Buying a rundown property, renovating it and selling it for a profit can sound like an attractive idea but how do you avoid paying a large Capital Gains Tax bill?
What is Capital Gains Tax (CGT)?
CGT is a tax which is payable on the increase in value of an asset when it is disposed of by sale or gift. For example, if a property is purchased for £500k and sold or gifted when its value is £600k, CGT will be payable on the £100k gain in value. There is no CGT on a person’s main residence. This is known as the Principal Private Residence exemption (PPR). However, CGT is payable on a second home and other assets, which varies depending on whether you are basic or higher rate taxpayer, with the tax rates being 18% and 28% respectively. You can deduct your annual allowance of £12,300 in the tax year 2021-2022 and the cost of acquisition and cost of improvement and sale. All gifts between spouses and civil partners are exempt.
What is Principal Private Residence exemption (PPR)?
Normally, when you sell your home, you are exempt from paying CGT but how long do you have to live there to prove it is really your home? In order to be exempt from CGT, you must be able to show that the property you sold was your main residence.
Legislation does not define what constitutes a ‘residence’, but the courts are looking for permanence, a degree of continuity and expectation of continuity which turns occupation into residence. When considering whether a property is PPR exempt, HMRC will not only look at the length of ownership but also what could be termed as ‘quality’. Occasional and short residence can qualify for PPR, but the question is one of fact and degree. In practice, ‘the longer the better’ does appear to be the rule.
Utility bills and bank statements sent to the same address for a continuous period can be helpful to show the property is your main residence. It is more complicated if you own more than one property and want to make a tax-free profit. You can elect with HMRC which property should be treated as your main residence.
How long must I own a property to claim PPR?
HMRC is aware that developers buy properties, renovate them and then sell them for profit. Developers and builders trying to claim PPR in such circumstances will often be disappointed. In the case of Benford v HMRC (2011), Mr Benford sold a property after six months of alleged occupation, making a £50,000 profit. He argued that his short ownership arose from the breakdown of his marriage. The Court rejected his claim for PPR as electricity bills and council tax exemption suggested that the property was empty. In Metcalfe v HMRC (2010) the Court stated that failure to provide documentary evidence of residence would often result in favour of HMRC. In Moore v HMRC (2011), a dilapidated property was bought and refurbished. It was rented out and then sold at a profit. Although Mr Moore lived in the property during the period that the refurbishment took place, the court said that the evidence provided by him was vague and inconsistent. An interesting fact about this case is that the HMRC brought this claim seven years after the sale of the property was completed.
Short-term occupancy of a property is often fatal to a claim for PPR. In Core v HMRC , however, it was held that Mr Core, a builder who bought a house, renovated it himself, lived there for only six to eight weeks with his family, should be granted PPR and thus avoided paying CGT. There were two main reasons for the case being ruled in his favour. Firstly, the Tax Tribunal accepted that Mr Core intended to use the house as his principal private residence. He had not intended to sell the property prior to receiving multiple unsolicited offers for it. Secondly, he had moved into the property with his children. There was another property available for them to live in and he would not have made the move if the intention had only been to occupy the property on a temporary basis. Although the period of occupancy was very short, the Tribunal accepted the intention had been for it to be a long-term residence.
So, if you are looking to make money from property renovation it is important not to move too quickly. However, when circumstances present themselves in ways which you had not intended, then the decision in Mr Core’s case may prove very useful to you.