How the super-rich tax plan when buying £million plus homes
Since the recent lifting of international travel restrictions, it's expected that demand for London's super prime property market will bounce back as the city continues to re-open, workers return to the capital and London once again becomes a hub for entertainment and international business.
However, for super-rich individuals considering high end London properties, all buyers and existing owners of £million plus properties need to consider whether their house buying activity is the most tax efficient way of owning UK property.
Given HM Revenue & Customs' (HMRC) tax treatment of UK residential property, it's essential that super-rich buyers plan carefully in order to mitigate UK tax liabilities including inheritance tax (IHT), capital gains tax (CGT), annual tax on enveloped dwellings (ATED) and stamp duty land tax (SDLT) to name a few. In addition, with the recent passing of the Economic Crime (Transparency and Enforcement) Act 2022, HMRC will be even more vigilant in monitoring the sales of super prime properties meaning that wealthy buyers need to be on top of their tax planning well before they complete on their dream home.
So, how can the super-rich buy a £million plus UK property tax efficiently?
Buying with a mortgage to mitigate IHT
Those buying high end UK properties will need to be aware of their exposure to UK inheritance tax (IHT) regardless of their tax domicile or residence status, or if an offshore company is used. Upon death, the value of UK property in a person's estate, which exceeds the available 'nil rate band' of up to £325,000, will be subject to IHT at a rate of 40%. On a multi-million pound property, this will be an eye-watering figure and can come as a shock to many international buyers.
The options for mitigating IHT liabilities are limited but, with some careful planning, super-rich buyers can potentially lessen their tax load. One way that this is possible is by purchasing a property with a mortgage in place.
It's not uncommon for wealthy individuals to borrow finance as this comes with many benefits, including quick access to capital should wealth be tied up in investments and other illiquid assets like property, art and luxury vehicles. Borrowing finance can also help high net worth individuals to establish a relationship with a financier who may prove to be useful in the future with regards to wealth advice, tax planning, investment and estate management.
With regards to IHT planning, a mortgage is considered a debt against the value of the property. Upon death, the lender would take their loan out of the proceeds of the sale and whatever is left, over the threshold of £325,000, would then be taxed at 40%. If the property was owned outright, with no mortgage in place, then the value of the entire property, minus the £325,000 would be liable for IHT at a rate of 40%. On a property valued at £10m, this would be a significant tax bill of £3,870,000.
The table below shows how much IHT would be charged upon death if a property was owned outright without a mortgage in place:
In fact, a mortgage is a must for those buying a property above £1m or more. If a super-rich buyer were to purchase a £10m plus property without a mortgage in place, then automatically they will not receive any IHT relief, meaning an even larger tax liability on death.
During Q1 of 2022, we have seen a solid demand for super prime properties (those valued above £2m) in the UK with 32% more instructions than in the prior year. The availability of properties to buy has also risen in line with demand (source: TwentyCi, April 2022). Given the buoyancy of the UK super prime market, some buyers will want to move fast in order to secure their dream property. As such, they are more likely to offer a cash purchase, however it is essential that wealthy buyers consider purchasing a property using a mortgage if they wish to mitigate IHT liabilities.
A specialist mortgage broker will be able to help super-rich buyers secure the mortgage that best suits their needs in relation to tax planning. Having close relationships with private banks, a specialist mortgage broker can personally negotiate the most beneficial rates and terms and can use a blend of a client's existing investments to secure a high value, low cost mortgage – in some cases, up to 100% LTV on a £10m UK property. For example, securing a mortgage for some of the property value alongside raising the remaining capital using investments, valuable art works or even cryptocurrency as collateral. The borrower would still benefit from IHT mitigation as the purchase is made in part using a mortgage which is registered at completion.
Borrowing does come at the cost of paying interest to the lender, however a specialist broker, such as largemortgageloans.com (LML), will be able to work out whether this is worthwhile. Circumstances will vary from case to case.
Importantly, only debt acquired to purchase or improve the UK residential property, or acquire other UK assets, will be deductible for IHT purposes. For a non-UK domiciled individual, no IHT relief will be given for such mortgage debt if the cash borrowed is subsequently invested overseas. Non-UK domiciled individuals are often better off acquiring UK property with a mortgage and investing their capital offshore instead if they also want to limit their UK IHT exposure.
Another consideration is life insurance to mitigate against IHT liabilities. To the extent that real estate value is not offset by mortgage debt for IHT purposes, individuals may wish to take out life insurance to cover the IHT liability that will otherwise arise on their death. If individuals do this, they should be advised to take out the policy through a life insurance trust or assign the benefit of the policy to a trust, to prevent the proceeds themselves being subject to IHT. In addition, having a UK Will to cover UK assets, even if an individual is resident/domiciled elsewhere generally means less delays in administering the UK assets on death. Individuals who are married, or in a civil partnership can structure their Wills in a way that allows access to the spouse exemption from IHT so that IHT liability on a UK property can be deferred until the second death.
Given the complexities of the UK tax system, it is always advisable to consult with a tax expert, such as Sopher + Co, who specialise in advising high net worth individuals on their tax affairs.
Owning super prime property in own name, via an overseas company or through a trust – which is the most tax efficient way?
It was previously common practice for the super-rich to purchase UK property via an overseas company, particularly for non-UK domiciled individuals. In fact, according to the Centre for Public Data, close to 250,000 properties across England and Wales are registered to companies or individuals overseas (data from Nov 2021). Truly wealthy families who own UK property often prefer to keep their identities private for personal security reasons and so will own their property via an overseas company or similar entity. Until recently, this was also a tax efficient way of non-UK domiciled individuals owning UK property as the value of the property was recognised in the value of the shares of the overseas company which was outside the UK IHT net. However, following changes in 2017, such foreign company shares are now chargeable to UK IHT to the extent their value reflects the value of UK residential property, therefore making it less tax efficient to purchase property through an overseas entity.
It's a similar story for UK properties owned through a trust. Once considered a tax efficient way of owning property, a trust owning UK residential real estate is now subject to IHT even if the property is held by an underlying non-UK company or the trustees are non-UK resident. IHT charges can occur on adding UK real estate to a trust, whilst it is held by the trust and when it leaves the trust.
As well as the IHT mitigation, personal ownership of UK property typically results in less stamp duty land tax (SDLT) on purchase, although rates are still high at the super prime end of the UK residential property market. The UK's tax regime is designed to discourage corporate ownership of residential properties, through overseas companies for example, so SDLT rates for company ownership of property are higher. For example, overseas companies automatically pay 15% SDLT when buying residential UK property valued at £500,000 or more, whereas buyers purchasing property in their own name will pay a maximum of 12% on properties valued at £1.5m plus. These rates do not include the following additional charges that have been added by HMRC over the past few years; the introduction of a surcharge of 2% for non-UK resident purchasers completing on purchases from 1 April 2021; and a surcharge of 3% introduced in April 2016 for purchasers who already owned a residential property anywhere in the world (and were not replacing their main residence) at the time of completion. ­
Lastly, one further tax to note when buying a super prime property is HMRC's annual tax on enveloped dwellings (ATED). This tax is charged yearly on UK residential property valued at more than £500,000 which is owned by a company. Currently the ATED charge for properties worth between £5m and £10m is £59,100, increasing to £118,600 for properties worth between £10m and £20m and £237,400 for properties worth £20m plus. Importantly, these charges are aimed at individuals who occupy the property and who are also linked to the company that owns it.
Data published by HMRC showed that ATED charges brought in £128m of tax revenue in 2019/20, of which over 80% came from property in London. However, this figure has fallen in recent years, since the previously mentioned changes to IHT and the tax treatment of foreign company shares were introduced in April 2017. As a result, some owners have chosen to 'de-envelope' (when an individual decides to directly own their property rather than through a private company) their UK properties from the companies that own them and hold them in their own name.
Some ultra-high net worth individuals, however, are still prepared to pay ATED and purchase their high value London home via an offshore company as doing so affords them a level of privacy. Property investors/developers will also structure their investments via corporate structures to pay UK corporation tax on their profits (currently 19%, increasing to 25% from April 2023) rather than income tax (up to 45%).
Often the most valuable relief is that for capital gains tax purposes – a subsequent sale or gift of the property will be exempt from CGT if the property is the owner's qualifying main residence, but this is not available if the property is owned via a company or discretionary trust.
A summary of the tax considerations is shown in the table below:
The Economic Crime (Transparency and Enforcement) Act 2022
In March 2022, the UK parliament passed the Economic Crime (Transparency and Enforcement) Act 2022 which requires overseas companies who own UK property to register with Companies House and declare the details of the individual owner, or beneficiary. The idea behind the new rules is to remove any ambiguity around who owns UK property, how they purchased the property and the end beneficiary of any profits should the property be sold.
The details held by Companies House will be available to all, including HMRC who will be keeping a keen eye on whether such companies are abiding by UK tax rules. Therefore, it would be prudent for all overseas companies who own UK property to declare all details, including the beneficiary owner, to Companies House otherwise they could be faced with some very awkward questions, or worse, criminal charges. This applies even if the property was purchased some time ago.
In the spirit of transparency, HMRC will also be keeping track of any transfers of money to the UK by non-UK domiciled individuals. This is to ensure that funds are legitimate and not the proceeds of criminal activity. There may also be tax payable due on those funds.
All of the recent changes to HMRC's tax regimes, along with the passing of the Economic Crime Act 2022, mean that the tradition of the super-rich owning high end properties via a structure such as a private company or trust is becoming less attractive in terms of tax planning. It is becoming more tax efficient and straightforward for super-rich individuals to own property in their own name, particularly when bought using a mortgage.
Of course, there is no 'one size fits all' solution, particularly when it comes to the complexities of the financial affairs of the super-rich. To navigate the maze of decisions, it's always advised that buyers of super prime properties speak to a specialist broker or tax planner well before they make their property purchase to ensure that they receive the most appropriate guidance for their circumstances.
For specialist lending advice, please visit www.largemortgageloans.com
Paul.welch@largemortgageloans.com Telephone 02075194900
For specialist tax planning advice, please visit www.sopherco.com
DanielS@sopherco.com, Telephone 02039260753