Estates Gazette: Charting the tax landscape

It is probably fair to say that non-resident investors have borne the brunt of the changes affecting the tax landscape for investors in UK real estate. They may be forgiven for feeling slightly persona non grata as far as the Treasury is concerned.

Capital gains

The imminent change affecting non-UK resident investors in UK real estate (effective from April 2019) is the new charge on capital gains. It is a significant change for those non-residents investing in commercial property in particular, who until now have not generally been exposed to capital gains tax (CGT)/corporation tax on sales of genuine investment assets. Of course, the rules are not retrospective, so for commercial investors, it is only gains arising from April 2019 which are taxed. The April 2019 changes are less significant for offshore owners of residential property, as they have generally been paying gains tax since 2013 or 2015, depending on their tax profile.

It has to be said that the UK rules have historically been very generous in this area (certainly when compared to most other European countries and the US) so the gains tax changes when announced were not entirely surprising. What was more surprising were the rules taxing the sale of shares in “land-rich” companies to stop investors getting around the rules by the simple expedient of selling shares in the property-owning company.

In broad terms, if at least 75% of a company’s gross assestates gazetteets comprise UK land, then a sale of shares by a substantial shareholder (normally at least a 25% shareholder) will be subject to UK CGT or corporation tax. This is subject to certain exceptions (including where the land forms part of a trade carried on by the company, eg a retailer or hotel operator) and the more complex rules for funds (which do away with the 25% minimum shareholding requirement, and introduce certain elections for transparency or exemption).

Corporation tax

The second major change for offshore corporate landlords will come into force in April 2020, when they are brought within the UK corporation tax net. Currently, both commercial and residential investors are liable to income tax at 20% on rental profits arising in the UK – so, on the face of it, being brought within corporation tax (with its headline rate of 19%, forecast to fall to 17% in 2020) is no bad thing.

Of course, the change is not being made to make life easier for the non-resident landlord. Rather, the desire is to bring such landlords within the more restrictive corporation tax computation provisions. For larger landlords and groups (given there is a £2m net interest expense de minimis), the most relevant (new) restriction from 2020 will be the corporate interest restriction (CIR) rules, which can either deny or limit deductions for interest payments on borrowings. Certainly, the potential advantages of using interest-bearing mezzanine shareholder debt are likely to fall away from 2020 for those caught by the CIR rules.

Stamp duty land tax

More recently, the government has issued a consultation regarding a new 1% stamp duty land tax (SDLT) surcharge for non-residents acquiring residential property. The policy intention is to put non-residents at a slight disadvantage when competing with UK residents for homes – and so, very simply, a non-resident individual will pay an additional 1% SDLT on each “slice” of the price when computing the SDLT due. Note that the proposed definition of non-resident will have a specific SDLT definition and is nothing to do with the statutory residence test. The 1% surcharge will apply on top of the “additional 3%” (which most landlords will almost certainly be within) – so the top rate of tax for residential investors on the “slice” of the price above £1.5m will be 16% when the rules come into force.

For offshore investors involved in purchasing residential units on a larger scale, the 1% surcharge may be less significant. While it will make SDLT multiple dwellings relief (MDR) claims less valuable, the existence of the additional 3% rate will often mean it is not worth claiming MDR anyway (ie it is better to simply pay the non-residential rate of SDLT (circa 5%) where six or more residential units are acquired as one transaction). The precise definition of residential property will be important here; although, given that the desire is to create a “simple” tax, it is hoped that HMRC will simply follow the definition used for the additional 3% rate, which does not generally include purpose-built student accommodation, for example.

Capital allowances

Moving away from non-residents, a piece of good news for investors is the (hot off the press) publication of legislation for the new Structures and Buildings Allowance (SBA). While capital allowances have been available for many years for plant and machinery comprising “integral features” in a non-residential building, this has not included expenditure on the construction of the building itself. As the name would suggest, this new relief – a flat 2% tax allowance based on the construction expenditure – is to fill this gap (and applies for any construction work which started after 29 October 2018).

These allowances can also be passed on to a future buyer. The slight caveat to this otherwise positive news is that the rate of capital allowances for expenditure on integral features is falling from 8% to 6% from April 2019 (so there is an element of giving with one hand but taking with the other).

Factor in the changes

One final note for property lawyers: remember that the time limit for filing SDLT land transaction returns is now only 14 days. This will no doubt create a few challenges, particularly where schedules need to be prepared on larger-scale purchases.

Clearly there are some big changes coming up, and non-residential investors especially should ensure that the impact of the changes on structures is properly assessed. Some of the changes will undeniably make the tax costs of doing business in the UK more expensive – eg gains tax on exit from April 2019 and the more restrictive computation provisions for corporation tax from 2020 should both be factored into any tax modelling.

However, it’s not all bad news – the headline rate of corporation tax is falling and new reliefs such SBAs are good news for any investor wanting to construct non-residential property in the UK. And, of course, ignoring tax, the underlying attractiveness of the UK as somewhere to invest (particularly for non-residents) remains.