Times Tax warning on overseas holiday homes

The Sunday Times February 13, 2005

Tax warning on overseas holiday homes Kathryn Cooper The Inland Revenue is targeting people who buy property abroad through a company

MANY people who own properties overseas could be hit by unexpected tax bills running into thousands of pounds.

The Inland Revenue is threatening to crack down on Britons who set up companies to buy homes in countries such as France, Spain and Portugal. The strategy is often used to sidestep local taxes and inheritance laws, but could land homeowners with a painful UK tax bill.

Property companies are meanwhile encouraging people to buy abroad with claims that overseas property will be "tax-free" from April next year, when you will be able to hold it within your pension fund. But while you will then avoid UK tax, you could still be subject to tax in the foreign country.

Peter Esders of John Howell & Co, a law firm, said: "More and more people are buying abroad, especially as returns from buy-to-let in the UK are becoming lacklustre. But not enough people consider the tax implications, which can be extremely complex."

Hundreds of thousands of people are thought to have set up companies to buy property on the Continent. Simon Rees of Price Waterhouse Coopers, the accountant, said: "There are an estimated 500,000 Brits with homes in France and another 400,000 in Spain. It is likely many own property through a company simply to comply with local inheritance laws."

However, the Revenue has them in its sights. Following a recent tax case in the House of Lords, it can treat such buyers as employees of the company and can therefore tax the property as a "benefit in kind" ? as if it were an employee perk.

And the tax bill could spiral. The benefit is based on the property's notional rental value, which could be 8% of the market value. So someone with a property worth EUR150,000 (£103,000) would pay tax on a benefit of EUR12,000 ? equal to EUR4,800 a year at 40% if they are a higher-rate taxpayer. If a group of buyers have set up a company, the Revenue is likely to split the bill among them.

Some homeowners have sold their second homes to avoid the tax. Rees said: "Two of my clients have already sold properties in France and another is considering it because he faces a tax bill of about £50,000."

The benefit-in-kind tax is in addition to any levied by the foreign country. Last year, the Portuguese government clamped down on foreign buyers who were using offshore companies to avoid local stamp duty. It now levies a tax of

5% a year on the value of those properties.

Britons who own homes in France are likely to be hit hardest because they often set up a type of French company called a société civile immobilière (SCI) to get round inheritance laws. Under the law of "forced heirship", your children have fixed entitlements to your property, no matter what your will says. If you own shares in an SCI, it is easier to bequeath the property to whom you choose.

In some cases, SCIs also sidestep France's "wealth tax" of 0.55% to 1.8% on assets worth more than EUR720,000. However, SCIs do not escape corporation tax of up to 33.33% on any income and there may be tax of 16% on any capital gains.

Peter Horn of Blevins Franks, an accountant, said: "We generally recommend that British residents avoid SCIs, given the benefit-in-kind consideration. If they want to ensure their spouse inherits the property, rather than their children, they may be able to set up a ?community marriage regime'. But this may not help unmarried couples."

If you own a French property in your own name, rather than through a company, you must pay income tax of 25% to 48% on any rent. Any gains when you sell are taxed at 16% if you are an EU citizen and have owned the property for less than 15 years, but the gain is reduced by 10% for every year of ownership between 5 and 15 years.

Your heirs will also have to pay inheritance tax of 5% to 40% if they are blood relatives or 60% if they are "strangers", including unmarried couples.

You must also declare any income or capital gains on your British tax return. France has a "double tax" treaty with Britain, so you get a discount for any tax you have paid on the Continent, but if the amount you paid in France is lower than the rate you would pay at home, you have to make up the difference. If you owned your property in a pension fund, you would escape your liability in Britain, but you would still pay tax in France.

Esders said: "Countries like France and Spain do not recognise UK trust law, so people who buy property with their pensions next year will still be liable for tax on income and capital gains in the foreign country."

It has also been common for British people to set up companies to buy Spanish property, but they could also be caught by the benefit-in-kind tax.

If you own property in Spain in your own name, you will have to pay wealth tax on your Spanish assets, with a minimum of 0.2%. Income from Spanish property is taxed at between 15% and 45%. Even if you do not let the property, you must still pay tax on the notional rental value. When you sell, you may have to pay capital-gains tax of 35%, while your heirs face inheritance tax of 7.65% to 34%.

Page 2: Is a pension fund the best home for your property

IS A PENSION FUND THE BEST HOME FOR YOUR PROPERTY?

HOMEOWNERS will be able to put residential property, including overseas homes, into their pensions from April next year. But is this always the right thing to do? We examine the arguments.

What are the benefits of owning property within a pension?

You will get generous tax breaks. Your pension contributions attract tax relief. The government pays 22p for every 78p you invest, taking the total contribution to 100p. Higher-rate taxpayers get a further 18p, so a £100,000 property would in effect cost them £60,000. If the property is let, the rent will be paid into the pension, where it will roll up free of income tax. Any profits when a property is sold will also be free from capital-gains tax (CGT). Outside a pension, only a main residence is exempt. You may also be able to pass your property to your heirs free from inheritance tax if they are members of the same pension scheme.

What are the disadvantages?

If you own an overseas property in a pension fund, you may still have to pay local taxes on any rental income and capital gains. If you stay in the property ? even for a week ? you will have to pay rent to your pension fund, or pay tax on the benefit. So if the property can be let for £100 a week and you stay there for 10 weeks, a higher-rate taxpayer would have to pay £400 ?

40% of £1,000. The trustees of your pension fund have a duty to ensure that the rent is in line with the market.

Remember that if your fund sells a property, you will not be able to access the cash until the age of 50, or 55 from 2010, when you will be able to take

25% of your fund as a tax-free lump sum and use the rest to produce a taxable income.

I already own a second home. Will I be able to put it in my pension next year?

Yes, but you will have to sell it to the pension fund, so you may be liable for CGT on any profits. Your pension fund will have to pay stamp duty on the purchase.

Will I be able to use any pension?

Investors will typically use self-invested personal pension schemes (Sipps). The 6m people who already have standard personal pensions can switch to a Sipp. Another 10m members of occupational pension schemes cannot currently take out Sipps, but this rule will be lifted from April next year.

Will my pension fund be able to borrow?

Yes, the trustees will be able to borrow half the value of the fund. So if you had £100,000 in your scheme, you could buy a property worth £150,000.

Is there anything I can do now?

You can start making contributions. Because of the stringent borrowing rules, you will need a substantial sum in your fund to buy property from April 2006.

If you have a company pension, you can make a free-standing additional voluntary contribution and switch into a Sipp next year. From April 2006, you can contribute the equivalent of all your earnings to your pension, subject to an annual limit of £215,000 a year and a lifetime cap of £1.5m.

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Reply to
sufaud
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"sufaud" wrote

Ermmm - am I missing something, or is this not really very onerous anyway?

Suppose you were making pension contributions of 3,000 per year. Imagine the market rent for the time spent at the property is 1,000 for that year (as for the example quoted in the article, where the property can be let for 100 a week and you stay there for 10 weeks).

Then instead of paying 3,000 "pension contribution" that year, you simply just pay "pension contribution" of 2,000 and "rent" of 1,000 ...

Reply to
Tim

Problem is you get tax relief on the pension contribution, but not on the rent.

When you take the money out of the pension fund, you get taxed on both.

Reply to
Jonathan Bryce

"Jonathan Bryce" wrote

In that case, why did the artcile use the word "or"? :- "... you will have to pay rent to your pension fund, **OR** pay tax ..."

If you have to pay the tax whether or not the rent is paid, then the above sentence from the article is very misleading!

Reply to
Tim

In message , Tim writes

No, if you pay rent, there is no tax to pay. If you dont pay rent, then there is tax to pay.

Reply to
john boyle

"john boyle" wrote

John, how do you then get the rent out of the pension fund with **"no tax to pay"** ? [On the 75%-odd which you cannot take as tax-free lump sum.]

Reply to
Tim

In message , Tim writes

I'm only referring to the tax liability on the individual at the time of occupancy.

Reply to
john boyle

"john boyle" wrote

... which is *zero* anyway - because even if rent weren't paid at the time of occupancy, the tax wouldn't be due until a year-or-so later.

So - what's the difference between "tax paid a year-or-so later" (when rent isn't paid) and "tax paid after retirement" (when rent is paid)? Either way, tax is paid - by the individual - somtime after occupancy!

Reply to
Tim

In message , Tim writes

When it is paid and when the taxable event occurs arent the same thing.

Reply to
john boyle

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