While you probably won’t be able to avoid capital gains tax (CGT) completely if you sell a buy-to-let property (BTL), there are some ways to cut the amount of CGT you will need to pay when you sell the BTL at a profit.
You can reduce the amount of capital gains tax you pay on property sales that are not your primary residence, by utilising your tax-free allowance, taking joint ownership with a spouse, deducting relevant costs, setting up as a limited company and checking if you qualify for private residence relief.
Ultimately the best way to minimise your capital gains tax bill is to make sure you know the rules that relate to CGT and BTL property and stick within them.
As the rules around CGT can get quite complex, plus for basic-rate income tax payers the sale could take them into the higher rate tax band, it might be better to get professional tax planning advice and guidance on how to lessen the impact of CGT on the sale of BTL property.
At CloudCo we are on hand to help with your buy-to-let financial affairs from our Property and Buy-to-Let Accountants.
Read on to find out more…
Why do you pay capital gains tax on buy-to-let property?
The owner of a buy-to-let (BTL) property will be liable for capital gains tax (CGT) on the “gain” (profit) from selling the property.
It is the same when other valuable assets are sold (e.g. things over £6,000, including jewellery, artwork, shares, but not your car) and when the seller has made a profit.
CGT liability can be owed on residential property, but usually no one pays CGT on the sale of their main place of residence (where private residence relief applies).
The way to report and pay CGT on a buy-to-let property changed in April 2020; it was amended on 27 October 2021 (from 30 days to 60 days).
Since 2020, reporting the gain made on the property should not be held off until next tax year, but rather more or less reported and paid immediately (within 60 days of the completion of the sale).
So, you have 60 days to calculate, notify and pay the correct CGT you owe HMRC, which is not a very long time.
Beware: you may have to pay interest and a penalty if you fail to notify HMRC of the sale within the same tax year.
As an example, this means that had you sold your rental property in March 2020, you wouldn’t have had to notify HMRC and pay CGT until your 2020/21 tax return was due and you’d have reported it on your self-assessment tax return.
But NOW, if you sold a rental property on 28 October 2021, you should have completed the necessary paperwork and made your payment to HMRC by 27 December 2021.
That’s a time reduction of nearly nine months; but an improvement on the initial legislation of April 2020 which only gave 30 days!
How is CGT calculated on buy-to-let property?
Most buy-to-let properties will be subject to capital gains tax (CGT). CGT is charged at 28% (for higher-rate taxpayers) or 18% (basic-rate taxpayers) on any profit made on the value of the property since it was purchased.
Basic rate taxpayers hopefully will have worked out carefully or sought some professional tax planning advice from an accountant before they decided to sell a BTL property: as the gain or profit from selling a BTL will be added to your income, the sale could push you into to higher-rate tax band.
As every taxpayer has a tax-free capital gains allowance of £12,300 (2022–23), CGT is only due on the gain over this threshold.
There are also allowable costs the owner/seller of the BTL can offset, including:
• Stamp duty from your original purchase
• Solicitor fees from selling the property
• Estate agent fees from selling the property
• The cost of any capital improvements – including an extension, work to improve energy efficiency, a new kitchen
Property owners are not allowed to offset outgoings such as upkeep of the property or mortgage interest payments.
Do I pay capital gains if I reinvest the proceeds from sale?
Yes, you will pay CGT even if you sell your BTL property and immediately reinvest the proceeds of the sale into another property.
But CGT is not charged on the total proceeds from the sale of your BTL property: you minus the sum you paid for the property 10 years ago, plus you can offset costs like solicitor’s and estate agent’s fees and stamp duty.
Another way you could consider if you wish to continue to invest in property is to put money into a Real Estate Investment Trust (REIT).
In this scenario you could benefit from gains in the property market while simplifying issues around CGT and corporation tax that direct investment inevitably brings, and which avoids the additional layer of taxes that can arise when you invest through a corporate structure.
A real estate investment trust (REIT) is a property investment company that exists largely to simulate direct investment in UK property.
You won’t pay corporation tax on rental income or gains from sales of investment properties (and shares in property investment companies) when operating through an REIT.
Shares in these sorts of investment can be held in an ISA (subject to ISA limits) so are probably exempt from tax.
Ways to reduce your CGT bill on buy-to-let property
There are ways to minimise your CGT bill and make the most of tax relief and tax-free allowances on property sales that are not your primary residence.
Here are some of the ways, but you should always seek expert advice.
1. Make the most of your tax-free allowance
Everyone should make use of their annual tax-free allowance (£12,300 for 2021/22 tax year), which cannot be carried forward into future tax years.
And anyone considering selling a BTL property who may already have used all or part of their tax-free allowance should consider delaying the sale of the property.
Married couples and civil partners could consider combining their tax-free allowances to benefit from a total tax-free allowance of £24,600.
2. Consider joint ownership with a spouse
If you’re married or in a civil partnership and the property is owned by only one of you, consider transferring all or part of the property to your spouse to reduce your CGT liability on the sale.
Married couples or civil partners can double their CGT tax-free allowance. Consider also that if your spouse or civil partner is in a lower tax band, then transferring over some of their tax-free allowance offers another way to minimise the bill.
3. Deduct your costs
Make sure you deduct the allowable costs from your capital gain discussed above under the heading “How is CGT calculated on buy-to-let property?”
4. Set up a limited company
As CGT only applies to sales of residential properties owned by individuals, many BTL landlords have set up limited companies to reduce their CGT liability.
Profits made on the sale of rental property through a limited company are covered by corporation tax, which is currently 19%. So, for higher rate taxpayers it makes sense to buy BLT properties through a limited company to avoid the 28% CGT that high-earner taxpayers will need to pay.
Find out how we can help you form a limited company here.
5. Check whether you’re entitled to private residence relief or letting relief
Private Residence Relief (PRR) is available if you made your BTL property your principle residence before you sold it. PRR entitles you to claim the relief for the years you lived in the property, plus for the nine months before the sale.
In March 2012 you purchased a property for £350,000, which you sold in March 2022 for £500,000. You made a profit of £150,000.
Having lived in the property as your main residence for the first five years and rented the property out for the last five, you’re entitled to 69 months (60 months you were living in the property plus nine months prior to the sale) PRR.
This means that CGT would be due on £63,750 of the profit (calculated as 150,000 150,000/120 x 69).
Say you only let out a part of your home. Then you need to work out what proportion you occupied and what proportion you let out, then you’ll be able to work out what level of PRR you’ll be able to claim.
If you shared the same property with your tenant then you could benefit from lettings relief of up to £40,000.
You lived for the last five years with a tenant in the property before you sold it for £500,000 in March 2022 (which you purchased in March 2012 for £350,000). This will make you eligible for lettings relief for this period.
In this scenario, you need to decide what portion of your home you rented out, so you’ve decided that 20% of your property was rented to the tenant.
You made a chargeable gain of £75,000 in the second 5 years, but you can only claim private residence relief on £60,000 (80% of the total gain). That makes you entitled to letting relief on the remaining £15,000 that relates to the room you let out.
Can I avoid capital gains by buying another house?
Many sellers of BTL property hope that buying another property with the proceeds from the sale will make them eligible for business asset roll-over relief, but it doesn’t!
Roll-over relief lets you put off paying any capital gains tax (CGT) due on the gain from the sale of a business asset until you replace the asset, but only if you are trading. As HMRC does not consider investing in BTL property “trading”, you cannot go down this route.
HMRC does, however, have a set of rules that could mean you can make money from furnished holiday lettings. These rules mean that owners of holiday lets are eligible to claim roll-over relief if they sell one holiday let in order to purchase another.
As the property must count as a furnished holiday letting, it has to be furnished and available for letting out for at least 210 days in the tax year and must have been let out as holiday accommodation for at least 105 of those days. You can find more information on who can claim and how to claim business asset roll-over relief on the HMRC website.
What happens if you live in your own buy to let?
See also under heading 5 of “Ways to reduce your CTG bill on buy-to-let property”.
You do not pay CGT on your main home when you sell it. If you move into your buy-to-let property for a period of time, therefore, you could potentially benefit from Private Residence Relief (PRR). But this only makes you exempt from CGT for the period of time you occupy the property and also any gains made in the final nine months prior to the sale.
You must have owned and used the property for at least two years during the five-year period ending on the date of sale. If you are married and own the property and file for CGT tax liability jointly you could make a saving on CGT and also double your personal allowance.
If you used the residence for less than two years and sold due to a change of job location, poor health, or unforeseen circumstances, then you may possibly be able to avoid paying capital gains tax.
However, if the property is used as a holiday home or rental property, part of your gain may not qualify for the exclusion, even if you meet the two-out of five-year ownership and use test.
HMRC can disqualify someone claiming PRR if they feel that an individual has only done this to avoid paying tax.
You really should consider getting professional tax planning advice on any of these ways to lessen GCT, which are all possible, but could create issues in the future with main residences.
You can definitely minimise the CGT burden when you make a capital gain or profit on the sale of your BTL property, but it is virtually impossible legally to avoid paying it altogether, unless, of course, you make a loss on the purchase price when you come to sell it.
The best thing to do to pay as little CGT within the law is to seek tax planning advice and professional guidance in relation to CGT, where planning ahead is key.
Contact CloudCo today for help with your buy-to-let property.