Mi casa es su casa: second homes and the shared ownership exemption
Estate agents across the UK are reporting a notable increase in the demand for second homes and holiday homes, as families seeking to escape from the COVID-19 pandemic take advantage of the stamp duty holiday and low interest rates to purchase a rural retreat. This trend is confirmed by a recent report by Knight Frank, which found that nearly a quarter (24 per cent) of 450 householders surveyed said that the first lockdown had made them more likely to purchase a second home, with the main attractions being outdoor space (56 per cent), a home office (53 per cent) and greater privacy (43 per cent).
However, purchasing a second home or holiday home does not just enable families to escape to the country; it also provides an opportunity for individuals to bring forward their tax and succession planning and accelerate the inter-generational transfer of wealth by utilising the ‘Shared Ownership Exemption’, which permits individuals to gift a share in a property (including a second home or holiday home) to one or more individuals (for example, their adult children) without making a gift with reservation of benefit (GROB).
What is a GROB?
Lifetime gifts to individuals (also known as potentially exempt transfers) are one of the most effective mechanisms for individuals to reduce the value of their estate for inheritance tax (IHT) purposes. Broadly speaking, if an individual (the donor) makes a gift to another individual (the donee), and then survives for more than three years from the date of making the gift, the rate of IHT will be reduced by 8% a year. If the donor survives for seven years from the date of the gift, the value of the assets transferred will fall out of their estate altogether and will not be charged to IHT on the donor’s death.
However, when making lifetime gifts, individuals must be careful to ensure that they do not fall foul of the gift with reservation of benefit rules (the GROB Rules). In summary, the GROB Rules are a set of anti-avoidance provisions contained at section 102 of the Finance Act 1986 (FA 1986), which prevent individuals from avoiding IHT by gifting assets before their death, but continuing to derive a benefit from those assets. For example, if a donor gifts an undivided share in his home to his adult children who live elsewhere, but continues to live in the property rent free, the gift will constitute a GROB.
The tax implications of making a GROB can be severe and, for this reason, it is usually recommended that individuals do not make lifetime gifts of their main residence.
How does the Shared Ownership Exemption work?
The Shared Ownership Exemption is a statutory exception to the GROB Rules contained at section 102B(4) of the FA 1986, which permits the donor to gift an undivided share of an interest in a property to one or more donees without making a GROB, provided that the following conditions are met:
- The donor gifts an undivided share of an interest in a property to the donee(s)
The donor must make an absolute gift of an interest in a property to the donee(s). The legislation does not limit the size of the gift that the donor may make, although it is usually advisable to limit this to 50%.
- The donor and donee(s) all occupy the property
The word ‘occupy’ is unfortunately not defined in the FA 1986. However, it is generally accepted that occupation goes beyond just being physically present at the property and that there must be some element of control. For example, someone who simply stores belongings in the property or visits at the invitation of the owner is unlikely to be in occupation, but someone who has a key and can freely enter and leave the premises as they please may be in occupation (even if they are absent for significant periods). In appropriate circumstances, the Shared Ownership Exemption can apply to second homes and holiday homes.
Ultimately, whether the donor and donee(s) are all in occupation will be determined on a case-by-case basis, with particular reference to the facts.
- The donor does not receive any benefit (other than a negligible one) which is provided by or at the expense of the donee(s) for some reason connected with the gift
The key point here is that the donor should not receive a benefit after the gift that they did not receive prior to the gift. For this reason, the donee(s) should not pay more than their fair share of the expenses based on their percentage share in the property, although the donor can continue to pay all of the expenses on behalf of the donee(s) without making a GROB.
Before proceeding with the Shared Ownership Exemption, particular consideration should be given to the following:
- Joint ownership and asset protection: the implications for the donor of owning the property jointly with the donee(s), particularly if the donee(s) may have differing views as to the management of the property or if one of the donee(s) were to marry “badly”.
- Documentation: the documentation required to effect the gift to the donee(s) and record their respective interests in the property.
- Stamp Duty Land Tax (SDLT): the SDLT implications for the donor of purchasing a second home or holiday home and the potential implications for the donee(s) of owning an additional property. Extra considerations will apply to any mortgaged property.
- Capital Gains Tax (CGT): the CGT implications for the donor of gifting the property to the donee(s), particularly where the second home or holiday home is already owned by the donor and may be subject to a chargeable gain.
- IHT: the IHT implications of making the gift, which will be a potentially exempt transfer for IHT purposes.
- Continuous joint occupation: the implications for the donor if the donee(s) cease to occupy the property at a later date, for example if they were to move abroad or predecease the donor.
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