Beware the property trap that could see you pay 45% tax instead of 18% or 28%

A change in the recent Finance Bill 2016 made during the committee stage could lead to a significant rise in the tax payable by both individuals and companies who have invested in property. Previously, the profit made from a property sale was subject to capital gains tax (CGT), but a new law means that in some circumstances any profits will be subject to either income tax or corporation tax.

CGT is paid at 10% for basic rate taxpayers or 20% for those on the higher rate on gains from commercial property, with the figures rising to 18% and 28% respectively for residential property gains. Levying income tax on the same profits results in tax payable at either 20%, 40% or 45%, as well as either a 9% or 2% National Insurance contribution.

Companies, meanwhile, pay corporation tax on all income and gains at a 20% rate. However, companies are able to deduct the indexation allowance when the amount of taxable gain is calculated, something which individuals cannot do. This can therefore potentially reduce how much of their gains are subject to taxation.

In its current state, the Finance Bill 2016 will mean that any property sales made from 5th July 2016 onwards will be viewed as trading income under certain circumstances, and as such will be subject to either income tax or corporation tax. The four sets of circumstances where this will apply are:

  • if one of the main purposes of the acquisition of the land was to realise profit or gain from its disposal;
  • if one of the main purposes of the acquisition of a property where the value comes from the land was to realise profit or gain from disposing of the land;
  • if the land is held as trading stock;
  • if one of the main purposes of development of the land was to realise profit or gain from the disposal of the land after developing it.

That means anyone investing in property, waiting for the market to improve and then selling for profit is likely to become subject to the first and second set of circumstances. Landlords may also get caught by these new conditions, as it may be difficult for them to prove that they didn’t buy a property with a main purpose of gaining from disposing of it later on. At the moment, HMRC has offered no guidance on the new law, although if it does indeed come into effect then further clarification will be needed to ensure property owners don’t get caught out.