Tax follows ownership of a property is the golden rule of tax planning that too many buy to let landlords forget until too late.
Tax planning starts with buying a property, not trying to reorganise financial affairs to pay less tax a couple of years down the line.
Breaking down the rule to define the component parts explains why considering ownership is so important.
TAX means income tax, capital gains tax and inheritance tax. An owner pays tax on profits and gain proportionate to their ownership of a property. Someone owning 50% of a property has a right to half the profits or gain and pays tax according to their share.
OWNERSHIP means ‘beneficial ownership’, a legal term that comes down to who gets the money when a property is sold or rent is received. The beneficial owner can waive their rights in favour of someone else, but they still remain the beneficial owner.
PROPERTY means a house, flat, land or in some cases, a permanently stationed caravan or houseboat.
Many landlords flounder with tax because they concentrate on the property and not their finances.
The first tax planning decision is whether to own a property as a joint tenant or a tenant in common.
For joint tenants, any share in a property automatically passes to the surviving partner on the death of the first partner, irrespective of any will.
Joint tenants also have a proportion of profits or gain from a property according to their share of ownership. The law lets up to four people jointly own property, so that share is 25%, 33% or 50%, depending on whether ownership is split two, three or four ways.
For tenants in common, that share in a property passes on according to the terms of a will.
Tenants in common can divide up the shares in a property as they see fit - from 1% to 99%, again depending on the number of tenants in common.
Tax effective ownership of a property is looking at which partners pay the most tax and then splitting ownership in percentages that give them the least profit and gain.
In most cases, two or more partners should own a property as tenants in common for the most tax flexibility. Joint tenants can switch to a tenancy in common later if necessary.
Take Andrew and Katie. Andrew earns £50,000 a year, so pays tax at 40%. Katie earns £25,000 a year, paying tax at the lower rate (20%). They buy a property to let and make £5,000 rental profit.
If they split the profit 50:50, Andrew pays £1,000 tax at 40% and Katie pays £500 at 20%. If the shares of ownership are adjusted 90:10 in favour of Kate, she pays £900 tax and Andrew pays £200, saving them £400 income tax on the same profits.
