CGT and the Main Residence Election

Hello – I’m Paul Soper and this is the November 2011 edition in the series of Podcasts focussing on recent developments in Direct Taxation in the UK intended primarily for practitioners – especially small practitioners.  But if you are a reasonably financially literate taxpayer or an accounting student you might enjoy it too – if enjoy is the right word!

You can read the text of this podcast at my website http://www.Taxationpodcasts all one word.com.

In the last couple of years there have been lots of Tribunal cases concerning the Capital Gains Tax main residence exemption – often being claimed by speculators or buy-to-let landlords trying to claim this enormously valuable exemption on rather shaky grounds.

For taxpayers generally the house they live in if owned or rented on a longer lease is the most costly investment asset they will buy in their lifetime and in most cases on disposal it will be completely exempt from CGT – but larger properties may be partly liable and, if let, there is a second valuable exemption that can be claimed as well.

This is the first of two podcasts where I am going to focus on aspects of this incredibly important exemption, first of all focussing on these recent cases by buy-to-let owners and speculators.  In the second podcast, next month, I’m going to look at a valuable election which anyone who acquires a second or subsequent home should think about making.

How does the basic exemption work?  Note it is not the property which is exempt, it is that part of the gain that relates to a period of exempt occupation which is exempted.

If they did not occupy it as their residence for the whole of the period of ownership the gain exempt is found by time-apportionment of the total gain, although certain periods are exempt in any event, or exempt by concession.  The most significant of these is the last three years of ownership in any event.

If a taxpayer owned a house for 10 years, and for the last five years had let the property, having moved into another larger house, this means that 8 years in total will be exempt out of the 10 years of ownership, five of actual residence plus the last three years, and so 80% of the gain will fall out of account under this relief.

Unfortunately the legislation, which is found in the Taxation of Chargeable Gains Act, dating back to 1992 is far from clear.  When CGT was first created in 1965 there were many defects in the structure of the act and when it was consolidated in 1992 no one tried to correct the problems that poor drafting can bring.  The Act talks about disposals, without defining what a disposal is, by a vendor, without defining who a vendor is, giving rise to a gain, well at least we know how to calculate that (maybe not) and allowing exemptions for businesses (without defining a business) and residences – you’ve guessed it, without defining what residence is.  The legislators thought that all of these terms were so obvious that they did not need a technical definition but over the years case after case exposes the problems that a lack of clear definition can bring.

The basic exemption for the family home is contained in section 222 of the Act, headed “Relief on disposal of private residence” and is actually in two parts.  It exempts “a gain accruing to an individual so far as attributable to the disposal of, or of an interest in

a) a dwelling house or part of a dwelling house which is, or has at any time in his period of ownership been, his only or main residence, or (which here means and/or)

b) land which he has for his own occupation and enjoyment with that residence as its garden or grounds up to the permitted area – this is defined as being an area, inclusive of the site of the dwelling house, of half a hectare, roughly 1.2 acres.

It is two separate reliefs which means that if the house is sold first, the grounds are retained and then sold later the house will be exempt but on disposal the grounds will then be chargeable.

However if the land is sold at the same time as the house, or the grounds are sold first, then the gain will be exempt.  It is important to get this in the right order.

It is possible for an area larger than half a hectare to qualify if ‘the area required for the reasonable enjoyment of the dwelling house’, having regard to it’s size and character, is greater than half a hectare.

A Mr and Mrs Henke sold two houses with individual grounds of 0.54 acres each out of a total area of 2.66 acres – the land sold could not be required for the enjoyment of the property as they were able to sell it!  They had also owned the land for some years before erecting their own house and this could not be exempt until that first house on the plot had been built.

If you are building or acquiring a property the revenue will, by concession, also exempt a period of up to 12 months when the newly acquired property was unavailable because of building works or alterations being carried on.

Mr Longson tried to claim an area of 18.68 acres  on the grounds that he owned horses and rode them on the land.  Given the size of the house the revenue had been prepared to grant relief on 2.61 acres – this was upheld by both the Special Commissioners and the High Court where Judge Evans-Lombe observed “it is not objectively required, ie necessary, to keep horses at a house in order to enjoy it as a residence.”

There is also a relief, referred to as a letting exemption, where the gain arises in respect of property which has been the taxpayer’s only or main residence at any time during the period of ownership and the dwelling house, or any part of it is or has been at any time wholly or partly let as residential accommodation.  This was a measure introduced in the 1970’s originally to encourage people to let empty property and empty rooms that they owned.  The relief is limited to the smallest of three figures – these are – the amount that is exempt as a residence gain, the amount of the gain which relates to the letting, and a maximum of £40,000.  For a husband and wife this means a maximum of £80,000 if the house is jointly owned, as it often will be!

In our earlier example, a property owned for 10 years was 80% exempt but the remaining 20% of the gain will be subject to this further £40,000 exemption.  So it is no surprise that ‘buy-to-let” landlords are attracted to the idea of claiming that they had, at some time, resided in the property as their main residence, in order to benefit from the exemption for the last three years and the further £40,000 of letting exemption.

But what is a residence?

How long do you have to live in a property for it to be considered to be a residence?

Can a buy-to-let landlord also get the main residence exemptions?

And what happens if you have more than one residence?

A residence is, according to the dictionary – a person’s home; the place where someone lives – by itself this suggests at least some degree of permanence, and of course the concept of residence is also encountered in a taxation sense when considering whether a person is resident in the UK – and from those cases there is also the suggestion that it is not just where one sleeps, but where one’s home is.

For the vast majority of taxpayers it is self-evident where they reside and, indeed, may have resided for many, many years.  This is recognised in the legislation which, in addition to the last three years of ownership also permits a further absence or absences from the home, the residence, of up to three years for any reason, permits an absence of up to four years where the individual works in an office or employment elsewhere in the UK or is self employed elsewhere in the UK which reasonably requires him or her to be absent from their residence to be able to perform the duties, and also permits any period of absence where a person has an office or employment outside the UK – note self employment is not a reason for this absence.

Now the word to stress here is absence, and absence implies return.  If a person leaves their residence to work elsewhere in the United Kingdom, but sells the property without having returned to live in it they would not normally be able to take advantage of these further exempt periods.  By concession, however, where the duties of employment prevented a person from returning to occupy the property before sale the relief can still be given.  Unfortunately this does not permit the taxpayer to build up a property empire as the legislation also states that these periods of absence only qualify if you have no other place of residence which could qualify as a main residence.

So – if called to work elsewhere in the UK and you stay in hotels, boarding houses, or rented accommodation that you do not own or have a longer leasehold interest in, the further reliefs can be claimed.  But if it is cheaper to buy a house than rent whilst you are away then these further periods of absence cannot qualify.

In a recent case a Mr Moore and his partner, a Miss Archer, bought a property in December 1999, originally intending to live it, she took a dislike to the property and sold her interest in the property to him and he then sold it in 2004.  On the evidence presented to the tribunal it never became his residence even though allegedly he had stayed in the property whilst carrying out improvements.

A taxpayer called Springthorpe acquired a house, renovated it and claimed to live in it whilst this was being done, but then moved into another house with his new partner and let the former property to students.  Again there was no real evidence that he occupied the property as his residence at this time, his post was addressed to his partner’s property, the utility bills during this period averaged £1.90 per week and although an estate agent confirmed that he had been sleeping in the property – “remember the state of your bedroom… covered in pieces of stripped wallpaper… I commented that in the morning you must look like a paper mache man – there wasn’t an item of clothing or bed-linen unaffected by the mess.”

The Revenue obtained information that during this period no council tax had been paid as the local authority regarded it as uninhabitable.  The Tribunal accepted that Springthorpe stayed overnight in the property but that there was no evidence that it had become his residence.

So – how long do you need to live in a property for it to be regarded as your residence? –

Since 1998 the leading case on this topic is Goodwin v Curtis where a man, in the process of selling another property which was accepted as having been his main residence as part of his marriage breaking down had moved into a farmhouse that he had recently acquired from a company he controlled and which he had already placed on the market.  He moved into it and stayed there for 32 days, a little under 5 weeks – the commissioners rejected this and found that he had not intended to occupy it as his permanent residence and this was upheld, on appeal, by the Court of Appeal.  So living in a property for five weeks is probably not enough.

Mr Favell, in a 2010 case, had intended to acquire a house for his son, although did not transfer it to his son until some four years had elapsed when a gain arose on disposal.  Favell claimed that he had lived in the property for a period of 11 months when separated from his partner.  The revenue were able to show that throughout this period it was his son who was shown in Council Tax records as the occupant and had claimed a 25% reduction as the sole occupant, meanwhile housing benefit had been paid to Favell at his partner’s residence and also to a person who was a tenant in the property sold at the time that Favell claimed he lived it.  There was no evidence that he had moved to the property although the Tribunal ruled that had there been evidence of residence the period of 11 months would have been sufficient to make it a main residence.  So – five weeks is not enough but 11 months certainly is.

In another case at this time a Mr Metcalfe owned three properties, claimed that he moved into one in November 2002, although it was furnished he did not install a phone, did not have a TV license as the TV there ‘did not work’, he sold it four months later, and during that period the only outgoing was for electricity of £39.09 – almost all of it a standing charge. The tribunal ruled the evidence fell short of establishing that it had been his residence and there was no indication of permanence.  Note that the legislation does not, itself, require a degree of permanence, but this factor is regarded, by the courts, as implicit in the concept of residence.

In the most recent case, reported a couple of months ago, a Mr Lowrie had bought a property intending to construct two houses on the site, having obtained planning permission in early 2003.  He bought the property in May 2003, installed his household goods there in June 2003, but lost interest in the property because of his sister’s death in Wales.  The property was advertised for sale with vacant possession in December 2003 and sold on 20 January 2004.  On his own admission he spent most of his time with his sister’s family in Wales.  The revenue quoted the following from the judgment in Curtis v Goodwin that I referred to previously – “the principle is that in order to qualify for the relief a taxpayer must provide evidence that his residence at a property showed some degree of permanence, some degree of continuity or some expectation of continuity.”

Can you occupy a property as a residence without living in it?  Occupy is a legal term which is concerned with rights over property to enter into it.  A Ms Bradley claimed that a house her father gifted to her in 1998 in Preston, Lancashire,was occupied by her as a residence even though she never stayed in it as she went to university in Leeds, Yorkshire, the other side of the Pennines.  After qualifying she took a job as a Newly Qualified Teacher in the Leeds area and then sold the house in Preston.  It had been occupied during term-time, by students.  She had never stayed in it, even when it was vacant during vacations. Ownership, by itself, is not sufficient to establish a property as a residence.

What if you own more than one residence at the same time? (Fanfare) – our own dear Queen has some nine different residences which she, or members of her household occupy, at the same time, from Buckingham Palace and Windsor Castle through to Holyroodhouse in Edinburgh, Balmoral in Aberdeen, and Sandringham in Norfolk where the Royal Family spend each Xmas.

If you have more than one residence there are two ways of exempting them – either claim that you live in job-related living accommodation which is a residence provided to you by your employer, in which case another house can be owned and exempted so long as you merely intend at some future time to occupy it.  Ms Bradley had also tried to claim this but her accommodation as an NQT was not provided by her employer and so the house in Preston could not be exempt under this provision.

In my next podcast in December I am going to look in greater detail at this valuable election where taxpayers do own more than one property which is often overlooked but which may be incredibly valuable if used in the right way.

This podcast was presented, written and produced by Paul Soper who asserts copyright therein.  The full text of the podcast can be read at my site taxationpodcasts.com.

For further details of podcast production, particularly if you would like me to create them for you, contact me at Paulsoper, all one word, at mac dot com.

Until next month…