Business Property – Personal or Company Ownership?
We look at what factors to consider before deciding the most suitable ownership for your business property
If an individual sets up his own company, he can decide whether to hold the business property personally, or in his company. Before deciding how property should be held, the whole picture should be considered, in light of the owners’ plans and expectations for the future as well as current circumstances.
There are many considerations as well as taxation, in deciding whether the individual proprietor or the company should retain ownership of business premises. For instance, from a non-tax perspective the owners should consider what will be the consequences for finance and insurance purposes, what will be the legal positions of the business owners if there are disputes or what would happen if the company got into financial difficulties.
The tax issues on acquisition should be considered in conjunction with the future year on year implications and those likely to apply on disposal.
The following points cover a selection of typical tax issues but there may be other planning opportunities (or traps to be aware of) in specific circumstances. By way of example, the following assumes that the business in question is a trading business for both IHT business property relief and CGT entrepreneurs’ relief purposes, and the property is and has been fully used for the business. The tax implications may be significantly affected if the property is not entirely used for the trade, for example if part is let out to a third party, or if the property has not always been used by the owner for trading purposes.
Q: What are the main options for holding the business property?
A: Simple options are as follows below.
- The proprietor may choose to retain the business premises personally on incorporation of a new company.
- He may transfer the property to the company.
- He may acquire property in the company with a view to transferring it out at a later date if appropriate.
- Another popular idea in past years has been to transfer business property to a pension fund claiming tax relief for the contribution in specie, but this may be less practical with the recent significant reduction in the annual allowance (subject to carry forward relief). The pension fund might alternatively purchase the property at market value, either way building up future net rental income tax free in the pension fund with corresponding corporation tax relief in the Company, albeit in a ring-fenced environment that will eventually generate taxable pension. This option is not considered in further detail in this note.
Q: In overview, what are the main tax-related considerations?
A: In general, all the main taxes may feature as relevant and should be considered – income tax, corporation tax, capital gains tax, inheritance tax, stamp duty land tax and VAT; but the capital taxes are often the most affected by future plans. VAT is not considered further in this note.
Q: What are the relevant factors when considering whether an individual business owner should retain the property to rent to his company?
A: Typical points of relevance are as follows:
- In practical terms there is more flexibility on sale or cessation of the company if property is owned personally – the proprietor can retain the property and continue to receive rental income, or dispose of the property to the purchasers of the company
- If the company relocates then the proprietor can retain the property as an investment
Future plans – capital taxes
Is the property/business likely to be sold or gifted in the owner’s lifetime or retained for life?
- On future disposal of the property, a UK resident individual will normally be within the charge to CGT.
- The increase in the property value may be subject to capital gains tax, the standard rate being currently set at 28%. The individual may alternatively be able to claim capital gains entrepreneur’s relief on an ‘associated disposal’ (therefore being taxed at 10% on the chargeable gain), but only if the property is sold within a maximum of three years of him disposing of company shares, or of the company ceasing its business as a whole (and the relief may be subject to the use made of the property in the interim).
- Receipt of rent from company will impact on the availability of capital gains entrepreneurs’ relief on a future ‘associated disposal’ of the property.
- Rollover relief is allowed by concession, if conditions are met and the proceeds are reinvested into another business property for the company.
- For inheritance tax, Business Property Relief is available but only at a maximum of 50% and only if conditions are met (- a key condition is the owner must have control of the company at the relevant time).
The company’s ongoing tax position
Commercial rent paid to the proprietor by the company is a deductible trading expense.
Income tax for the individual
- Property income from commercial rent is taxed on the individual.
- If the individual has taken out a mortgage to acquire the property, which he then on-leases to the company, the interest is deductible against the rental income he receives.
- The individual’s personal tax situation should be considered carefully, as the rental profits are taxed at the individual’s marginal rate, but are only deductible at the company’s tax rate. As a mechanism for profit extraction though, rental income is tax efficient to the extent that no NIC is charged on rental payments.
- Rental income is taxed via self assessment, so tax is payable by instalments twice a year.
The initial transaction of the company leasing the property from the individual
- If the short term lease is granted, not at a premium, a capital gain may not arise. The individual may alternatively grant an informal licence to the company to occupy the property. (If there is a mortgage loan secured on the property, the lender may not be willing to allow an informal licence.)
- SDLT is payable at 1% on consideration given for leases in excess of £150,000. The consideration is essentially the net present value of future rental income, which is based on the deemed market rental value. It is worth noting that a non-exclusive ‘licence to occupy’ is exempt from SDLT.
Q: What are the relevant factors when considering whether a company should own the business premises used in its trade?
A: Typical points of relevance are as follows, but again the optimal structure will be influenced by future plans and expectations:
Future plans – capital taxes
Is the property/business likely to be sold or retained for the long term?
- On disposal of the property out of the Company, the increase in value of the property will be subject to corporation tax at the company’s marginal rate (which may be 20% if planned reductions in UK company tax rates are brought into play
- companies benefit from relief for an inflationary indexation allowance in computing capital gains, whereas individuals do not
- if the proceeds are to be reinvested by the company into new business property, then the capital gain may be deferred by a rollover relief claim
- If the Company is likely to be sold, its shares (which will reflect the value of the property as well as the business) may qualify for capital gains entrepreneurs’ relief for individual sellers owning at least 5% of the ordinary shares and votes, and who have been officers or employees of the business, all for the requisite 12 month minimum period.
- A gift of shares in a trading company by an individual owning at least 5% should qualify for capital gains holdover relief
- or inheritance tax, Business Property Relief will be available in full at 100% in relation to the individual’s shares owned in the company where the relevant conditions are met (and the value of the property is now reflected in the value of the shares).
The company’s ongoing tax position
If the company pays mortgage interest, the interest is deductible against company profits.
For the individual
On disposal of the property, any chargeable gain will be taxed in the company, and the individual will be taxed on a distribution of the net profit (after corporation tax). This “double” taxation makes holding properties via a company less attractive in some situations, where reinvestment within the Company is unlikely and the individual will wish to extract the proceeds.
On acquisition of the property by the Company from the individual
- Any capital gain for the individual may often be deferred through the relief available for transferring the business (plus the property) in exchange for shares on incorporation, or by claiming gift holdover relief. The choice is important, for example because one relief affects the base cost of the company shares and the other affects the base cost in the Company of the property. Alternatively the property may be ‘sold’ into the Company at market value, claiming entrepreneurs’ relief if conditions are fulfilled and creating a loan account on which the seller can draw in future without further tax cost.
- If the property is purchased from the individual on loan account, note that the loan will not qualify for IHT business property relief in the hands of the individual. If IHT is of concern, or if the loan is likely to remain outstanding for some time, the loan might be capitalised, and in due course instead of making loan repayments the Company will reduce/repay tranches of the share capital.
- SDLT will be due on the acquisition of the property by the Company from the proprietor, based on the property’s market value. However if the acquisition is from a family partnership, with the family correspondingly owning shares in the Company, the SDLT charge as calculated using the special formula for partnerships may reduce to nil.
Q: What are the relevant factors if the individual later decides to extract the property from the company?
A: If a director/shareholder transfers the property out of an existing company after incorporation, there are several key tax considerations. He might wish to do this for example, if on a future sale of the company, the buyer may not wish to purchase the property, or the owner-manager chooses to retain the business premises and grant a lease to the purchaser to generate a continuing source of rental income for the future.
For the company
The director/shareholder and the company are treated as connected parties for capital gains purposes. As such, the company will be deemed to receive proceeds for the transaction at market value regardless of the consideration paid. The company will pay corporation tax on the capital gain, being the market value at the time of the transfer of the property less its indexed base cost. The individual will be deemed to acquire the property at a capital gains base cost equal to its then current market value.
For the individual business owner
If the individual does not purchase the property for payment, he may be subject to income tax as if he has received a ‘dividend’ distribution equal to the property’s market value, or worse the individual director may be deemed to have received a taxable benefit in kind subject also to NIC.
The company may alternatively pay a bonus to the director/shareholder to enable him to purchase the property at full value, but again this will be more costly in tax/NIC.
If the individual purchases the property, but HMRC considers that the price actually paid is too low, the difference between the amount paid and the amount that HMRC considers to be market value is likely to be subject to income tax in the shareholder’s hands, either as a distribution or a taxable benefit in kind for the director/shareholder.
Stamp Duty Land Tax is payable by the transferee director/shareholder, unless the property is transferred as a distribution in specie (ie distributed as if a dividend paid on the shares in kind rather than in cash).
If the individual owes the value of the property to the company
If the director/shareholder agrees to pay for the property but leaves the consideration outstanding on loan account, then rules for loans to director/shareholders may apply, as follows:
- Tax will be due from the company at 25% of any amount of the loan still outstanding 9 months after the company’s year end (- note that these rules have recently been changed to include anti-avoidance provisions and are currently under further consultation); and
- there may also be an income tax charge for the individual on the benefit in kind of having a cheap loan from the company, if the individual pays interest at less than HMRC’s published official rate for the period of the loan outstanding.
Anne Smith is a partner at Watts Gregory LLP, member firm of UK200Group.