UK Tax Changes Impacting Real Estate
Simon Vardon, Director, Real Estate
UK Budget Autumn 2017 – Considerations for Real Estate
On Wednesday, 22 November 2017, the Chancellor of the Exchequer, Philip Hammond delivered his latest budget to Parliament. This was his second budget of 2017, having delivered a Spring budget on 8 March. The Chancellor has announced previously that his preference is for an Autumn budget as part of the new annual tax policy making cycle. This briefing provides a summary of some of the key announcements which will impact upon real estate, together with some of the early reaction we are seeing.
Overseas investors to be taxed on gains made from UK property
An unexpected, but major change to the taxation of gains made by non-residents from UK commercial property is set to commence from April 2019. The Government has announced a consultation on this subject.
Previously, overseas investors were taxed on their net-rental income receipts under the non-resident landlord scheme and gains upon disposals were not taxable for non-residents.
The rules would apply to gains realised from April 2019 onwards and apply to both:
- Direct asset disposals; and
- Indirect disposal gains of “property rich” entities.
Gains will be taxed at either the capital gains tax rate for individuals or the corporation tax rate for companies (which is expected to fall to 17% by 2020).
There will be certain exemptions for entities exempt from Corporation Tax (such as pension funds).
Existing UK commercial property held by overseas investors will be rebased as at April 2019.
Non-resident landlords taxed under Corporation Tax from April 2020
The Government had announced in the Spring budget that non-resident landlords would become subject to Corporation Tax (instead of Income Tax), but had not confirmed the date of transition. The Chancellor has confirmed that this will take effect from April 2020, possibly later than expected.
Whilst this does mean that non-resident landlords are currently taxed at 20% (a higher rate than Corporation Tax), one consequence of the extended period prior to transition is that the changes introduced to Corporation Tax to comply with the OECD BEPS Actions, will only impact non-resident landlords from April 2020. The delay with Action 4 (Interest deductions) impacting non-residents could provide some
short-term upside, for overseas investors.
From April 2020, any gains arising under Non-resident Capital Gains Tax (e.g. gains from residential property disposals) will be chargeable to Corporation Tax.
Stamp Duty Land Tax
The Chancellor has announced that Stamp Duty Land Tax for first time buyers is set to be abolished up to the value of £300,000. For first time buyers buying property up to £500,000, the first £300,000 is exempt from Stamp Duty Land Tax and the remaining value between £300,000 and £500,000, will be taxed at 5% . This was an expected announcement and the change comes into force immediately.
Overseas investor Capital Gains Tax :
The introduction of taxation to gains arising from disposals of UK commercial property for overseas investors is a significant change. It aims to bring parity to the taxation of UK and offshore entities holding UK commercial real estate.We make the following observations:
The proposal has the potential to dampen the appetite from overseas investors into the UK real estate market, which could add further volatility to a market already impacted by the ongoing Brexit process.
We are likely to see a rush for value-add projects to be completed by April 2019, in time for the rebasing.
Should pricing reactions transpire as a result of the impending taxation change then the exempt investors, such as pension funds may well be the best placed to benefit.
It is, however, important to note that the proposed changes do not mean that investors are suddenly sat on taxable gains and the rebasing in April 2019 greatly reduces the short-term impact for investors currently holding UK commercial real estate.
It is also very important to note that the changes are part of a consultation which runs to February 2018. Whilst the policy is not expected to change, it is very likely that a number of refinements and clarifications will be made subsequent to the consultation. It is therefore important that investors, asset managers and fund managers proactively partake in the consultation.
The current proposals infer that exempt investors such as pension funds will be treated differently depending on whether they invest directly or indirectly. In addition, the list of exempt investors could be influenced by the consultation. The proposals at this time do not provide enough clarity for collective investment vehicles and funds in relation to how the proposed 25% interest is calculated, since the connected party/acting together test applies and therefore, how should this be interpreted for fund investors?
Early thoughts are that the anti-forestalling provisions and incoming implementation of the BEPS Actions (in particular Action 6 focused on Treaty Abuse) across OECD jurisdictions scupper any knee-jerk reactions that a jurisdiction such as Luxembourg, offers a circumvention.
Many industry practitioners foresee an increase in REITs as a vehicle of preference in the future, but the outcome of the consultation is required before this position is clarified. Although REITs are UK tax resident, the most cost effective approach for many will be the use of an offshore structure, that is UK tax resident and utilises a listing on a recognized exchange such as the TISE (The International Stock Exchange), avoiding the costs associated with a main-market listing, whilst tapping into the wealth of real estate investment expertise that is situated in Financial Centres such as Jersey or Guernsey.
Non-Resident Landlords to CT in 2020:
The delay until April 2020 for the taxation of non-resident landlords to fall into the Corporation Tax regime, means that the implementation of various BEPS-related legislation within Corporation Tax, will not impact non-resident landlords for a little longer than anticipated.
Owing to the relatively high LTV’s associated with real estate investments, non-residents will likely benefit from the delay of the impact of Action 4 of the BEPS proposals, which, from April 2020, for those groups that make use of internal finance will see the quantum of interest that can be deducted in the tax computations limited to 30% of EBITDA subsequent to April 2020.
With the Chancellor having previously set-out the Corporate Tax rates for the next three years, non-resident landlords will currently be subject to a higher tax rate (20%) compared to 19%, for the next two years.
Stamp Duty Land Tax:
A cynical market?:
Whilst the concessions for first-time buyers in relation to SDLT hit the headlines, it is possible that the market will see a pricing adjustment that leaves first time buyers in a similar situation. It may be that the supply-side action on the number of homes being built is ultimately the only way to make a meaningful dent to housing affordability for first-time buyers.