Lee Sharpe laments the continued erosion of this valuable relief for property owners.
In essence, principal private residence (PPR) relief is the capital gains tax (CGT) relief which allows most people to sell their homes at a profit, but without having to give any money to the taxman. It is also useful for property investors who own property which they have both let out and lived in (not necessarily at the same time).
This article covers:
- Reduction in the ’final period exemption’ for most residences from 36 months to 18 months, for disposals on or after 6 April 2014; and
- Abolition of the power to nominate which residence is the qualifying main residence from April 2015.
It is worth mentioning that neither change is yet law at the time of writing: the first measure is in Finance Bill 2014 and will likely become law in July 2014, subject to revision; the second measure is scheduled for Finance Bill 2015.
Final period exemption – The ‘18 month rule’
Background
The ‘final period exemption’ has been around in some form for many decades. It was intended to allow people time to sell their only or main home, once they had moved on to a new home. While you can generally have only one qualifying ’main residence’ at a time, the final period exemption allows three years’ overlap, so you can move into a new home without immediately starting to accumulate a taxable gain.
The property market was perceived to be particularly stagnant in 1991 when the final period exemption was increased to 36 months. While house prices are apparently increasing at the time of writing, it is after several difficult years for the property market: has the market really recovered to the point where halving the permissible overlap period causes no difficulties?
Why is the final period exemption so useful?
As many property investors and their advisers will know, there have been periods before 2008 where property prices could increase very handsomely over just 36 months, and those with sufficient mobility and financial means to support more than one property could in turn profit, without paying any tax.
What has changed and why?
For most property sales after 6 April 2014, that final exempt period will reduce from covering the last 36 months of ownership down to just the last 18 months of ownership (pending the passing of the Finance Act 2014).
The aim is to ‘reduce the incentive to exploit the rules', according to the government’s consultation paper. One might say that reliefs and exemptions were drawn up to be exploited – otherwise there wouldn’t be much point in having them. The Treasury forecasts the measure will soon be earning them additional tax revenues of around £100 million a year, which implies it is going to cost taxpayers an extra £100 million a year in tax!
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Example 1- Final period exemption
Winston has lived in
the family home in |
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‘Old’ rules - Last 36 months CGT-free |
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Proceeds - Dec. 2015 |
£650,000 |
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Cost – Jan. 2011 |
£400,000 |
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Gain |
£250,000 |
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CGT Exempt 100% - 60/60 months |
£250,000 |
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Taxable |
£ |
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Under the ‘old’ rules, while Winston has
hardly occupied the London property for the three years before sale, it is
nevertheless treated as qualifying for 100% CGT relief. |
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‘New’ rules - Last 18 months CGT-free |
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Proceeds – Dec. 2015 |
£650,000 |
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Cost – Jan. 2011 |
£400,000 |
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Gain |
£250,000 |
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CGT Exempt 70% - 42/60
months |
£175,000 |
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Taxable 30% - 18/60 months |
£ 75,000 |
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CGT @ 28% |
£ 21,000 |
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As the disposal was after 5 April 2014,
only the last 18 months' ownership will automatically qualify for CGT relief. Assume Winston is a 40% taxpayer, and has
already utilised his CGT Annual Exemption. |
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Exceptions to the new rule
Those who are disabled, or who go into long-term care, remain eligible for 36 months’ final period exemption (likewise their spouses or civil partners).
Nominate no more!
Background
Like the final period exemption, the taxpayer’s power to nominate which of his residences is his main residence, and so qualifies for PPR relief from CGT on sale, has been around since the legislation was first introduced in 1965. Without a nomination, which property qualifies for PPR relief is basically determined by reference to which property is mostly used as his residence (not necessarily where he spends more time; other factors, such as which is the ’family home’, may be relevant).
Why is it important?
A nomination is extremely useful and very flexible, since it can easily be varied once validly made. It allows the taxpayer to ’protect’ the property which stands to make the most gain, even if it is a rarely occupied residence. It is (currently!) common to see the nomination used in conjunction with the above final period exemption to great effect, particularly in a buoyant property market. But that may soon change.
What is changing and why?
The government is proposing to abolish the taxpayer’s right to choose which property is his or her qualifying main residence, from April 2015. Interestingly, this proposal was buried in a forty-page consultation document on subjecting non-UK-resident taxpayers to CGT on selling UK second homes.
So, in order to stop Russian oligarchs selling their London apartments without paying a penny in UK tax, the government is proposing to scrap an election relied upon by (surely) vastly more UK-resident taxpayers!
Example 2 – Effect of proposed change
Margaret has inherited a substantial property in London, but she spends more of her time in Scotland to be with her boyfriend, with whom she co-owns a modest apartment because he studies medicine there. Margaret would prefer to keep her London property if she can, because it is her family home and she is uncertain of her long-term future.
It is a reasonable assumption that her London property will accumulate a capital gain far faster than her half-share in the small apartment, so under the current rules she can protect the London property by nominating it as her main residence.
Unfortunately, under the new proposals, she may lose that right in April 2015, and while the modest gain on her share in the Scottish apartment may be tax-free, she will be very concerned to find that she is exposed to substantial CGT on her first home.
Practical Tips:
The 2014 and 2015 Finance Acts seem likely to put some serious dents in the long-cherished PPR relief, and could prove very expensive for owners of multiple residences.
- Property investors have long been familiar with the practice of letting out a former residence for up to 3 years prior to sale without fear of CGT, and it is important to consider the impact of the shortened ’final period exemption‘ on current and future arrangements. It may be necessary to place greater reliance on ’lettings relief’ than previously – although do remember that lettings relief cannot exceed the amount relieved under the main PPR exemption.
- As for nominating residences, these are still useful devices, and are likely to have effect at least up until April 2015. Eligible property owners should review their portfolios (remember that nominations may be ‘back-dated’ by up to two years) to see how best to use the nominations potentially in hand. And if the loss of nomination rights seems unfair, you can always write to your MP to put your case: it seems that this approach worked well, when the legislation was originally introduced back in 1965!
