Reducing capital gains tax on investment properties

Simple strategies to slash your capital gains tax bill

We all hate paying taxes, and capital gains tax is one of the cruellest. You work hard, invest wisely, and then when you sell your investment the government takes a wedge of your profit away from you. Here I look at a couple of investment strategies to reduce capital gains tax payable by the property investor.

What is capital gains tax on the investment property?

Whenever you sell an asset, be it shares, property, or something else of value, you will be liable to pay tax on any gain you’ve made. So if you buy a property for, say, £200,000 and then sell it for £250,000, the government will tax you on your £50,000 gain (less allowances).

The rate at which you pay capital gains tax as a property investor will be either 18% or 28%, depending on what your personal tax position is. So, on that £50,000 gain, you could lose £14,000 by way of capital gains tax on investment property. That’s a big slice of your profits gone.

Fortunately, there are ways you can reduce capital gains tax.

What a financial advisor will tell you

If you talk to a financial advisor, he’ll tell you about capital gains tax. When you tell him you’re thinking about investing in residential property because it’s the gilt-edged investment that shares aren’t (see my investment blog top 4 tips for the property investor to make the best property investment decisions), you’ll be told that the two best ways to avoid capital gains tax is by investing in an Individual Savings Account (ISA) or in a pension. Then you’ll be told that residential property can’t be held in either investment vehicle.

While all this is true, don’t let the financial advisor’s scare stories about capital gains tax put you off property investment. Paying tax on a 300% gain is better than paying no tax on a 12% loss – that’s how UK houses have performed against the UK stock market over the last 17 years.

What the property investor needs are ways to reduce capital gains tax on investment property, while at the same time benefitting from property’s superior capital growth rates.

Strategies to reduce capital gains tax

There are a few strategies that you can use to reduce capital gains tax when investing in property. Some are borrowed from general investment advice, while others are specific to the property.

Strategy 1: Use the Principal Private Residence Relief

If you sell your main residence (the home in which you live), you won’t pay any tax. But if you sell a home in which you used to live, you’ll be able to claim Principal Private Residence Relief to reduce capital gains tax based on the proportion of time you lived there. This is particularly useful for people who are let-to-rent property investors.

Strategy 2: Maximise capital gains tax allowances

Every person in the UK gets a capital gains tax allowance of £11,100 (2016/17 allowance). By applying this allowance to the capital gain you make when you sell your investment property, you’ll avoid paying capital gains on the first £11,100 of gain. In our example above, this will reduce capital gains tax liability from £14,000 to £10,892. That’s a great start, but let’s see if we can’t get that down some more.

If you’re married, you are allowed to transfer ownership of property to your spouse without a capital gain occurring (providing you don’t transfer the mortgage). By putting the investment property in joint names, you’ll reduce capital gains tax on investment property even further. You’ll have £22,200 of capital gains tax allowance to use. Now your CGT bill will be £7,840, instead of £14,000.

Strategy 3: Time your investment property sales

Okay, so let’s say you own several investment properties, and you want to sell two of them. Let’s assume that the capital gain on each is £50,000 and that you are a higher rate taxpayer. If you sold both properties at the same time, you would be liable for capital gains tax of £28,000.

So, first you decide to gift half of the properties to your spouse. That reduces the combined CGT liability to £21,784. But if you time your sales to occur across two tax years (one before April 5th and one after April 6th), you’ll reduce your tax bill even further. Instead of using the combined tax allowance once, you’ll use it twice, and your CGT liability will fall to just £15,568 – saving you a whopping £12,432!

Strategy 4: Set up a limited company to invest in property

Depending on your property investment strategy and your tax position, you could take advantage of the tax benefits of setting up a property investment limited company. For example, if you are a higher rate taxpayer and:

  • expect to buy and sell properties on a regular basis;
  • invest the proceeds from one sale into the next purchase;
  • take income from rent

you could reduce your effective capital gains tax rate from 28% to 20%, and reduce the amount of tax you pay on rental income by taking dividends.

How to make sure you pay as little CGT as possible

If you’re a property investor and considering selling properties, don’t let the taxman steal your profits from you. Speak to an advisor or tax specialist who knows about capital gains tax on investment property. If your current advisor isn’t experienced in property investment, then get in touch with us here at Gladfish or call the team on +44 (0)207 923 6100.

While it’s a necessary evil, we hate paying tax just as much as you do, and we’re also property investment experts. We’ll help you to figure out the strategies that will reduce your capital gains tax liability now and in the future – it’s never too soon to plan for tax to make as small a dent as possible in your property investment profits. And if you’re an experienced investor who has found a neat tax-reducing strategy, let us know!

Live with Passion and fun,

Brett Alegre-Wood

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