2016 UK Real EstateTechnical Tax conference
www.pwc.co.uk
13 October 2016
PwC
UK Real Estate TaxNetwork Leader
Introduction and Welcome
Robert Walker
October 20162016 UK Real Estate technical tax conference
Slide 1
PwC
Agenda
Speaker Time
Breakfast and networking 8.00 – 9.00
Introduction and welcome Robert Walker 9.00 – 9.10
UK and global prospects post BrexitWhat does 2017 look like for the real estate industry
Dr Andrew Sentance CBE 9.10 – 9.30
Changing landscape for Real Estate structuring:• BEPS action 4 implementation• Trading in land rules• Substantial Shareholdings Exemption (SSE)
consultation• Loss restriction provisions
Tim Jones, Fiona Gaskell,Neil Anthony, Stephen Chewterand Tom Ewins
9.30 – 11.00
Break 11.00 – 11.20
Real Estate Investment Trusts/Property AuthorisedInvestment Funds/Co-Ownership Authorised ContractualSchemes
Paul Emery 11.20 – 11.35
Residential property Helen Whitfield, Liam O’Doherty,Paula Letorey and Mallinath Kini
11.35 – 12.30
Megatrends Leo Johnson 12.30 – 13.00
Wrap up and lunch Robert Walker 13.00
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PwC
Need to know
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• We’ll try to answer questions as we go
• If we run out of time will come to backto you on unanswered questions
Connect your phone to the wifi(code on table)
Open your web browser
Go to www.slido.com
Enter event code #pwctax
Type your question and send
123
4
5
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PwC
Dr Andrew Sentance
UK and global prospectsin a post-Brexit economy
October 20162016 UK Real Estate technical tax conference
Slide 4
PwC
Dr Andrew Sentance
Senior Economic Adviser,PwC
UK and global prospectsin a post-Brexit economy
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PwC
Outline
• Economic recovery – the story so far
• Brexit is happening – so what does it mean?
• Economic outlook and impact of Brexit
• Implications for property and tax policy
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PwC
Global growth close to long-run trend% per annum change in world real GDP andconsumer prices
Source: IMF World Economic Outlook, October 2016
-1
0
1
2
3
4
5
6
7
2000 2002 2004 2006 2008 2010 2012 2014 2016
GDP growth Inflation 1980-2010 GDP growth trend
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PwC
Outlook for global economy in 2016
PwC September 2016 Global Economy Watch
Russia
Germany
UK
US
Brazil
India
Spain
Key
Canada
Mexico
South Africa
Australia
Japan
Italy
Greece
Ireland
France
1.3
1.5
2.1
-3.8
2.6
1.4
4.2
1.8
1.6
0.9
0.3
7.7
-1.3
2.6
6.5
0.6
-1.7
x.x = GDP growth in 2016
China
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PwC
UK leading G7 growth league before Brexit% annual GDP growth, year to 2016 Q2
0.0% 0.5% 1.0% 1.5% 2.0% 2.5%
Japan
Italy
Canada*
US
France
Germany
UK
Source: OECD Quarterly National Accounts
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PwC
Economic consequences of UK leaving EU
• Uncertainty associated with an economic shock (negative, short-term)
• Disruption to trade and investment (negative, medium/long-term)
• Restricted migration from EU (mixed)
• More regulatory freedom (positive, long-term)
• Lower fiscal contributions (positive, but small)
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Sterling – A long term viewUK effective exchange rate, Jan 2005=100
70
80
90
100
110
120
130
Jan-80 Jan-83 Jan-86 Jan-89 Jan-92 Jan-95 Jan-98 Jan-01 Jan-04 Jan-07 Jan-10 Jan-13 Jan-16
EER Ave 1980 - 2007 Ave 2009-2016
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What has happened so far?
• Pound has fallen – to c.$1.20-1.25 and around €1.10
• Political turbulence – new PM; new gov’t formed; opposition in turmoil; policyuncertainty
• Increased business uncertainty. Confidence indicators weakened in July but have sincebounced back
• Mixed economic indicators – consistent with slower growth but not recession
• No clarity on exit process until plan is developed, Article 50 is triggered andnegotiations begin
• Despite general air of uncertainty, businesses continuing to operate as normal,pending more policy clarity
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How might uncertainty be resolved?
• UK political situation stabilises (Now-End 2016)
• Post-Brexit negotiating plan agreed (Early 2017?)
• UK exit negotiations (2017-19?)
• Implementation of EU exit agreement (2020/21?)
• But many other uncertainties may emerge along the way:
- Negotiating stance of other EU members
- Possible General Election or second Referendum?
- Further political turmoil/instability in UK and EU
- Scottish/Irish independence issues
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Post-Brexit scenarios
• Baseline scenario: UK takes 3-5 years to establish new trading relationship with EUand other major trading nations (FTA scenario)
• Optimistic scenario. UK remains in European Economic Area (EEA) and hence keepsclosely integrated with European trading partners. Minimises business disruption anduncertainty
• Downside scenario: High degree of political and economic uncertainty creates arecession, and UK has to fall back on WTO rules for trade with EU partners and othercountries
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Economic scenarios for UK post-BrexitIndex of GDP, 2005 = 100
Sources: ONS and PwC Post-Brexit Scenarios, updated for most recent data
95
100
105
110
115
120
125
130
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Pre-Brexit Central scenario (FTA) Downside (WTO) Upside (EEA)
Impact on GDP by 2020 vs Remain
scenario = 1.5-5.5%; Central estimate = 3%
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UK GDP growth, 2016-2020% per annum change in GDP
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
3.0%
2010-15 2016 2017 2018 2019 2020
Pre-Brexit EEA FTA WTO
Source: ONS and PwC forecasts
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How might economic policy support growth?
• Monetary policy – no scope for further relaxation
• Fiscal boost – constrained by deficit
• Easing of business regulation
• Support for small business, skills and enterprise
• Transport infrastructure, including airport decision
• Relax constraints on housing supply, inc planning regime
• Tax reform – simplify, remove anomalies and improve employmentand investment incentives
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PwC
Outlook for global economy in 2017
PwC September 2016 Global Economy Watch
Russia
Germany
UK
US
Brazil
India
Spain
Key
Canada
Mexico
South Africa
Australia
Japan
Italy
Greece
Ireland
France
1.9
2.2
2.7
0.0
1.5
3.3
0.9
1.4
1.0
1.0
7.7
0.3
2.8
6.5
0.5
1.0
x.x = GDP growth in 2016
China
2.3
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UK consumer spending relatively resilient% per annum change in GDP and consumer spending
-5.0%
-4.0%
-3.0%
-2.0%
-1.0%
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
GDP Consumer spending
Source: ONS and PwC forecasts – updated from July 2016 Economic OutlookOctober 20162016 UK Real Estate technical tax conference
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Key conclusions and implications
• UK economy has weathered the initial Brexit shock, but weaker growth stilllikely 2017-19
• Investment expected to be the main driver of weaker growth – likely to impactcommercial property
• Policy initiatives to support housing investment and cushion growth may createopportunities
• Post-Brexit economic model still unclear – lack of clarity likely to persist into2017/18
• Brexit will be a long process. Full implications will not unfold until 2020s
• For many business decisions, ‘carry on as normal’ makes sense for now, butlong-term investments should be tested against a range of scenarios
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More information and links
PwC UK Economic Outlook and Global Economy Watch:http://www.pwc.co.uk/services/economics-policy/insights/uk-economic-outlook/ukeo-nov2015-economic-prospects.html and
http://www.pwc.com/gx/en/issues/economy/global-economy-watch.html
Blogs: http://pwc.blogs.com/economics_in_business/andhttp://andrewsentance.com/the-hawk-talks
Email: [email protected]
Twitter: @asentance
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Tim Jones, Fiona Gaskell,Neil Anthony, Stephen Chewterand Tom Ewins
Changing landscapefor RE structuring:
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Changing landscape – last year
• The Base Erosion and Profits Shifting(‘BEPS’) package
• Diverted Profits Tax (‘DPT’)
• Restricted income tax relief for interest forresidential landlords
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Changing landscape – this year
• BEPS action 4 & the proposed ‘interestcapping’ provisions
• BEPS action 2 & the ‘hybrid mismatch’provisions
• BEPS action 15 & the multilateralinstrument
• Diverted Profits Tax
• Extension of scope of corporation tax tonon-resident companies with a trade ofdealing in or developing UK land
• The updated ‘Transactions in UK land’provisions
• The ‘Anti-Fragmentation’ provisions forall companies trading in UK land
• SDLT rate increases (residential andcommercial)
• Consultation on reforms to corporationtax loss relief
• Proposed Substantial ShareholdingsExemption reforms and a potential‘Qualifying Fund’ exemption
• Seeding relief for PAIFs and CoACS andCoACS capital allowances consultation
• Impact of new UK GAAP changes fornon-resident landlords
• Partnership taxation consultation
• Making Tax Digital
• Lease accounting changes
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BEPS action 4 implementation
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Consultation on interest deductibility
• UK implementation of BEPS Action 4
• Critical changes to interest deductibility where corporate taxdeductions for interest exceed 30% taxable Earnings beforeinterest tax depreciation and amortisation (EBITDA)
- Interest on shareholder/fund/profit related debt likely to benon-deductible
- Deductions for interest on third party/bank
• Scope of the rules – corporates only
- Non-resident landlords (NRL’s) – are they in? if so, how andwhen?
- Real Estate Investment Trusts (REITs) – British PropertyFederation (BPF) proposal being reviewed by HMRC
• Commencement – 1 April 2017
- Split accounting period for tax for straddle period (just andreasonable apportionment)
• Draft legislation expected after Autumn Statement (5 Dec)
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Interest deductibility – Recap and summary
• Formal consultation on design of new rulesissued in May (consultation ran to August)
• Confirmed policy outlined in businessroadmap, but provided much more detail.
- UK Interest deductions limited to fixedratio of 30% of interest:EBITDA ratio for‘UK Group’
- A group ratio test based on interest:EBITDAwill be introduced for highly leveragedindustries which can increase 30% number
- Existing debt cap rules to be repealed. Newabsolute limit on UK net deductions = groupnet interest deductions (current debt capallows comparison to gross deductions)
- A de-minimis amount of £2m will alwaysbe deductible for the ‘UK Group’ (even ifthat exceeds 30%, group ratio and modifieddebt cap)
- Public benefit projects would be exempt forexternal debt
- Restricted interest may be allocatedbetween group companies to reduce theirnet tax-interest expense (but not to agroup company which does not have anet tax-interest expenses);
- Restricted interest is carried forwardindefinitely and may be deducted in futureperiods if there is capacity:
- Spare capacity can only be carried forwardfor three years
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Group ratio – Example 1
Group ratioA Plc(UK)
B Ltd(UK)
Interest on
bank debt 60
Accounts A Plc B Ltd Group
Operating profit/Tax EBITDA 0 100 100
Interest expense (60) - (60)
Profit before tax (60) 100 40
Calculation of Group Ratio (WW Group)
Qualifying group-interest expense (1) 60
Group profit before tax (2) 40
Group interest expense (3) 60
Group EBITDA (4)=(2) + (3) 100
Group ratio (1)/(4) 60%
Tax deductible interest expense (60%1 UK Tax EBITDA 100) 60
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Group ratio – Example 2
A Sarl(Luxembourg)
B Ltd(UK)
Fund
Interest on
bank debt 60
IBL interest – 10
IBL interest – 10
Fund debt not treated as external debt for group ratio
Accounts A Sarl B Ltd WW Group
Operating profit/Tax EBITDA 0 100 100
Net Interest expense - (70) (70)
Profit before tax 0 30 30
Calculation of Group Ratio (WW Group)
Qualifying group-interest expense (1) 60
Group profit before tax (2) 30
Group interest expense (3) 70
Group EBITDA (4)=(2) + (3) 100
Group ratio (1)/(4) 60%
Tax deductible interest expense (60%* UK Tax EBITDA 100) 60
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Real estate industry – Key issues
• Group ratio – Will not always give deduction forthird party debt
- International group with diverse debt profile
- Tax to book differences
o Property revaluations
o Capitalised interest
• Definition of Group – Especially relevant for funds
• Joint Ventures
• REITs
• Corporate NRLs
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Group ratio – Example 3 (Diverse debt profile)
Accounts A Plc B Ltd C Sarl UKGroup
WWGroup
Operatingprofit/TaxEBITDA
0 100 100 100 200
Interestexpenses
– (60) (40) (60) (100)
Profit before tax 0 40 60 40 100
Calculation of Group Ratio (WW Group)
Qualifying group-interest expense (1) 100
Group profit before tax (2) 100
Group interest expense (3) 100
Group EBITDA (4)=(2) + (3) 200
Group ratio (1)/(4) 50%
Tax deductible interest expense(50%1 UK Tax EBITDA 100)
50
Interest on
bank debt 40
A Plc(UK)
B Ltd(UK)
C Sarl(Luxembourg)
Interest on
bank debt 60
Group ratio test
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Group ratio – Example 4 (Tax to book differences)
A Plc(UK)
B Ltd(UK)
Interest on
bank debt 60
Same example as Example 1 – But BLtd has recognised an increasein value of properties of 50(non-taxable as no disposal)
Group ratio
Accounts A Plc B Ltd Group
Operating profit/Tax EBITDA 0 100 100
Property revaluation 50 50
Interest expense (60) - (60)
PBT (60) 150 90
Calculation of Group Ratio (WW Group)
Qualifying group-interest expense (1) 60
Group profit before tax (2) 90
Group interest expense (3) 60
Group EBITDA (4)=(2) + (3) 150
Group ratio (1)/(4) 40%
Tax deductible interest expense (40%1 UK Tax EBITDA 100) 40
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What is a group? – Group ratio and de-minimis
• Based on the grouping used for IFRS consolidated accounts(similar to the current Debt Cap regime);
• The group will comprise the ultimate parent and all entities thatare consolidated on a line by line basis in the parent’sconsolidated financial statements;
• IFRS 10 – Investment Entity exemption from consolidation maymean the ultimate parent for subsidiaries is not the master fundplatform (or possibly other holding companies)
• An associated company not eligible for consolidation would notbe in the Group, but would be treated separately for the purposesof the rules;
• The ultimate parent must be a company or similar entity(no individuals, or most partnerships);
• The ‘UK Group’ are all UK tax resident companies and UKPermanent Establishments (PEs) of foreign companies in theworldwide group as defined above.
HoldCo 1
Subsidiary 1
Fund
HoldCo 2
Subsidiary 2
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Group ratio – Example 5 (JV Co)
Interest on
bank debt 50
Interest on
bank debt 50
A Ltd(UK)
JV Ltd(UK)
B Ltd(UK)
Interest on
debt 50
Interest on
debt 50
50% 50%
Impact of Group Ratio
• All UK – No different debt profiles oraccounting differences.
• However, JV Ltd is not in a group with either A Ltdor B Ltd. A Ltd and B Ltd are however bothrelated parties.
• JV Ltd qualifying interest expense for group ratio istherefore nil.
• No group ratio uplift.
• Deduction limited to 30% fixed ratio = 60
Accounts A Ltd B Ltd JV Co
Operating profit/Tax EBITDA 0 0 200
Net Interest expense (0) (0) (100)
PBT (0) 0 100
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Changing landscape – Hybrid mismatches
• Wide ranging and very complex corporation taxrules to neutralise tax advantages created byhybrid payments. Rules can be applied to eitherthe company making the payment, receivingthe payment, or companies making direct orindirect payments which ultimately fund thehybrid payment.
• The amount of disallowance/income taxedshould be the proportionate amount requiredto neutralise the hybrid effect.
• The rules generally only apply to relatedparty/controlled group payments orstructured arrangements, investors in apartnership are generally treated as a singleperson – So rules still generally apply topayments to transparent fund vehicles even ifno single investor has >25% interest.
• There is no specific relief for exemptinstitutional investors – In many cases thetest of hybridity is by reference to a taxablecompany in the same territory.
• Key risk indicators for structures identifiedto date:
- US Check the box elections for companies tobe treated as disregarded or partnerships forUS tax – This can bring in external debtdeductions if double deductions betweenrelated parties
- Use of reverse hybrid entities – Partnershipsregarded as companies in other territories
- Use of hybrid instruments (tax deductiblefor paying entity, but equity for investors –e.g. PEC’s, PPL’s);
- Branch mismatch structures
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Trading in land/transactions in UKland rules
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Background to changes
• Budget day announcements followed greater visibility of property tradingstructure (e.g. following the introduction of Diverted Profits Tax (DPT)).
• Draft legislation giving effect to the budget day announcement on the abovewas published on 5 July.
• These changes take effect from 5 July except in relation to the ‘anti-avoidance’measures which are effective from budget day (as previously announced).
• Separate provisions introduced for companies and non-corporates (egindividuals).
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Summary of changes
The extensionof the scope of UKcorporation tax tonon-UK residentcompanies trading inland.
These changes broadly fall into four categories
The replacementof the existing‘Transactions in land’anti-avoidanceprovisions.
The introductionof a new ‘anti-fragmentation’ rule.
The anti-avoidanceprovisions,which took effectfrom budget day(16 March 2016).
1 2 3 4
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The extension of the scope of UK corporation tax tonon-UK resident companies which carry on a trade ofdealing in or developing UK land
• Basic description of charge
• Changes to tax treaties
• Commencement of a new accounting period
• Amendments to the ‘pre-trading’ expenditure rules
• Implications for group relief
• Amendments to s.189 CTA 2009(post-cessation receipts)
• Implications for other sources of income(e.g. property rental income and interest income)and chargeable gains
• Interaction with Diverted Profits Tax (‘DPT’)
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The replacement of the existing ‘Transactions in land’provisions in relation to UK and non-UKresident companies
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Direct disposals of UK land
In order for the provisions to apply where there is a direct disposalof land, any of the following conditions must be met in relation tothe land:
• Condition A is that the main purpose, or one of the main purposes, ofacquiring the land was to realise a profit or gain from disposing of the land.
• Condition B is that the main purpose, or one of the main purposes, ofacquiring any property deriving its value from the land was to realise a profitor gain from disposing of the land.
• Condition C is that the land is held as trading stock.
• Condition D is that (in a case where the land has been developed) the mainpurpose, or one of the main purposes, of developing the land was to realise aprofit or gain from disposing of the land when developed.
(S.356OB)
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Meaning of ‘main purpose, or one of the mainpurposes… to realise a profit or gain from adisposal…’ test
• Former legislation ‘sole or main object…’
• Consequences of the new definition
• HMRC clarification – e.g. should not apply where:
‘Property is acquired for investment, usually rental income, but over time thatproperty may increase in value and a profit may therefore be realised from aneventual disposal’
• Application to properties which are developed?
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Indirect disposals of UK land
These provisions apply where:
• A person realises a profit or gain from the disposal of any property which (atthe time of disposal) derives at least 50% of its value from land in the UK, and;
• The person is a party to, or concerned in an arrangement concerning some orall of that land, and;
• The main purpose, or one of the main purposes of the arrangement is to:
- Deal or develop that land, and
- Realise a profit or gain from a disposal of property deriving the whole orpart of its value from that land.
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Other relevant matters
Application of double tax treaties Sale of company holding UK land astrading stock
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The ‘anti-fragmentation’ rule
Profits of another ‘associated’ person(broadly defined) are effectively includedin the calculation of the taxable profits by treatingthem as the same person.
That other person must be making a ‘contribution’to the development of theland or other activities directed towards realising again from the disposal of the land.
‘Contribution’ means any kind ofcontribution including, for example, the provisionof professional or other services,or a financial contribution (including theassumption of a risk).
Excludes profits which are otherwise within thecharge to UK income or corporation tax.
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Arrangements for avoiding tax
Broadly drafted Only example discussed withHMRC relates tomanipulation of the‘land rich’ definition
Ability to ‘override’ doubletax treaties
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Practical implications
Changing landscape
• Direct disposals:
• Non-resident nowwithin charge to CT?
• New transactions in UKland provisions
• Any impact of anti-fragmentation rules
• Indirect disposals:
• Continuing treatyprotection?
• Sales of 50% or less ofshares could be caught.
Due diligence issues whenacquiring SPVs holdingUK property
• Do the ‘Profits from trading inand developing UK land’ applyto the SPV?
• Potential application ofAnti Fragmentation Provisionswhere there is a trade ofdealing in or developingUK land
- Interest deductibility ?
- Costs of ‘stock’
- Other expenses
Potential SPA issues
• Warranties and indemnities
• Scope of potentialinsurance cover
• Who is the chargeable person?
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SSE consultation
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Consultation on SSE
• Current Substantial Shareholding Exemption regime:
• Introduced in 2002 to address:
- The concern that tax on gains on share disposals was influencingcommercial decisions
- The incentive to use complex offshore holding structures
• Gives an exemption from corporation tax for gains/losses arising on certainshare disposals
• Has been of limited use to the property industry because of thetrading requirements
• Concerns that it is overly complex with uncertainty over its application
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Consultation on SSE
• The consultation document sets out 5 options for extending theavailability of SSE:
- A comprehensive exemption
- Exemption subject to investee trading test
- Exemption subject to investee test other than trading
- Amended trading tests at investee and investor level
- Changing the definition of ‘substantial shareholding’
• Other design modifications such as shares held within a partnership
• Consideration of an SSE qualifying fund
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Consultation on SSE
• Consideration of an SSE qualifying fund
• Reflect the fact that funds investment gains are not generally subject to UKcorporation tax
• Could target funds with certain characteristics e.g. widely held, regulated,subject to minimum distribution requirement
• Reflect the reduction in cost from targeting groups that currently have theirholding platforms overseas
• UK REITs?
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Loss restriction provisions
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Consultation on Loss Utilisation
• Two key objectives:
- Restrict use of losses brought forward such that only 50%of profits over £5m may be offset by such losses
- Increase the use of losses brought forward so lossesaccrued after 1 April 2017 can be carried forward againstother types of income and used by other group companies
• Commencement – 1 April 2017
- Split accounting period for tax for straddle period (justand reasonable apportionment)
• Difficult transition rules (b/f losses at 1 April 2017 get worstof both worlds – Restricted to 50% of profits, but can not beused against other income streams and in other companies).
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Basic example
Loss utilisation from 1 April 2017:
• Companies with profits in excess of £5m – Canonly offset 50% of profits with losses
- UK 1 loss offset reduced to 50
- UK Holdco Non trade deficits (NTD’s)trapped
UK Hold Co
UK1 UK2
NTD’s c/f 125
Trade Profits 600
Trade losses c/f (150)
Trade Profits 100
Trade losses c/f (75)
Losses incurred after 1 April 2017
• B/f losses can be group relieved and offsetagainst other types of income.
• NTD’s in UK Holdco can be surrenderedto UK 2
• Excess losses in UK 1 (25) can also besurrendered to UK 2.
• UK 2 can utilise any losses b/f in the group upto 50% of taxable profits. Therefore reliefclaimed for full 300.
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Real estate industry – Key issues
1Fixed term projects/SPV’s
• Lump sum income in final year of project
• Income does not exceed 50% of lossescrystallised in earlier periods
• Full relief not available for losses(despite profit being economically made)
2REIT’s
• PID calculation includes loss c/f offset.Distribution could therefore need to exceedeconomic profit to date in Real EstateInvestment Trust (REIT) company
• Exemption for ringfenced profits (in line withother regimes where group relief not available)
• Cannot disclaim capital allowances
3Non-resident corporates with no
Permanent Establishment (PE)
• Current proposals only apply tocorporation tax.
• Position of NR companies outside the chargeto Corporation Tax raised in consultationprocess.
4Impact on deferred tax
• Recognition
• Netting
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Interaction with interest capping rules
• Interest capping rules applied to thecalculation of taxable profits.
• Loss restriction applied to profits afterinterest capping rules.
Company A
Taxable EBITDA 100
Interest deduction (30)1
Taxable profits 70
Loss offset (35)
Profits subject to tax 35
1 Assumes no uplift for group ratio
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Impact on transactions
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Potential acquisition of Property SPV
Property SPV
UK Property
Vendor
Purchaser
• Purchaser is considering the acquisition of all theshares in Property SPV, a company incorporatedin Luxembourg owning a commercial property inthe UK
• Property SPV’s intentions regarding the propertythat it holds are unclear
• The property has recently been developed and letsince planning permission was obtained
• Significant expenses have been incurred byProperty SPV on the development includinginterest costs on loans from group companiesfunding the development
• Although Property SPV has a majority ofLuxembourg resident directors, there is onedominant UK resident director
Proposed transaction
Initial due diligence findings
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Due diligence considerations
Trading in land rules
Intention regardingthe property –Trading v investmentdistinction
1
Considerations forPurchaser of a changeof intention afterpurchase
2
Interest costs on loanfrom associatedcompany
3
Implications of anypotential Vendorliability for Purchaser
4
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Due diligence considerations
Availability of losses1
• Establishing the quantum of any losses and their type
• Deferred tax assumptions made regarding theirrecoverability
Capital allowances2
• Have all available allowances been pooled?
• Scope to disclaim allowances given change in lossrelief rules?
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Due diligence considerations
Sale and Purchase A considerations
• Warranties and indemnities
• Scope of potential insurance cover
• Who is the chargeable person?
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Modelling considerations
How is the acquisitionto be financed and whatassumptions should be madeabout the deductibility ofinterest?
1
What impact does thisacquisition have on anygroup ratio calculation?
2
Assumptions to be madearound the use of anypotential losses
3
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The Changing Landscape for Real Estate
• Impact on investment decisions/pricing
• Increased scrutiny/issues arising in transactions
• Compliance risk due to increased complexity
• Holding structure – no ‘one’ solution
• Nature of underlying activities
• Onshore vs offshore
• Opaque vs transparent
• Quasi-transparent structures
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REITs/PAIFs/CoACS
Paul Emery
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REITs
c. 20 REITs by 20122007 – REITs introduced 1
Removed significant barrier to entry2012 – 2% entry charge abolished 2
Captive REITs held by institutions2012 – Close company rules relaxed 3
4 REITs AIM listed and 5 on CISE2012 – Listing rules relaxed to allowAIM/CISE
4
c. 45 REITs with market cap of £51bnand more UK residential REITs?
2016 – Where are we now? 5
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PAIFs
Fund managers reticent and uptake slow2008 – PAIFs introduced and SDLT relief onAUT conversion 1
More conversions of AUTs to PAIFsbut significant LBTT costs reScottish property
2015 – Scottish LBTT introduced with noAUT to PAIF conversion relief 2
c.15 Open ended funds with NAV > £1bnof which 6 PAIFs
2008 – 2016 – Investor pressure to convertfor direct tax benefits of PAIFs
3
At least 2 PAIFs remain suspended2016 – Brexit 4
Significant uptake in PAIFs?2016 – Seeding relief from SDLT introduced 5
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Legal framework
REIT PAIF CoACS
Legal entity Listed company Open ended investmentcompany
Contractualarrangement
FCA Approval N/A Approval required Approval required
Regulation Listing authority AIFMD AIFMD
Balance ofbusinessrequirement
75% of profit andassets must relate toproperty rentalbusiness
60% of net income mustbe property investmentincome
N/A
Shareownershiprequirements
Shares must be widelyheld
Genuine diversity ofownership
Must be institutionalor invest ≥ £1m (GDO requirement for seedingrelief)
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Tax treatment
REIT PAIF CoACS
Fund level taxation Exempt on property incomeand property gains
Exempt on property income;gains; interest income
Transparent for income andoutside scope for gains
Investor level taxation
• UK individuals
• Eligibility for ISA
• UK corporates
• Non-residents
• UK pension funds
• Overseaspension funds
PID ‘deemed’ to be propertyincome
IT on Property IncomeDistributions (PIDs), CapitalGains Tax (GTS) on shares
YES
CT on PIDs, gains on shares(other div may be exempt)
Distribution received net
Distribution received gross
Treaty rates may apply
PID ‘deemed’ to be propertyincome
IT on dividends, CGT onredemptions
YES
CT on PID/interest, gains onshares (other div may be exempt)
Distribution received net
Distribution received gross
Treaty rates may apply
IT on income as arises
IT on rent, CGT on redemptions
NO
CT on income and gains
IT on rent
No tax
IT on rent (unless UKregistered pension scheme)
WHT on distributions 20% on PID (inc. gains) 20% PID and interest N/A (but NRL schememay apply)
SD/SDRT on transfers 0.5% (except AIM) Should be nil Exempt
Availability of SDLTseeding relief
No Relief (3 year clawback) Relief (3 year clawback)
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Residential property
Helen Whitfield, LiamO’Doherty, Paula Letorey andMallinath Kini
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Residential property – An area of change andopportunity
Demand outstripping supply Government support forvehicles and incentiveswhich help delivery supply
The divide between Londonand the rest of the country
Local authorities with stretchtargets to delivery supply
Regulatory changes impactinghousing associations
Tax changes impactingreturns for private landlords
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Tax issues impacting vehicles delivering supply
Typical residentialdevelopment structures
Stamp Duty Land Tax(SDLT) pitfalls ofpublic/private sectorjoint ventures
Key changes affectinglandlords
Construction industryscheme
Agenda
1 2
3 4
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Typical residential structures
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Typical structures to deliver residential property
Build for sale structure
Build for investment structure for housingassociations
Build for investment structure for funds
Hybrid trading and investing
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1. Build for sale single company structure
Direct sale (Freehold or long lease)
Professional/land costsConstruction costs
Developer
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1. Typical build for sale single company structure
Construction costszero-rated – No VAT
Some VAT incurred onprofessional and/or landcosts – 20%
Except VAT recovery on whitegoods and other fittingsblocked from recovery
No VAT cost for Developer
VAT recovered on the basisthat the freehold sale or longlease is zero-rated
VAT Considerations
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1. Typical build for sale single company structure
Profits subject to UKcorporate tax/SingleSDLT charge
Opportunities in relationto contaminated landrelief and R&D
Sale of shares still potentiallysubject to SSE andEntrepreneurs’ relief
Use of losses
Deductibility of debtand expenses fromoverseas investors
Annual Tax on EnvelopedDwellings (ATED) reporting
Other tax considerations
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2. Typical build for investment structure forhousing associations
Direct letting (short lease)
Professional/land costsConstruction costs
Housing association
Single Company Structure with short leases to tenantsMore common for Housing Associations
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2. Typical build for investment structure forhousing associations
VAT on professional fees could be removed by using Design and Build contracts
Single Company Structure with short leases to tenantsMore common for Housing Associations – VAT Considerations
Construction costs zero-rated– No VAT
VAT incurred on professionalfees – 20%
No VAT recovery by housingassociation due to exemptlettings
Maybe an issue for seller ofland therefore ‘Golden Brick’schemes can be used
VAT on land costs may beeliminated if land purchasedby housing association
Therefore VAT cost onprofessional fees
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2. Typical build for investment structure forhousing associations
Single Company Structure with short leases to tenantsMore common for Housing Associations – Other tax implications
Charitable exemption from SDLT andcorporation tax
Inefficiencies where activity takes place outsidea Housing association or Council. For example,Golden Brick planning can result in a singleSDLT charge and corporation tax, subject tothe ability to gift and profits back to the charity
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3. Typical build for investment structure forfunds – Residential split ownership structure
Property held as an investment let to tenants on short leases
VAT exempt (no recovery on costs)
ManCo
PropCoProfessional/land costs
Residential dwellings
>21 year lease
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3. Typical build for investment structure – Splitownership structure
VAT drivers – Residential property
PropCo has fullVAT recovery oncosts up to grant oflease – No VAT costof construction
PropCo makesongoing exemptsupplies –Considercontinuingregistrationand capitalgoods scheme
4
PropCo grants longleasehold interestto ManCo which iszero-rated
Consider howservice chargeis managed
3
Construction costszero-rated – NoVAT chargedby contractors
VAT incurred onother costs –Professional feesbut also maybeVAT onland purchase
Exception forwhite goods andother fittings
No VAT recoveryfor ManCo but VATonly incurred onongoing costs
1 2
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3. Typical build for investment structure forfunds – Split ownership structure
• Taxable rental income split between PropertyCompany (PropCo) and Operating Company(OpCo)
• SDLT group relief on the grant of thesub lease
• PropCo and OpCo may need to be kepttogether on exit to avoid SDLT and VATclawbacks (SDLT if the lease to OpCois assigned)
Other tax implications
• Non-UK PropCo, in NRL regime, is attractive
• ATED and Non-Resident CGT need to beconsidered
For offshore investors
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VAT drivers – Care homes and studentaccommodation
• Contractor not able to zero rate supply
• Propco can recover VAT if it makes zero rated supply
• But OpCo issues certificate to allow zero rating
• Issue of certificate places restrictions on future use and disposal
• Supply of accommodation to students/care residents – VAT Exempt thereforeOpCo partly exempt – Depending on other activities
• After lease PropCo makes exempt supplies – Ongoing registration andcapital goods scheme to be considered. CGS more significant as VATincurred on all costs
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4. Hybrid Investment/trading structure
ABC PropCo UK
NewCo
Lease exceeding 21 years
Sells property
Student accommodation (RRP)or Care Home
ABC OpCo
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4. Hybrid Investment/trading structure
Combination of treatments1
Separation between investment and trading assets at thepoint of acquisition2
Split investment and trading activities in offshore entities?3
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Public/Private Sector JVs and SDLTelephant traps
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Public private JVs
Central and localgovernmentscommitment toboost the housingsupply means we areseeing more andmore JVs with theprivate sector
1Each sector havedifferent experiencesand objectives
2
Transactions at anundervalue4 Bodies which break
tax group5
Complextransactions withmultiple landtransfers overmoney lease
3
Procurement/stateaid – If the rightstructure is not inplace from outsetchange is hard
6
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What transactions are subject to SDLT?
• SDLT arises on the transfer of a chargeable interest which includes:
- An estate, interest, right or power in or over land in the UK, or
- The benefit of an obligation, restriction or condition affecting the value or any such estate,interest, right or power
- But excludes an ‘exempt interest’ (e.g. a non-exclusive licence to occupy)
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Identifying all of the SDLT consideration
• ‘Any consideration in money or money’s worth given for the subject matter ofthe transaction, directly or indirectly, by the purchaser or a person connectedwith him’:
- Cash
- Release or assumption of debt (not to exceed MV of land)
- Carrying out of works
- Provision of services
• Value Added Tax – The chargeable consideration shall be taken to include anyVAT chargeable in respect of the transaction.
• Must be apportioned on a just and reasonable basis.
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Market value transactions
• Provisions deem the transactions to take placeat market value (or consideration if higher) ifthe purchaser is:
- A connected company
- A connected partnership, OR
- A land exchange
• In certain specific situations where carrying outworks are not deemed to be consideration.
• For unascertainable/deferred consideration
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Timing, number and subject matter ofa transaction
• Substantial performance
• Conveyance
• Both?
Triggers1
• Market value transactions
• Phased developments
Implications2
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Reliefs
These include:
• Group relief
• ‘sub sale’ relief
• Sale and leaseback relief
• Compliance with planningobligation
• Compulsory purchase orders
• Multiple dwelling relief
• Reorganisations effected bystatutory provisions
• Charities relief
• Certain acquisitions by RPs
• ‘PFI’ relief
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What rates is SDLT charged at
Non-residential Rate
Consideration <= £150k 0%
Next £100k (portion from £150k – £250k) 2%
Portion above £250k 5%
Residential rate
Consideration <= £125k 0%
Next £100k (portion from £125k – £250k) 2%
Next £625k (portion from £250k – £925k) 5%
Next £575k (portion from £925k – £1.5m) 10%
Portion over £1.5m 12%
Additional 3% for second homes and buy-to-lets
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Case study 1 – 10 year housing JV
Discuss
SDLT
• Timing and value of SDLT cost (single or multiple,substantial performance, market value provisions)
• Quantum of SLP relief and clawbacks
• Unnecessary transfers
CT
• State aid
Facts
• Land owned or assembled bylocal authority
• Contributed to a JV over10 years
• Houses sold to an RP andthe public
LLP
LANDCPO?Building contract
Public
Local authorityHouse builder
RP
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Case study 2 – Exchanges
Issues
• Exchange meaning consideration is higherof MV or consideration provided
• Just and reasonable allocation ofconsideration
• Sale and Leaseback relief
Facts
• LA gifts land to DevCo worth£4m
• DevCo is to construct a mixtureof flats for sale and use by a RP
• RP grants nomination rights tothe LA
• DevCo is to construct acommunity building in a cornerof the site and transfer thefreehold back to the LA
Lease over community building
Local Authority
Gift of land worth £4m
RP
Lease overSocial housing
Development Co
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Case study 3 – 10 year JV where some plots havenegative value
• Land drawn down in multiple stages
• Some high value plots
• Some plots with negative value
Facts £m
Plot 1 10
Plot 2 5
Plot 3 (5)
Plot 4 (5)
Total 5
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Recommended approach
• Consider the structure and who is underwriting costs early on
• Keep it simple
• Limit land transactions
• Undertake transactions when land values are low or ensure leases haverestricted value
• Take great care with structuring documentation to ensure reliefs are available
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Construction industry scheme
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Construction industry scheme
What we’re seeing in the market1Costs of getting it wrong2Specific issues3
• Mainstream contractors
• Deemed contractors
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What we’re seeing and costs ofgetting it wrong
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What we’re seeing …..
• HMRC raising queriesbased on data analytics
• Issues of non-compliancebeing found
• Inconsistent decisions/lackof understanding of teammembers leading tonon-compliance
• HMRC arguing that certainclients are mainstream andnot deemed
Mainstream contractors
• Lack of understanding ofthe timing requirement ofwhen to register/de-register
• In/out of scope and impacton registration
• Extent of the application ofRegulation 22 to theoperations (constructionwork on premises to be usedfor own trade)
• Issues as for Mainstream ifrequired to be registered(opposite)
Deemed contractors
• Turnaround time forapplication – Grosspayment status.Cash flow issues?
• Issues arising whencontracts encompass CIS,but only becomes apparentwhen Contractor makesreference to deduction
• If new subcontractor underdeduction – How to getcredit (if small PAYE/no Corporation Tax etc.)
• Overseas companiesunaware of requirements toregister and then obtainingrelevant information
Sub-contractors
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Consequence of non-complianceFinancial and Reputation
Penalties for latemonthly returns
Penalties for incomplete orincorrect monthly returns
Missing records
CIS Status
Parties totransaction
Relationshipwith HMRC
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Mainstream contractors
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Legal vs. beneficial party
Key considerations
• Which entity is the contractor for CIS purposes i.e. which is legally party to theconstruction contract?
• Which entity pays subcontractors to carry out construction works?
• As the legal owner holds the property on trust for the beneficial owner, any legal obligations wouldneed to be discharged by the legal owner in accordance with its duties as 'trustee', i.e. in the course ofmanaging the property for the benefit of the beneficiary
Entity A Entity B
Subcontractors
Held on trust
Legal Owner Beneficial Owner
Property
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Inter-group recharges
Questions
• Which contracts includeconstruction operations?
Subcontractors
Company
Top Company
Contract to reimburse
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Deemed contractors
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Deemed contractor – Timing of registration
When to register?
• Upfront contract
• Grace period
• De-register?
In summary, timing of registration is dependent on how the construction spend arisesbut best practice would be to deal with the registration as soon as possible.
Breach £1m p.a on average for construction
Year 1 Year 2 Year 3
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Property investors versus property developers
Property developers (including speculative builder)
• Mainstream contractors – Business activity is the creation of new buildings, or the renovationor conversion of existing buildings, or other civil engineering works
Property investment businesses
• Deemed contractor – A property investment business acquires and disposes of buildings forcapital gain or uses the buildings for rental
Is it possible to be both?
• Property investor undertakes activities attributed to those of ‘property development’:
- Considered a mainstream contractor during the period of that development
- CIS position may be reconsidered on completion of that contract to reflect ‘new substance’
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Key changes affecting landlords
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The changing tax landscape for UK residentialproperty
• Annual Tax on Enveloped Dwellings(ATED) – April 2013
• Non-Resident Capital Gains Tax(NRCGT) – April 2015
• Stamp Duty Land Tax:
- Changes to residential property –4 December 2014
- Additional 3% for second home –1 April 2016
• Removal of wear and tear allowance –April 2016
• Interest relief restriction – fromApril 2017
• IHT for non-domiciled individuals –April 2017
Direct impact
• Increased tax on dividends – April 2016
• Reduction in corporation taxrates – decreasing to 17% by 2020
• Reduction in CGT rate to 20% from April2016 (remains at 28% for direct disposals ofresidential property)
Indirect impact
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Residential vs. Commercial: Individual landlords
Event Residential Commercial
At acquisition SDLT at progressive rates(up to 12% with possible3% supplement)
SDLT up to 5%
Ongoing compliance Tax relief on finance costsrestricted to 20% (by 2020)
Removal of wear and tearallowanceof 10% per annum and reliefgiven on actual replacementspend from April 2016
Tax relief on full finance costs
AIA allowance £200k
On sale CGT up to 28% CGT up to 20%
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Impact of changes to interest deductibility
Assumptions
Current(Individual)
April 2020(Individual)
April 2020(Company)
Rent yield (6%) 6,000 6,000 6,000
Interest cost (4.50%) (3,825) (3,825) (3,825)
Profit before tax 2,175 2,175 2,175
Income tax (45%)/Corporation tax (17%)
(979)-
(1,935)-
-(370)
Profit after tax 1,196 240 1,805
Dividend tax (38.1%) N/A N/A (688)
Net return 1,196 240 1,117
Effective tax rate 45.0% 89.0% 48.6%
Additional ratetax payer
Original cost of
£100,000Loan-to-Value of
85%Interest rate
4.5%
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Ownership structure – Tax implications:April 2020
58.7%
89.0%
133.2%
186.7%
48.6% 48.6% 48.6% 48.6%
17.0% 17.0% 17.0% 17.0%0.0%
20.0%
40.0%
60.0%
80.0%
100.0%
120.0%
140.0%
160.0%
180.0%
200.0%
2.5% 3.0% 3.5% 4.0% 4.5% 5.0% 5.5% 6.0%
Eff
ec
tive
tax
rate
(%)
Interest costs (%)
Personal ownership
Corporate ownership (extracting through dividends)
Corporate ownership (no extraction)
Assumptions:
LTV – 85%
Personal ownership (breakeven point; 4.85%)
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Transferring a residential property portfolio toa company
• SDLT at progressive rates (up to 15%), unless properties held by apartnership or at commercial rate if 6 or more properties
• CGT relief if business present
• Properties ‘stepped up’ to current market value on transfer to company
• Tax relief for finance costs (subject to new rules for corporates fromApril 2017)
• ATED filing obligation, but exemption available
Tax implications on incorporation
• Banking and other commercial considerations
• Increased dividends tax rate 38.1%
• Decreasing corporation tax rate 17%
• Sale of shares subject to CGT at new rate of 20% (gains realised after6 April 2016)
Other considerations
Loan
Bank UK Co
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Premium SDLT rate
Changes from 1 April 2016
• +3% of SDLT for purchases of UK buy-to-let properties and second homes (assumes over£40k in value).
No exemptions
• Companies/funds/individuals – No exemption for larger investors.
• Transfers involving six or more properties can be treated as commercial.
Band Old SDLT rate New additional SDLT rate
£0 – £125k 0% 3%
£125k – £250k 2% 5%
£250k – £925k 5% 8%
£925k – £1.5m 10% 13%
£1.5m + 12% 15%
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Key tax changes affecting landlordsdiscussed today
Residential property:
A corporate structure may be the answer1
3% SDLT for additional residential property:
No exemptions2
More information on these changes can be found at:
https://www.pwc.co.uk/webcast_forms/2016-04-ef252-the-tax-landscape-in-the-uk-residential-property-market.html
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Any questions?
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Megatrends
Leo Johnson
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Contact details
Robert WalkerPartner, Real Estate Tax UK Network LeaderOffice: +44 (0)20 7212 2324Email: [email protected]
Andrew SentanceDirectorOffice: +44 (0)20 7213 2068Email: [email protected]
Tim JonesDirectorOffice: +44 (0)20 7212 5450Email: [email protected]
Liam O’DohertyDirectorOffice: +44 (0)161 245 2384Email: [email protected]
Fiona GaskellSenior ManagerOffice: +44 (0)20 7804 2356Email: [email protected]
Neil AnthonySenior Tax ManagerOffice: +44 (0)20 7213 4916Email: [email protected]
Stephen ChewterSenior ManagerOffice:+ 44 (0)20 7804 4624Email: [email protected]
Leo JohnsonPartnerOffice: +44 (0)20 7212 4147
Email: [email protected]
Paul EmeryPartnerOffice:+44 (0)20 7213 3071Email: [email protected]
Tom EwinsPartnerOffice: +44 (0)20 7212 2243Email: [email protected]
Paula LetoreyDirectorOffice: +44 (0)113 289 4799Email: [email protected]
Helen WhitfieldSenior ManagerOffice: +44 (0)20 7804 2752Email: [email protected]
Mallinath KiniManagerOffice: +44 (0)20 7212 3384Email: [email protected]
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Wrap Up
Robert Walker
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This publication has been prepared for general guidance on matters of interest only, and does not constitute professional advice. You should notact upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express orimplied) is given as to the accuracy or completeness of the information contained in this publication, and, to the extent permitted by law,PricewaterhouseCoopers LLP, its members, employees and agents do not accept or assume any liability, responsibility or duty of care for anyconsequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decisionbased on it.
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