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Tax Alchemy

income tax into capital gains for property

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I have a client with an odd arrangement.

The client is due to purchase a property in his name.

2 friends are lending him money to do so.

The loans are to be repaid over time with no interest.

BUT on sale of the property, the 2 friends get a slice of the house sale price.

So it seems to me this is simply rolled up interest, and so a (big) income tax receipt, once it arrives in their bank account. 

Any smart ways to strucutre this so its CGT, other than the obvious one that they just buy a share and get some sort of rent/loan interest.   

I am musing around whether a bare trust can be used such that the friends have a nil acquisition cost for their share of the property, and so any proceeds are capital proceeds of the trust, and not rolled up interest on the loan. 

Any thoughts?

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By SteLacca
13th Feb 2019 18:38

I am currently fighting an HMRC enquiry along similar lines (though my client is the lender - and HMRC are trying to stitch him up for the CGT - despite it obviously being a bare trust).

I'll let you know when the enquiry is concluded (and the way it's looking, it will be tribunal). It may take a while.

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Replying to SteLacca:
By ireallyshouldknowthisbut
14th Feb 2019 10:02

So what was HMRC's view of the transactions?

In this case it appears the proceeds are rolled up interest.

But its possible that the lenders acquire an interest in the property for no proceeds, and then anything paid out on sale is CGT. Its mucky.

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Replying to ireallyshouldknowthisbut:
By SteLacca
14th Feb 2019 10:03

In the enquiry HMRC are attempting to charge the settlor to CGT on sale of the property, which my view is the beneficiaries are chargeable but qualify for PRR.

But depending on the outcome, it could inform re your situation.

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By AnnAccountant
13th Feb 2019 20:59

Will the money they receive be proceeds from the sale of an interest they will own in a property?

They won't be the beneficiary of a bare trust/own an interest in the property simply by calculating their return based on the sale price.

The documents will be key I would think to determining what they have factually owned and earned. The tax consequences then flow from that.

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By Accountant A
14th Feb 2019 01:58

Is there more to this than meets the eye? What are the 'commercial' drivers for the plan? The implication is that this isn't a short-term arrangement so why would anyone lend on the promise of getting their money back at some indeterminate date in the (potentially distant) future when/if the client decides to sell?

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Replying to Accountant A:
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By atleastisoundknowledgable...
14th Feb 2019 08:16

I think the loans are being repaid as capital-only repayments, for arguments sake on a monthly payment plan. Assuming it’s a long term plan, there’ll be nil loan balance on sale of the property.

My assumption (@ireally, correct me if I’m wrong) is - in essence - that A said “I need some cash to buy this house”, B&C replied “we’ll lend you the money, interest free with a repayment plan, but we want X% when you sell it”.

I’ll leave the actual advise to others much better placed than I to do so, just wanted to see if I could simplify the position... (for what it’s worth, I’d’ve said interest receipt).

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Replying to atleastisoundknowledgable...:
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By Adam12345
14th Feb 2019 08:28

Hypothetically, if the property was sold at a loss, what would happen regarding the loans? Would they share a percentage of the loss also?

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Replying to Adam12345:
By ireallyshouldknowthisbut
14th Feb 2019 10:03

@Adam, good point. I don't think that has been addressed either.

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Replying to ireallyshouldknowthisbut:
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By Adam12345
14th Feb 2019 10:55

I think the answer to that question will help answer your original question.

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Replying to atleastisoundknowledgable...:
By ireallyshouldknowthisbut
14th Feb 2019 09:40

@ILISK

That is pretty much the situation, chap rents a house and the owners has died. He cant afford to buy it, but he has friends with lots of cash not doing much in the bank who have offered to help.

I am trying to explain that on day one he is giving them essentially 1/3 or a house for nothing based on the current terms, and still has the loan repayment due.

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Replying to ireallyshouldknowthisbut:
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By Accountant A
14th Feb 2019 11:17

ireallyshouldknowthisbut wrote:

@ILISK

That is pretty much the situation, chap rents a house and the owners has died. He cant afford to buy it, but he has friends with lots of cash not doing much in the bank who have offered to help.

I am trying to explain that on day one he is giving them essentially 1/3 or a house for nothing based on the current terms, and still has the loan repayment due.

Still don't understand why either party would take the apparent risk.

If the client suddenly expires soon after the purchase, his "friends" get a windfall. If he lives to a ripe old age, doesn't want to move, and house prices tank, his friends will have had a poor return on their interest-free loans.

If the client can afford rent - and apparently can afford loan repayments - why is a simple loan not the preferred route? It would be easier and cheaper to document, for a start!

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Replying to Accountant A:
By ireallyshouldknowthisbut
14th Feb 2019 12:28

I am not entirely sure the client (and his friends) really understand their own proposals, or at least as they have been explained to me.

It is intended as a long term arrangement, and we have discussed the 'what if someone wants out' issues.

The reason for not using the obvious route (ie a simple loan) is the lenders are trying to be a little cute and not pay any tax on it, and grab some upside if the price goes up. As ever an attempt to be clever seems to be creating a huge headache.

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Replying to ireallyshouldknowthisbut:
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By Accountant A
14th Feb 2019 12:32

ireallyshouldknowthisbut wrote:

the lenders are trying to be a little cute and not pay any tax on it, and grab some upside if the price goes up.

I could understand that if this was some relatively short term 'investment'. Worrying about the tax implications of a return you may or may not receive and then only, potentially, decades hence, seems odd. The old "tax tail wagging the commercial dog" scenario.

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By Justin Bryant
14th Feb 2019 10:09

Without more this loan gain would not be CGT. If you want to make it CGT it is not rocket science, let alone alchemy.

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By Ajtms
18th Feb 2019 11:22

I have had 20 0r 30 of these situations over the years. Since the lender has not bought a share in the property, their ultimate gain when the property is sold is an income gain assessable to income tax in the year of sale. I have consulted many solicitors about these over the years and there have been many articles in the "TAXATION" magazine too. The arrangements used to be very common in Nil Rate Band trusts where the a beneficiary would borrow the capital in exchange for an "IOU" linked to the rise in value of the property.

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