The reality is that many married couples are liable to very different rates of income tax. It is not uncommon to have one who is a 40% payer while the other is liable only at 20% or has no liability at all. Therefore you might think that there would be some mileage in arranging property affairs to take advantage of this.
It is of course conceivable that the person with the higher level of income could be a 50% payer but most people in this position would and should already be arranging their tax affairs appropriately. Where one spouse is just into the 40% band, perhaps these issues would not have been addressed.
In a joint tenancy we said previously that the interests in the property are indivisible. Any profits from renting would be shared fifty-fifty which could be distinctly disadvantageous if there were a significant disparity between the highest marginal rates of the individual owners.
Married couples owning rental property as tenants in common will normally be assumed by HMRC as sharing their profits (or losses) fifty-fifty even if they actually own the property in different proportions. If the ownership percentages are in reality different, the split can be applied to the apportionment of income between the two, but that split must reflect each spouse’s share. A formal election form needs to be completed in these circumstances.
Without an election, if one spouse who wholly owns a property transfers a very small share of a per cent or so to the other, HMRC would make a fifty-fifty split automatically. This would save the couple jointly a significant amount by moving half the income from perhaps the donor spouse’s 40 or 50% tax band to the recipient’s 20 or even 0% tax band.
People who are not married or in a civil partnership may own property as joint tenants in any respective proportion such as seventy-five twenty-five, but may split the rental income in a different way they have agreed between them, preferably in writing, if they have a disparity in their particular tax rates. Of course they may do this without regard to income tax tax, but the point is that they have considerable flexibility. For capital gains tax purposes, gains will follow the underlying beneficial ownership as outlined.
You will see that it is possible to arrange your affairs in order to reduce the tax burden on a common sense way and without resorting to any scheme HMRC might not like. This does not mean that it is necessarily straightforward to do so as issues outlined here and in the previous article have to be considered carefully. You should seek professional advice before taking action.
If you are buying a property with your spouse or civil partner or even just a business partner and you intend to let it out, make sure your solicitor or conveyancer knows this and arranges the most suitable ownership status. Generally for tax reasons this will be as tenants in common. As a tenant in common you will each own a specific share of the property, which may be half, or a different specified percentage.
The other sort of joint ownership is known as a joint tenancy. In that situation each person owns an indivisible share of the whole property and cannot pass a share to another person. In the event of the death of one of the owners of a property held as joint tenants, the ownership of the property passes to the survivor, and this cannot be changed by a gift by will.
A joint tenancy may not be a good idea from the point of view of the survivor in terms of inheritance tax planning as it may be liable to significant IHT on the death of the survivor. If gifted on by the survivor it would require that person to live seven years after the gift to avoid an inheritance tax charge on death. Whether or not a property is owned by a married couple, it is a very inflexible arrangement.
The terms and types of ownership in Scotland are different from those already mentioned, which apply to England and Wales, but the same situations as above are provided for.
Having a property owned by people as tenants in common gives more flexibility. Firstly, the property doesn’t have to be owned on a fifty-fifty basis. It can be owned in whatever percentages may be agreed, such as 75:25 or 95:5. Actually several people could have a distinct share of a property. A person’s share could be willed to someone other than a joint owner if desired, or if one married person or civil partner wanted to leave the share to the other, then a will would take care of it with no difficulty. The point is that there would be room to plan who should inherit and at the same time take account of inheritance tax considerations.
A share of a property owned as tenants in common can be sold or transferred to another party. A gift to a spouse / civil partner would not attract capital gains tax, though a sale to a non-spouse would (if there were a gain) and a gift to a non-spouse / civil partner would be valued at the market rate for capital gains purposes.
You will see that the distinctions between joint tenancies and tenancies in common are important for tax purposes. A joint tenancy arrangement has much less flexibility. If you need to understand more about the nature of these distinctions you should take legal advice. In the next article we will be discussing the income tax issues relevant to the two types of ownership.