Capital Gains Tax on Rental Property (Buy-to-let) 2019

*Please note the information in this article may be out of date

Our latest tax feature, this time focusing on Capital Gains Tax, exploring the basics and full of tips to reduce your CGT liability.

Mon, 04 Nov 2019

In simple terms, Capital Gains Tax is payable on the disposal of an asset. For the purposes of this article, it would be payable if you were to sell an investment property that you owned. Essentially, tax is payable on the difference between the amount that you paid for the property and the amount that you sold it for, with some deductions and exemptions that we will cover later.

To illustrate very simply, if you bought a property for £100,000 in 2008 and you sold it today for £300,000, then you have made a capital gain of £200,000 which is charged to Capital Gains Tax.  As most property investments will eventually be sold with tax to pay on the gains, CGT is a crucial consideration for property investors.

When should I declare my capital gain?

For landlords who normally complete a Self-Assessment tax return, you report your capital gains on your self-assessment tax return. If you do not normally complete a tax return, then you can report your gain using the Government Gateway online service. This means you do not need to wait until after the end of the tax year to report your gains.  Alternatively, you can contact HMRC and register for self-assessment by completing the online form SA1. You should tell HMRC by 5 October following the end of the tax year for which you have CGT to pay or losses that you want to notify to them to carry forward.  If you are unlikely to need a tax return in future, once the process is complete, you can contact HMRC requesting that you be removed from Self-Assessment to avoid them continuing to send you tax returns.

Assuming you sell your property on 31 December 2019, the disposal will be in the 2019/20 tax year, and the capital gains tax will be due for payment on 31 January 2021.

For those landlords selling property, there are two tax-planning points here, which can help to ensure you make the disposal of the property in the right tax year. For example, if you had sold some stocks and shares in 2019/20 and used up your CGT tax-free allowance, then it may be worthwhile to defer the sale of the property until after 5 April 2020. This moves the gain on the sale of the property into the next tax year, giving you another annual CGT allowance.  Secondly, from April 2020, HMRC are changing the rules, making the payment of CGT “simpler and quicker” for UK taxpayers. A payment on account of CGT will need to be made when a residential property is sold. This will be due within 30 days of completion, alongside a return submitted by the seller.

What costs can I deduct to reduce my CGT liability?

When selling a property, you may deduct the costs of buying, selling or improving your property from your taxable gain. Typical examples are:

• The costs of buying and selling e.g. estate agents’ fees, solicitors’ fees, stamp duty etc
• Costs of improvement works - such as adding a conservatory or an extension.

Please note, however, that normal maintenance and repair costs do not count. If you are a Buy-To-Let Landlord then you should be claiming these expenses on your self-assessment tax return, as a deduction against rental income.

What is the Annual CGT Exempt Amount?

Every tax year, most individuals who are resident in the UK can make a certain amount of capital gains before they become liable to CGT. This annual exempt amount, for 2019/20, is £12,000.

The two most common questions we get asked about this exemption are as follows:

1. Can any unused exemption be carried forward to a future tax year?
   Sadly, no
2. Does my spouse or civil partner have their own CGT exemption?
   Yes, they do.

As there is no option to carry the annual exempt amount forward to another tax year, it is sensible to maximise use of the annual exemption within each relevant period. You might look at disposing of a property in a year where you have a full annual exemption available or deferring the sale or transfer until the next tax year.

In addition, you could make use of your spouse or partner's annual exempt amount. Under a spousal transfer, you are permitted to transfer chargeable assets between spouses and civil partners without incurring CGT.  Property is included here.  Any such planning will require tax advice from property tax advisers such as ourselves.

What Rate of CGT will I pay?

The annual exempt amount works a lot like the personal allowance for income tax. To arrive at the chargeable capital gains amount, we deduct the annual exemption of £12,000 from the overall capital gain. For taxable gains, the CGT rates depend upon your total taxable income for the year.

In the current tax year - 2019/20 - the CGT rate is as follows for residential property:

Basic rate (for taxpayers with income up to £50,000) – 18%

Higher rate (income more than £50,000) – 28%

Sadly for property investors the CGT rate is higher for the gain on sale of residential property than it is for other assets, where the gain would be taxed at 10% (basic rate) and 20% (higher rate). This is one of the measures the UK Government has taken to reduce participation of investors in the UK residential property market.

What other exemptions and allowances might I be entitled to?

1. Private Residence Relief

Many people know that an individual’s main residence is exempt from CGT – under the Principle Private Residence Relief rules (PPR relief). PPR relief can, in some circumstances, offer wider CGT benefits to savvy property investors.  For example, landlords selling a buy-to-let property may be able to take advantage of PPR relief if they have lived in the property for a period of time. If the property has only been the individual’s only or main residence for part of the period of ownership, then the amount of private residence relief is reduced, this means that part of the gain may be chargeable to CGT. PPR relief also allows you to claim relief on the last 18 months of ownership as CGT exempt, provided you have evidence that the property was at some point your primary residence.  However, please refer to our recent feature, which explores big changes to these rules in 2020.  (Article: What exactly does the removal of lettings tax relief mean for landlords?

2. Letting relief

At the time of writing, letting relief may also be available to Buy-To-Let landlords, in addition to PPR relief, on the condition that the property has, at some time, been let as residential accommodation, and a chargeable gain arises by virtue of the letting period.  Similarly to PPR relief t, there are big changes coming up in 2020 which will see this relief largely abolished.  However, we shall continue with how the position is today, prior to these changes
As present, letting relief allows you to claim the lower of the amount of:

• PPR relief available in respect of the letting;
• the amount of the gain arising by reason of the letting;
• £40,000.

Prior to the upcoming changes, lettings relief is a valuable additional relief that may reduce the CGT payable on the sale of a rental property, where it was, the taxpayer’s only or main residence at some point during the property ownership.

How can I work out what reliefs I am entitled to?

To reiterate, this section is prior to the changes coming up in 2020.  At present, the first stage is always to work out the private residence relief. In a simple case where the property is lived in for a number of years and then let out for the remainder, the amount of private residence relief is determined by apportioning the gain to the period it was used as the taxpayer’s main residence. 

To illustrate, let's say that I purchased a property on 1 January 2010 for £125,000 then lived in the property until 1 January 2014. I then let out the property until it is sold for £250,000 on 1 January 2020. So, in total, I have owned the property for 10 years (120 months).  PRR is available for the period in which I lived in the property as my main residence, i.e. from 1 January 2010 until 1 January 2014 (48 months) and also the final 18 months (don't forget; the final 18 months of ownership also qualifies for relief) – a total of 66 months.  On selling the property I made a gain of £125,000 i.e. £250,000 - £125,000. Private residence relief is thus available in respect of 66/120ths of the gain, i.e. £68,750.

Next, we work out the amount of the gain attributable to letting. In this scenario, this is simply the portion of the gain that is not exempt under PRR. In my example above, the gain attributable to letting would thus be £56,250 (i.e. £125,000 minus the aforementioned £68,750). 

Following the above, the next step is to work out the lettings relief. This is the lower of the private residence relief and the gain attributable to the letting or £40,000. In my example above, I am entitled to lettings relief equal to the lower of: 

• £68,750 (PPR);
• £56,250 (the gain attributable to letting);
• £40,000

Therefore, looking at this list above, £40,000 is the entitlement.

This means that the gain on my sale is calculated thus:
Proceeds of Sale: £250,000
Less Cost of Sale: (£125,000)
Balance: £125,000
Deduct PPR: £68,750
Deduct Lettings Relief: £40,000                                                                                
Chargeable Gain: £16,250

Moving on, assuming I still have my annual exempt amount available (£12,000 in 2019/20), then I will be taxed on a gain of £4,250 (i.e £16,250 chargeable gain above, minus £12,000).  If I was a higher rate taxpayer, I will pay CGT of £1,190 (28% of £4,250) in January 2021 or £765 (18% of £4,250) if I paid tax at the basic rate.

As you can see from my example, living in the property as a main residence for a short while can be beneficial as it opens up the possibility of claiming lettings relief as well as ensuring the final 18 months of ownership are exempt.  However, please refer to our recent feature, which will explore how these benefits will be reduced in 2020. 

How do I elect a property to be my main residence?

It is possible that an election can be made, that a residence is a person’s main residence for CGT purposes, for example, during periods of non-occupancy by tenants.  However, this should be approached with a degree of caution. A fundamental requirement for the election is that the relevant property is genuinely a main residence of the individual. As there is no statutory definition of ‘residence’, many cases end up before the courts and tax tribunals.  Therefore, individuals should retain evidence so they are able to claim that the property was their main residence for CGT purposes. This would include council tax bills, utility bills and bank statements and being on the electoral register. Furthermore, you should be very careful that there is no contradiction between information provided for other taxes such as SDLT (stamp duty) and income tax (Self-Assessment).

An election can be made within two years of whenever there is a new combination of residences. An election can be varied at any time, and backdated for up to two years from the date that it was given. The burden of proof is almost always on the taxpayer to demonstrate that they are entitled to claim any relief.  It is worth pointing out that for the purposes of private residence relief, a husband and wife may only have one residence.

Conclusion

There are further, more complicated reliefs you may be entitled to, such as EIS relief, but given the complexities involved here, it is highly recommended you seek tax advise from property tax advisors such as ourselves. 

As most property investments will eventually be sold with tax to pay on the gains, CGT is a crucial consideration for property investors. If you don’t budget properly for CGT and make yourself aware of upcoming legislative changes then it can lead to an unwelcome and unexpected tax liability and/or falling foul of HMRC. Always consult with a professional tax adviser well in advance of your decision to sell an investment property to look at ways to minimise your property tax liabilities, including CGT.  As we say, the ultimate aim is to achieve the fine balance between minimising your tax and maximising your wealth.