Property tax Essay

Property Tax Coursework:

The given question is about issues regarding property tax, namely income tax, capital gains tax (CGT) and inheritance tax. Property tax can be easily defined as tax, which is payable to the government on yearly basis on the property one owns. Generally, courts fix this tax amount with few allowances and exceptions, depending on particular situations. The above-mentioned elements of property tax will be discussed in accordance to the relevant current laws to advice a client, Mr. Henry. Further analysis will be made considering relevant laws and also the recent reforms, which are available.

The first issue is regarding income tax and whether Mr. Henry would be subject to any liability if he rents out 21 Gower Street. Income Tax is the tax, which an individual is charged with, directly, based on his net income. His income via rent per month would be £1400, which makes his yearly income to a total of £16",800. Every month his mortgage payment is £450, which totals to £5400 yearly.

There is specific amount of tax allowance for an individual known as tax-free personal allowance. In other words if a person earns within a specified amount set by the government there is no tax. For the 2018- 2019 tax year year personal allowance on income tax is given up to £11",850 i.e. the tax rate is 0%. The existing tax year lies within 6 April 2018 to 5 April 2019. However, if a person earns £11",851 - £46",350 yearly his tax is charged on basic rate, which is 20%. A higher rate of 40% tax is levied on those who earn within the bracket of £46",351 to £150",000. Whereas, if an individual earns more than this amount an additional rate of 45% is fixed if his income exceeds £150",000. In this scenario, Mr. Henry’s income would be a total of £16",800 if he rents out. Thus his taxable amount is what is remaining amount after subtraction of his personal allowance, which in this case is £4950.

There are few exemptions for certain kind of income like gift, prize won in bonds, lotteries or any kind of bets or competitions. Even scholarship for education and amount earned from any savings account are examples of exemption. These incomes sources are exempted from taxable income and there is no need for the taxpayer to pay this to HM Revenue and Customs (HMRC).

Another fact given is Mr. Henry’s mortgage payment, which is an expense for him. A deep analysis needs to be done in this area since there have been some changes with old law and there are some recent reforms. Till 2017 financial year, the mortgage amount could be deducted from the rental earning, which was acceptable as allowable expense.

Although, in new law, the percentage of mortgage tax relief is fixed for 4 years until 2020. In 2016- 2017 tax relief on mortgage was 100%, which reduced to 75% for 2017-2018. The relief even further reduced 50% in year 2018- 2019. Chronologically 25% for year 2019-2020 and after year 2020 there will be 0% relief.

Thus from the given statistics it can be seen that if Mr. Henry is to rent out in the financial year 2019 his mortgage relief falls in the 25% of allowable expense. 25% of £5400 is £1350, which means after subtraction of this allowable expense his net taxable amount is £4950-£1350 i.e. £3600. Therefore if he rents out in this year then his income tax is to be paid on £3600. However if he decides to give it for renting in or after year 2020 then no deduction of allowable expense of mortgage will be made.

On the other hand, another issue of Capital Gains Tax (CGT) is raised here in order to decide whether or not renting would affect his CGT if he sells off this property later in future. CGT is the tax, which is to be paid, based on the amount, which is earned after selling off a property more than the buying amount. This can be referred to as profit or in other words the amount, which is gained from the capital by disposing it in higher value than purchasing value. In this regard, property’s worth is given as £850",000, which means if he sells it off, the capital gains amount o will be what is remaining after purchase value deducted from current value, which is £550",000. The CGT Rate in the United Kingdom is 28% for those earning above basic band rate and those who are earning less than that the charge rate is 18%.

The government has a certain amount fixed as CGT allowance and currently for the tax year 2018-2019 yearly £11",700 will be exempted from an individual’s gained amount or capital gains. In addition, if the yearly exempted amount is not used then the individual will not be allowed to allocate this to any other person neither can it be carried forward.

His CGT will be charged on allowed exemption amount i.e. £11",700 deducted from his gained amount i.e. £550",000. Therefore his taxable capital gains tax amount is £538",300, but the fact that he lives in this property means he will not be subject to CGT. This is his main residence and only property at the very moment, so he will not be required to pay CGT. This is called the Principal Private Residence (PPR). A recent relevant case is Clarke v Revenue and Customs Commissioners where the requirements of main residence were brought into light more specifically. It can be taken from this case that when deciding to buy or move into another property the purpose is a very important factor. Another relevant case is Goodwin v Curtis where a farmhouse was not allowed, as permanent residence. This was due to the occupation being temporary and that there was absence of permanent staying or living in it enough to consider it as main residence.

Alternatively, if the owner did not occupy his property/main residence during the time of his ownership, CGT might be applicable for him. If however, he choses to rent out a large proportion or allows the property to be used for business or commercial purposes then this exception of main residence will be void and he will have to pay CGT. If there is an insignificant portion of the property, which was rented to a lodger who shares accommodation and eats with them, then there is no CGT in disposal of the property. If a significant part of the property is let out or rented then principal private residence (PPR) will only be allowed for the portion the owner lived in it will be calculated based on the period it was rented for.

There are few other additional exemptions for CGT relief. For example providing gift/aid to charities or even financially supporting sports clubs. Even, transferring the property between spouses, civil partners also apply for exemption. Sometimes, allowance is provided due to any form of injury like personal injury, professional injury or even damages. There is exemption for specific private motor cars/vehicles, prize won in lotteries or amount won by betting.

Furthermore, if Mr. Henry lives in 21 Gower Street and purchases a new property with an intention of renting it, his CGT will be affected in a few ways. As discussed above, if he continues living in his current main residence i.e. 21 Gower Street, he will not be subject to CGT for this property because of principal private residence (PPR). Renting to a lodger will still allow him for PRR exemption but for renting a large part or portion of 21 Gower Street MR. Henry may be subject to paying CGT even for his main residence. (Clarke v Revenue and Customs Commissioners ).

Considering, his plan on buying another property to rent out, he will have to pay full CGT. The taxable CGT amount can be calculated by subtracting CGT exemption amount, allowed by government annually (£11",700) from the value of capital gains or profit after selling the new property In the case of Taylor v Good it was held that, no evidence was there which showed that he was engaged in trade and thus he was subject to CGT and not for trade. The transactions of the taxpayer were held not related to trading in the case of Salt v Chamberlain. The new property he will buy will be considered as trading/ commercial use since he does not plan to live there and therefore it will be subject to CGT on the gained amount. Another important matter to be considered is that the exemption amount, which remains unused, cannot be carried forward.

The second issue of the question is about inheritance tax. This type of tax is defined as the tax, which is to be paid on the estate, like money, any kind of belongings or possessions of an individual after his death. However, there are certain exceptions for which there is no need to pay inheritance tax. There is a fixed or allowed threshold for inheritance tax, which is £325",000. For exemption of inheritance tax, any remaining extra estate above this amount can be donated in charity, or given to civil partner or spouse and even if it is given to support any amateur sports club.

Other exemptions include gifting or transferring the home to own child or grand children. In these scenarios, allowed exempted threshold will be increased to £450",000. For married couples or for civil partners if the allowed threshold is not used then this amount can be summed up and a total of £900",000 will be the partner’s threshold. Generally, 40% is the fixed tax rate for inheritance tax, which is levied on the amount, which exceeds the allowed threshold.

In this regard, if Mr. Henry transfers 21 Gower Street to his daughter, exemption for giving away the home to his own child will increase the threshold to £450",000. For the remaining amount after this increased threshold, the daughter will be subject to inheritance tax on 40% tax rate. Another essential exemption, which is relevant in this scenario, is the ‘taper relief’. This relief will decrease the 40% tax rate on inheritance tax, based on the time of death and this will also be charged after death. If the person dies within 7 years after giving the gift (above £325",000) inheritance tax has to be paid to HMRC. This is also known as the 7year rule and for each year there is a change in tax rates.

After passing on the property if the person lives for 7 years then there is no need to pay inheritance tax, and if he dies before 3 years then full inheritance tax must be paid. This is known as taper relief and there is fixed scale of tax to be paid for each year the person lives before his death.

Elaborate the 7year rule chart

Ways of transfer since he wants to stay (Trust, Will?)

Other ways to minimize Inheritance tax liability


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