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Business Tax  •  Personal tax  •  Property  •  Tax Planning  •  Taxation

Navigating capital gains tax on residential property

By RJP LLP on 27 March 2018

Capital gains tax has become increasingly complicated to understand over the years, as new rules have been added to existing legislation, in order to increase the tax revenues that can potentially be generated. This blog explains what you should know about capital gains tax and residential property to avoid an unexpected tax bill.

Currently there are 4 different rates of capital gains tax and these are applied according to your total taxable income levels.

  • 10% and 20% rates for individuals – these exclude disposals of residential property;
  • 18% and 28% rates for individuals disposing of residential property;
  • 20% for trustees of an estate – excluding residential property;
  • 28% for trustees involving a disposal of residential property.

As can be seen, residential property attracts higher rates of tax than other capital assets.

Given this differential, it’s therefore important to understand how HMRC classifies residential property, to be prepared for the resulting property tax liabilities upon disposal.


Defining ‘suitability for use as a dwelling’

Generally, HMRC’s definition of residential property is in part dependent upon the ‘suitability of a building for use as a dwelling’. The classification of suitability encompasses any building that has been previously used, or is in the process of being constructed or adapted, for use as a dwelling. It also includes commercial property that may previously have been used as a dwelling a long time ago, but which could potentially be re-converted relatively easily into a residential building.

The definition also extends to land that has at some point in the taxpayer’s period of ownership consisted of, or included, a dwelling. Any land that is used or intended to be used with a dwelling (such as a garden or grounds), is therefore classified as residential property, even though it is not technically inhabited.  For this reason, people who have sold off parts of their land associated with a property are liable to pay residential rates of capital gains tax. The exception here is when they can qualify for business property relief.

Another other important factor to consider when establishing the tax treatment of property is how it was used on the date of disposal. If the process of conversion to a dwelling is already underway, residential rates will apply even if it had never been used as such in the past. Consider these three scenarios to see how the rules are applied in practice:

  • A plot of land was previously been undeveloped but a project to build a set of apartments was underway at the time the land was sold. This would be deemed suitable for use as a dwelling even though there was historically never a dwelling on the land and the transaction would be taxed as residential property.
  • An old commercial warehouse is being converted by a developer into apartments, which are being sold off plan. The process of conversion to a dwelling is underway, therefore the transactions are classified as residential property.
  • An orthodontist practice had been running as a partnership business and operating from a residential house converted into a surgery for 30 years. Although the property had not been used as a dwelling for many years, it would be very straightforward to restore the building to its original intended use. HMRC could potentially argue that if the practice is sold to a new owner, they would be required to pay residential rates of CGT on the transaction, because only minimal modifications are necessary to re-create a residential dwelling. In such cases it would be essential to obtain advance clearance before the transaction.


Are there any exemptions to the residential property rules?

There are a few exceptions to these rules about the definition of residential property for a disposal. These include: residential accommodation for school pupils or members of the armed forces; a home for children or people needing personal care e.g. nursing, care homes or hospices, or a prison or hotel/B&B accommodation.

For example, a building used as a nursing home is bought by a developer. She ultimately intends to develop it into apartments, but no formal plans are in place at the time of the transaction. In the meantime, due to a shortage of available funds, the property is reopened as a nursing home and used as such for 2 years. During this time, plans are developed for the residential conversion but the building is eventually re-sold. This disposal is not subject to residential capital gains tax, because at the time of the transaction, the property is being used as a nursing home, which is not treated as a residential dwelling - even though plans are in place. The tax treatment is based solely on the building’s use at the time of the transaction, rather than future intentions.


What this article and the associated examples highlight is that classifying whether a property should be classified as residential or not is often a grey area. It is always worth taking expert advice to ensure you don’t face an unexpected tax liability on a disposal.

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60 Day Deadline for CGT Returns and Tax Payments

If you sell a property and incur capital gains tax on the transaction, you will need to file a tax return and also pay any tax that is due within 60 days of completion, or penalties will arise. Need help with your property taxes? Talk to us.