It's easy to envisage a number of scenarios where one person may buy a house for another person to live in.
While tax is unlikely to be the driving factor in a decision to provide accommodation for someone else, it is advisable to consider the tax consequences up front to avoid being confronted with an unexpected and unwelcome tax bill further down the line. This is particularly the case in relation to the availability of private residence relief.
Many parents opt to buy an investment property for their student son or daughter to live in while at university. This can be an attractive proposition and a worthwhile investment.
University accommodation is expensive and buying a property provides the opportunity to earn a return rather than simply throwing money away on rented accommodation. Depending on the nature of the property, it will generally be possible to rent rooms to other students, thereby generating an income.
Also, in a rising property market, the property will appreciate while the son or daughter studies, providing a welcome return on the investment. Many parents also like the peace of mind that comes with knowing that their son or daughter is living in a family-owned property.
From a tax perspective, there are a number of decisions to be made. The first is who should own the property. Understandably, many parents would be reluctant to give their 18-year-old son or daughter a house. However, if the house is owned by the parents who do not live in it, any gain will not be covered by principal private residence relief (PPR).
This relief exempts from tax any gain on a property that is a person’s only or main residence. Where the relief is not in point, any gain on the disposal of the property is chargeable to capital gains tax (CGT).
Depending on the size of the gain, the lack of PPR may not be an issue. CGT is only payable to the extent that gains exceed the annual exempt amount. This is set at £10,600 for 2011/12 and 2012/13, meaning that where a student property is jointly owned by both parents, no CGT is payable unless the gain (after deduction of expenses of buying and selling) exceeds £21,200.
If the property is sold at the end when the student finishes his or her degree, in the current economic climate, any gain realised after three to four years is unlikely to exceed £21,200, meaning that no CGT will be payable anyway.
Where the gain does come into charge, CGT is payable at a rate of 18 per cent where total income and gains do not exceed the basic rate limit, and at 28 per cent thereafter.
Alternatively, the parents could lend the child the money to buy the property. In this case, the student son or daughter would be the owner and provided that they lived in the property and it was their only or main residence, any gain on disposal would be free from tax as it would be covered by PPR.
In the event that the student son or daughter did not sell the property on finishing university but instead let it for a while before selling, part of the gain may come into charge.
However, letting relief and relief for the last 36 months of ownership may shelter all or most of the taxable part of the gain, and the annual CGT allowance would be available to offset against any portion of the gain remaining in charge. But any interest paid on the loan from the parents to buy the property would be taxed in the hands of the recipient.
Where a parent buys a house for a student son or daughter to live in, the usual scenario is that the spare rooms are rented to friends. Any rental income is taxable, although the student can take advantage of the rent a room relief to receive rent of up to £4,250 tax-free a year.
To enjoy this tax break, the rent must be paid to the student living in the house, rather than to the parents. However, it is not necessary that the student owns the property.
Any rental income paid to the parents is taxed according to the normal rules for taxing rental income. Similarly, the usual costs are deductible. However, it is possible that the taxman may challenge the commerciality of the let if no rent is paid by the son or daughter.
If the rent is paid to the son or daughter, they are liable to tax to the extent that rent-a room relief is not in point, although they can set their personal allowance against any taxable rental profit to the extent that it has not already been utilised.
At the other end of the age range, a person may buy a property for an elderly or infirm relative to live in. There used to be a tax break which preserved entitlement to PPR where a property was occupied rent-free by a dependant relative.
However, this relief is only available where the property was occupied by a dependent relative before 6 April 1988. The benefit of PPR is lost where a property is made available for a dependant relative to live in after this date.
Where a dependant relative is housed in a ‘granny annex’ rather than in a separate property, the extent to which PPR is available depends on whether the granny annex forms part of the main residence. In most cases it will, even if it is separate to the main house but within the grounds.
However, problems may arise if the grounds exceed the permitted area (half a hectare). A HMRC Helpsheet (HS283) contains an example where HMRC accept a granny flat as forming part of the main residence and qualifying for PPR.
Following separation and divorce, one party may move out of the marital home while the other party remains in it. A common scenario is for the wife and children to remain in the family home until the youngest child is 18.
Once a property ceases to be a person’s only or main residence, that person ceases to be entitled to PPR in respect of it. This could be a potential problem, where, say, the husband moves out of the marital home following separation or divorce but continues to pay the mortgage and owns a share in the property until the children are grown up, at which time the property is sold and the proceeds split.
At first sight, the husband would not be entitled to PPR once he had moved out. However, in this situation a measure of statutory relief is available which allows the ex-spouse to retain entitlement to PPR following a divorce, if certain conditions are met.
As a person is only entitled to one main residence for tax purposes at any point in time, if the ex-spouse subsequently buys a new residence before selling the marital home, he will need to elect which property is his main residence for tax purposes. This does not need to be the one in which he spends the majority of his time – it can be the one that gives the best tax result.
When buying a property for someone else, there is a whole raft of issues to consider, including inheritance tax implications.
Professional advice should be taken before the purchase to ensure that the transaction is properly structured and all concerned are aware of the implications. Once the property has been bought, it may be too late to secure a favourable tax result.
Published on: April 1, 2012