furthered strengthened the policyholders’ position. As a result of the Supreme Court ruling, around 370,000 small businesses may receive a pay-out.

Tax implications

HMRC’s general stance is that if the premium was tax deductible, any insurance receipts are taxable. Businesses would have been able to deduct the cost of business interruption insurance premiums as long as the cost was incurred wholly and exclusively for the purposes of the business.

Where a policy pays out an amount to cover the loss of profits during the period when the business was shut, the receipt is treated as trading income. Payments to cover costs are also taxable if a deduction is allowable for the cost.

Where accounts are prepared on the cash basis, the insurance receipt is taken into account in the accounting period in which it is received.

However, if the accounts are prepared on the accruals basis (as would be the case for a company), the receipt should be matched to the period to which it relates, for example, the accounting period in which the lockdown giving rise to claim fell. However, where there was doubt as to whether a payment would be made, as was often the case in relation to Covid-19 claims, the critical time would be the time when it became clear that a payment would be made. This may be the period in which the date of the Supreme Court ruling occurred.

Electric Company Cars

For 2020/21, it was possible to enjoy an electric company car as a tax-free benefit. While this will no longer be the case for 2021/22, electric and low emission cars remain a tax-efficient benefit.

How are electric cars taxed?

Under the company car tax rules, a taxable benefit arises in respect of the private use of that car. The taxable amount (the cash equivalent value) is the ‘appropriate percentage’ of the list price of the car and optional accessories, after deducting any capital contribution made by the employee up to a maximum of £5,000. The amount is proportionately reduced where the car is not available throughout the tax year, and is further reduced to reflect any contributions required for private use.

The appropriate percentage

The appropriate percentage depends on the level of the car’s CO2 emissions. For zero emission cars, regardless of whether the car was first registered on or after 6 April 2020 or before that date, the appropriate percentage for electric cars is 1% for 2021/22. For 2020/21 it was set at 0%.

This means that the tax cost of an electric company car, as illustrated by the following example, remains low in 2021/22.

Example

Jaz has an electric company car with a list price of £30,000. The car was first registered on 1 April 2020.

For 2020/21, the appropriate percentage for an electric car was 0%, meaning that Jaz was able to enjoy the benefit of the private use of the car tax-free.

For 2021/22, the appropriate percentage is 1%. Consequently, the taxable amount is £300 (1% of £30,000).

If Jaz is a higher rate taxpayer, he will only pay tax of £120 on the benefit of his company car. If he is a basic rate taxpayer, he will pay £60 in tax. This is a very good deal.

His employer will also pay Class 1A National Insurance of £41.40 (£300 @ 13.8%).

For 2022/23 the appropriate percentage will increase to 2%.

Low emission cars

If an electric car is not for you, it is still possible to have a tax efficient company car by choosing a low emission model.

The way in which CO2 emissions are measured changed from 6 April 2020. For 2020/21 and 2021/22, the appropriate percentage also depends on the date on which the car was first registered as well as its CO2 emissions. For low emission cars within the 1—50g/km band, there is a further factor to take into account – the car’s electric range (or zero emission mileage). This is the distance that the car can travel on a single charge.

The following table shows the appropriate percentages applying for low emission cars for 2021/22.

As seen from the table, choosing a car with a good electric range can dramatically reduce the tax charge. Assuming a list price of £30,000, the taxable amount for a car first registered on or after 6 April 2020 with an electric range of at least 130 miles is £300 (£30,000 @ 1%); by contrast, the taxable amount for a car with the same list price first registered before 6 April 2020 with an electric range of less than 30 miles is £4,200 (£30,000 @ 14%).

The moral here is to choose a new greener model and you will be rewarded with a lower tax bill.

Time to pay

As part of the Chancellor’s Coronavirus support package taxpayers were permitted to defer payment of the July 2020 income tax Payment on Account instalment until 31 January 2021. However, three lockdowns later and HMRC have become increasingly aware that a large number of taxpayers are still needing to delay not only that payment but also the tax payments that would normally be due on 31 January 2021 namely:

• the balancing income tax payment for 2019/20,
• the first income tax payment on account for 2020/21,
• any capital gains tax for 2019/20 and
• classes 2 and 4 NIC for 2019/20.

Therefore HMRC have set up a method by which further deferment may be applied for online, separate from their usual ‘Time to Pay’ arrangements facility. Taxpayers unable to pay their tax bills would normally need to call HMRC to discuss a payment plan but this method of applying online makes the process easier.

To use this automatic process the taxpayer needs to set up a Government Gateway account and agree to pay the tax in monthly instalments by direct debit, with the aim of clearing the debt within 12 months. Other conditions include:

• the 2019/20 tax return must have already been submitted,
• the submission of all tax returns must be up to date,
• the debt must be of at least £32 but less than £30,000 and,
• no other tax instalment plans must be in place (i.e. under the usual “Time to Pay” arrangements).

Although payments are expected to be made monthly the system does allow flexibility such that the taxpayer can make additional payments should circumstances allow. However, should the arrangement need to be amended later then HMRC will need to be contacted by phone to discuss revised arrangements. The instalment plan must be set up no later than 60 days after the due date for the tax, which realistically means that it needs to be in place by 31 March 2021. All the late paid tax will accrue interest at 2.6% to the date of full repayment.

Should the taxpayer not keep to the arrangement and fall behind with the payments then HMRC has the right to ask for the outstanding amount to be repaid in full.

The facility may be a lifeline for many but it should be noted that care needs to be taken should the application include deferment of class 2 NIC due for 2019/20. The rules covering NIC payments mean that if this NIC is not paid by 31 January 2021, then the year will not count as a completed year in the taxpayer’s NIC record for state pension purposes.

Care also needs to be taken as to when to apply. Tax return submissions normally take up to 72 hours to be processed. Therefore, should the taxpayer apply at the same time as submitting their return for example, then the application may be rejected.

Should the total tax debt be more than £30,000 or the 31 March 2021 deadline is missed then the taxpayer cannot take advantage of this online facility and must go through the normal ‘Time to Pay’ process. There is also no specific online facility for corporation tax payments and as such the general ‘Time to Pay’ arrangements will need to be sought. However, it would appear that HMRC are being flexible with these arrangements and in some cases are agreeing to three months interest free extensions on payment dates.

Unused residential finance cost

Since 2017/18, the amount of income tax relief that landlords with residential properties have been able to claim on residential property finance costs (e.g. mortgage interest) has gradually been restricted such that for the year 2020/21 the restriction is now given as a tax reducer at the basic rate of tax (i.e. 20%). Loans that are wholly for commercial properties, land and property dealing or development businesses or properties used for a furnished holiday letting business are not affected.

Landlords affected by this restriction may have noticed a box on the 2020 tax return as being Box 45 – Unused residential finance costs brought forward.   

Completion of this box records the amount of interest that has not been utilised in one year to be carried forward and to the finance costs figure of the following year. The tax reduction for that following year is then calculated using both the amount brought forward and the current year’s finance costs. The tax reduction applies to each property business separately such that any ‘excess’ tax reduction on an overseas property business cannot be used against a UK property business or share of partnership property business or vice versa. If the property has made a loss then no tax deduction will be given either and the unused finance cost amount for that year will be carried forward and utilised in the following year’s calculations. The tax reduction cannot be used to create a tax refund.

Calculating the amount of restriction to be applied can be complicated in some circumstances. The amount to claim is the lower of the finance costs incurred, the profits of the property business (less losses brought forward) and the taxpayer’s total taxable income (after deduction of the personal allowance but ignoring savings and dividend income). This restriction may result in an amount being disallowed, therefore the amount not used is carried forward to be utilised in any following year and recorded in box 45.

Basic Example:

Tax year 2019 – 2020
Employment before tax = £40,000

Rental income =   £21,000
Other expenses = £(8,000)

Property profits = £13,000

Finance costs = £14,000 (£3,500 allowable against rental income – 25%)

Taxable income = £49,500 (£40,000 + £13,000 – £3,500)

Income Tax calculation:
£49,500 less personal allowance (£12,500) = £37,000

Tax due: (£37,000 x 20%)                                                      £7,400

Finance cost tax reduction calculated
on property profits (£9,500 x 20%)                                       £  (900)

Final Income Tax =                                                                 £5,500

The tax reduction is calculated as 20% of the lower of:

• finance costs = £14,000
• property profits = £9,500
• adjusted total income (exceeding personal allowance) = £49,500

The lowest figure is property profits, so £9,500 x 20% = £900 tax reduction. £1,000 finance costs (£10,500 – £9,500) that have not been used are shown in box 45 and carried forward being added to the finance costs for that year and then the total amount restricted accordingly.

If a landlord has brought forward amounts of restricted finance costs from earlier years and has receipts from their property business of £1,000 or less then they have the choice of either claiming expenses and using the reducer calculation in the normal way or claiming the Property Income Allowance (PIM) tax exemption.  If they choose the PIM route then the restricted finance costs figure is carried forward to be used in any future years’ income tax liability calculation. Individuals can decide on a year by year basis which approach to take.

The ability to carry forward unused finance costs will be beneficial to those landlords with a temporary reduction in property income possibly because a property is vacant for a period or a short-term increase in costs (e.g. due to refurbishment).

Self-employment and the £2,000 Dividends allowance

All taxpayers, regardless of the rate at which they pay tax, are entitled to a tax-free allowance for dividends. For 2020/21 this is set at £2,000, so if you’re thinking of branching out to be self-employed or have made the switch last year, this is what you need to consider.

Nature of the allowance

If you’re self-employed and own your limited company, you can take money out of your company as a dividend, or you may receive a dividend payment if you own company shares.

Although termed the ‘dividend allowance’ it is in fact a zero rate band. Dividends covered by the allowance are taxed at a zero rate of tax, but count towards band earnings.

Where the personal allowance has not been otherwise utilised, dividends sheltered by the personal allowance are also received free of tax.

Dividends not covered by the allowance

Where dividends are not sheltered by either the dividend allowance or the personal allowance, they are taxable at the dividend rates of tax. Where the taxpayer has different sources of income, dividends are treated as the top slice of income. For 2020/21, dividend income is taxed at 7.5% to the extent that it falls within the basic rate band, at 32.5% to the extent that it falls within the higher rate band and at 38.1% to the extent that it falls within the additional rate band.

Using the 2020/21 allowance

The dividend allowance is lost if it is not used in the tax year. As the end of the 2020/21 tax year approaches, it is sensible to review your dividend policy and consider whether it desirable, and indeed possible, to pay further dividends before the 2020/21 tax year comes to an end on 5 April 2021.

Where an individual receives dividends both from their investments and their family or personal company, depending on their shareholdings, their dividend income may have fallen in 2020/21 as a result of the Covid-19 pandemic. This may provide the scope to pay higher dividends than normal from the family or personal company in order to utilise the allowance.

However, remember that dividends can only be paid from retained earnings.

Where profits are low for example if you have just started a business, or a loss has been made in 2020/21 as a result of the pandemic, this does not necessarily prohibit the payment of dividends – dividends can be paid as long as retained profits brought forward are sufficient to cover both any loss and any dividends paid out.

To comply with company law requirements, dividends must be paid in accordance with shareholdings. However, using an alphabet share structure (such that one shareholder has A class share, another has B class shares, and so on) overcomes this restriction and allows dividend payments to be tailored to utilise family members’ unused dividend (and indeed personal) allowances for 2020/21.