Income from jointly owned property.

[ASB]

My partner and I (unmarried) own a rental property (until recent my PPR). She owns 20% and I own 80%.

This is becoming effective now through a deed of trust.

The reason for her getting a 20% share of my property is because I end up with a 50% share in her house (I am being added to the mortgage and the capital contribution I am making only amounts to about 35% of the value. We will be tenants in common here; the lenders are only really happy with us holding this 50/50 not in any other percentage). The 20% of my property gifted to her rebalances.

Intuitively the rental income should be split 80:20 in my favour; unlike a married couple where the split is 50/50 unless allocated otherwise via a form 17.

It so happens that she is a 20% taxpayer and I am a 40% taxpayer.

Obviously in an ideal world she would get all the income, profit should be about 8k and this would save about 1.5k in tax.

HMRC set out their stall - stating that it can be varied - here: PIM1030 - Introduction: jointly owned property & partnerships

The relevant passage being (my emphasis):-

Jointly owned property - no partnership
Where there is no partnership, the share of any profit or loss arising from jointly owned property will normally be the same as the share owned in the property being let. But joint owners can agree a different division of profits and losses and so occasionally the share of the profits or losses will be different from the share in the property. The share for tax purposes must be the same as the share actually agreed.

However, where the joint owners are husband and wife, or civil partners, profits and losses are treated as arising to them in equal shares unless:

This seems to imply that I can do what I would like. So, whoopie 99:1 split in her favour.

But this all seems a bit too convenient......

How can I document the income share. Is a simple note agreed and filed good enough, or should it be executed as a deed of trust.

And settlements.

Is it a gift of income? Possibly not, she has other rights. The right to some of the capital on a sale for example. And she has other obligations. Perhaps conferring the rights over the capital and the rights over income in the same deed of trust might be a way forward.

Is there a retained interest? Hmmm..... The rent will be paid into my bank account. From here I will pay her share into her bank account. Then she will waste it on frivolous things like council tax and electricity and food.

I've asked my solicitor and he will be getting back to me, also I will be taking appropriate advice in the fullness of time; but I would like to try and figure out if it is a non starter or not.

[TheCyclingProgrammer]

I'll let somebody else comment on the legals of changing the way the profit is shared, but...

And settlements.

Is it a gift of income? Possibly not, she has other rights. The right to some of the capital on a sale for example. And she has other obligations. Perhaps conferring the rights over the capital and the rights over income in the same deed of trust might be a way forward.

The first question you need to consider is whether or not the transfer of income is a settlement in the first place.

The transfer of the 20% share in the house probably doesn't constitute a settlement as you got something of what I'm assuming is equivalent value from her (a share in her property) so its hard to argue that there is any element of bounty in that transaction. The fact that the share of the property is also more than a gift of income is also true, but not really relevant unless you're considering the spouse exemption which doesn't apply here anyway.

However it may well be that the change in profit allocation itself could constitute a settlement of income in its own right. For a similar example: think about how a transfer of shares in a company between spouses can be exempt from the settlements legislation, but that dividend waivers can be caught in their own right, separate to the underlying share transfer.

For argument's sake lets say that the profit allocation is a settlement in its own right, the next question is whether or not it should be taxed on you, which leads on to...

Is there a retained interest? Hmmm..... The rent will be paid into my bank account. From here I will pay her share into her bank account. Then she will waste it on frivolous things like council tax and electricity and food.

As the settlement in question is that of the income and not the share in the property, then you need to show you (of your spouse/civil partner) retain no interest in that income.

Having it paid into your bank account doesn't necessarily mean you retain an interest but it weakens your case considerably if investigated IMHO. If the vast majority of the rent should go to her, then you'd be on much safer ground having it paid into her account and having her transfer your share back to you IMO.

Beyond that issue, if the money is going to her and none of her share is making its way back to you in any way shape or form, and because she isn't your spouse, its hard to see how you would be caught.

Having said that, that's just my view. Some people hold the view that even if none of the money comes back to you, you still benefit in such a way (due to shared financial commitments, tax saving etc.) that would mean you retain an interest in the income. This is not my view. My reasoning for this is that if simply having shared financial commitments was enough to "retain an interest", then that would make it difficult for spouses to share income/property in this way (because the spouse exemption still requires an outright gift which means no retained interest or benefit to the giver). But we know that's not the case.

Some possibly relevant discussion here:
http://www.accountingweb.co.uk/anyan...enquiry/506297

I've asked my solicitor and he will be getting back to me, also I will be taking appropriate advice in the fullness of time; but I would like to try and figure out if it is a non starter or not.

Your solicitor might be able to help you on the settlements issue but ideally you need to speak to an accountant or tax advisor that specialises in settlements issues.

[TheCyclingProgrammer]

There is an example here from HMRC:

TSEM9923 - Ownership and income tax: Specific types of property: land and buildings: example 3: sole name - Settlements legislation

When I initially read this, I assumed that once spouse was treated as retaining an interest because their spouse was benefitting. However the wording of the example seems to suggest that HMRC consider the property owner to "retain an interest" because they retain interest in the underlying property, even though the gift is that of income. So this could potentially apply to unmarried partners too for that reason.

So there is still a chance that this could be challenged.

I think not being married possibly reduces your chance of investigation but the above example makes me think that HMRC would argue that s624 applies.

[ASB]

The transfer of the 20% share in the house probably doesn't constitute a settlement as you got something of what I'm assuming is equivalent value from her (a share in her property) so its hard to argue that there is any element of bounty in that transaction. The fact that the share of the property is also more than a gift of income is also true, but not really relevant unless you're considering the spouse exemption which doesn't apply here anyway.

In terms of the transfer of the 20% beneficial interest in the house I wouldn't expect that to be a problem. It is not a gift with reservation. I retain no ongoing interest in that 20%. I believe it would (or should) simply be a potentially exempt transfer.

I also believe the same to be true with the fact that I become a tenant in common with her in her property.

There are potential IHT implications in the event of an unplanned demise within the next 7 years. My estate can cross that particular bridge if necessary.

I had not really considered the concept of the exchange in the terms you describe.

As the settlement in question is that of the income and not the share in the property, then you need to show you (of your spouse/civil partner) retain no interest in that income.

Having it paid into your bank account doesn't necessarily mean you retain an interest but it weakens your case considerably if investigated IMHO. If the vast majority of the rent should go to her, then you'd be on much safer ground having it paid into her account and having her transfer your share back to you IMO.

Beyond that issue, if the money is going to her and none of her share is making its way back to you in any way shape or form, and because she isn't your spouse, its hard to see how you would be caught.

In terms of the bank account I see the point. The likelihood is that I would probably in fact open a separate current account into which income from the property and expenses were disbursed. The relevant shares would then be dispersed to me and her. However, this is not without pitfalls. Implicitly we would be joint tenants in the banks account as a matter of law (at least that is my understanding).

However, my concern is that whilst I have no specific interest in the property (i.e. her share of the income) I rather suspect that HMIT would make an argument that I retain benefit because it reduces my contribution to the joint household. This can only occur because she has this income.

[TheCyclingProgrammer]

However, my concern is that whilst I have no specific interest in the property (i.e. her share of the income) I rather suspect that HMIT would make an argument that I retain benefit because it reduces my contribution to the joint household. This can only occur because she has this income.

See my edited post above on how HMRC would probably take the simpler route of arguing that s624 applies because you still retain an interest in the underlying property.

That said, I don't buy the argument that benefitting from a reduced contribution to household finances makes you "retain an interest". I do see how the legislation could be interpreted that way (because it is quite broadly worded) however like I said, if this was the case, why didn't HMRC pursue this line of attack in the Arctic case? (once again, the spouse exemption only applies to outright gifts and an outright gift is defined as one where the giver does not retain an interest or benefit in some way).

In short, I don't think they'll take that approach, I think they'll take the retained interest in the property angle, if they challenged it.

[ASB]

See my edited post above on how HMRC would probably take the simpler route of arguing that s624 applies because you still retain an interest in the underlying property.

That said, I don't buy the argument that benefitting from a reduced contribution to household finances makes you "retain an interest". I do see how the legislation could be interpreted that way (because it is quite broadly worded) however like I said, if this was the case, why didn't HMRC pursue this line of attack in the Arctic case? (once again, the spouse exemption only applies to outright gifts and an outright gift is defined as one where the giver does not retain an interest or benefit in some way).

In short, I don't think they'll take that approach, I think they'll take the retained interest in the property angle, if they challenged it.

Thank you for the links. At least I have the questions clearer in my mind. I think I would be safer if the formal ownership at the LR was between myself and my partner. However I cannot do this because the mortgagor won't allow it.

On balance it would seem there is some risk to the approach I propose, but not a huge downside if it is challenged and I lose the argument. It wouldn't be worth going to an FTT on.

Depending upon the legal advice I receive I think I am probably minded to simply split the rent 50/50 and hope for the best. That is the approach that is taken with a married couple by default, irrespective of the ownership.

[TheCyclingProgrammer]

Yes, if you do do it, taking a less aggressive split and keeping track or your potential exposure if challenged would be prudent. That would obviously be the extra tax owed (an extra 20% presumably) plus interest. Not sure if HMRC would charge a penalty as well.

[minstrel]

Another option you could consider is using an LLP.

You and your partner could be partners in the LLP (80/20 split if you want) and you could transfer the beneficial interest in the property from you personally to the LLP via a declaration of trust.

You are then effectively making a loan to the LLP for the non-mortgage equity in the property on which the LLP can pay you interest. If you pay yourself a low salary, £2,710 interest will be taxed at the starting rate for savings of 10%.

The LLP can then pay your partner a salary of around £5k to use up the remainder of the rental profit.

[ASB]

Another option you could consider is using an LLP.

You and your partner could be partners in the LLP (80/20 split if you want) and you could transfer the beneficial interest in the property from you personally to the LLP via a declaration of trust.

You are then effectively making a loan to the LLP for the non-mortgage equity in the property on which the LLP can pay you interest. If you pay yourself a low salary, £2,710 interest will be taxed at the starting rate for savings of 10%.

The LLP can then pay your partner a salary of around £5k to use up the remainder of the rental profit.

I shall research thst idea. I know hmrc can be a bit funny about whether there is really a partnership when it is solely property.

[minstrel]

I shall research thst idea. I know hmrc can be a bit funny about whether there is really a partnership when it is solely property.

Just to add, I was given this idea by a FCA CTA with 20+ years experience.

I think the downside is the additional admin setting up and running an LLP. The accountancy fees could easily wipe out any tax gain unless you are confident enough to do most of it yourself.

The model probably also works better with a few more properties in the portfolio.

The bit I find most attractive is the fact that the LLP is a separate legal entity, so it's easy to have clean separation between your property "business" and you personal tax affairs.