Key Tax Advantages of incorporation relief property
Incorporation relief allows individuals transferring a business to a limited company to defer capital gains tax on the transfer of assets like land, buildings and goodwill. The relief applies if the transfer is for genuine commercial reasons and assets remain in use by the company.
Key Tax Advantages
Deferral of capital gains tax payment until shares are disposed of
Potential for greater tax efficiency within a company structure
Avoiding immediate tax charges that may discourage incorporation
To qualify, the individual must
Be a sole trader or partner in a business
Transfer the whole business as a going concern
Transfer all business assets except cash to the company
Receive at least some shares as consideration for the transfer
Incorporation relief applies automatically if the conditions are met
The transferor can elect not to claim the relief by notifying HMRC
The deferred gain is deducted from the base cost of the shares
Legal and Tax Considerations
Other taxes like SDLT may still apply on asset transfers
Need to prove a genuine business exists for property portfolios
Compliance requirements as a company director
Seek professional advice to ensure tax reliefs applied correctly
Incorporation relief can provide useful tax deferral but needs proper planning and advice to maximise benefits.
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History and purpose of incorporation tax relief
Incorporation relief was introduced to remove tax barriers for small businesses looking to incorporate and provide time to realize gains. It remains an important relief to support business growth by facilitating company formations in a tax efficient manner.
- Incorporation relief was introduced in 1965 under the Finance Act to facilitate the transfer of unincorporated businesses into a company structure. The aim was to remove tax barriers to incorporation
- It allows deferral of capital gains tax when transferring chargeable assets like land, buildings, goodwill etc. from a sole trader or partnership into a company in return for shares
- This avoids an immediate tax charge that could discourage small businesses from incorporating and gaining benefits like limited liability
- The policy rationale was to support business growth by encouraging incorporation. Deferral of tax provides time to establish the company before realizing gains
- Another purpose was to put incorporated and unincorporated businesses on an equal tax footing regarding transfers of assets
- Over the years, incorporation relief has remained a key part of the tax system to facilitate company formations and make tax neutral decisions
- It applies automatically if qualifying conditions are met, so the process is simplified for small businesses
- The relief has remained broadly unchanged over decades, demonstrating its effectiveness and support from successive governments
Key Benefits of Using Incorporation Relief
Incorporation relief is an important tax relief that facilitates company formations and growth by permitting tax efficient transfer of property into a limited company structure. However, professional advice is needed to ensure eligibility criteria are met.
- Avoiding immediate capital gains tax payment on property transfer
- Incorporation relief allows deferral of any capital gains tax until the company shares are disposed of, which could be indefinitely
- This provides time to establish the company before realizing gain
- Potential for greater tax efficiency within a company structure
- Company profits taxed at lower corporation tax rates compared to income tax rates for individuals
- Other financial benefits like asset protection and flexible succession planning
- Limited liability protection for personal assets
- Shares can be gradually gifted to heirs to minimize inheritance tax
- Encourages small businesses to incorporate by removing tax barriers
- Automatic relief if qualifying conditions are met, simplifying the process
- Allows tax neutral decisions on whether to incorporate
- Puts incorporated and unincorporated businesses on equal footing regarding asset transfer
UK taxation framework for property transfers and business taxation
Incorporation relief is a targeted tax relief that facilitates company formations and property transfers, sitting within the wider system of taxes applying to UK property and business activities.
- Incorporation relief is a specific tax relief that applies to the transfer of business assets, including property, into a limited company structure
- It allows deferral of any capital gains tax charges that would normally arise on the transfer of property and other assets to a company
- This facilitates the incorporation of property rental businesses and portfolios into a company structure in a tax-efficient manner
The broader property and business taxation framework that incorporation relief sits within includes:
- Stamp Duty Land Tax (SDLT) on property purchases
- Capital Gains Tax (CGT) on disposals of property assets
- Corporation Tax on company profits
- Income Tax and National Insurance on salaries and dividends
- VAT registration requirements for turnover above £85,000
- Business Rates on non-domestic properties
- Incorporation relief specifically helps mitigate CGT charges that could otherwise discourage transferring property portfolios into a company structure to gain benefits like lower corporation tax rates
- It provides a tax-efficient path for property investors to incorporate as part of the overall UK taxation framework, while meeting other compliance requirements
Advanced Taxation Concepts: Incorporation Relief
Incorporation relief is a critical aspect of UK taxation law that impacts individuals and businesses looking to transfer property into a company structure. Understanding the intricacies of this relief is essential for advanced tax planning and navigating the complex taxation landscape.
Understanding Incorporation Relief
Incorporation relief is designed to ease the tax burden when a business, including its assets such as property, is transferred into a corporate structure. This relief plays a pivotal role in advanced tax planning strategies for several reasons:
Deferring Capital Gains Tax (CGT):
- When a business or property is transferred to a company, it usually triggers CGT on any gains. However, incorporation relief allows for the deferral of this tax, meaning it is not immediately payable.
- The relief works by rolling over the gain into the value of the shares received in exchange for the business or property. This postpones the CGT liability until the shares are eventually sold.
- The relief is not automatic and requires the entire business, including all its assets (or all assets except cash), to be transferred in exchange for company shares.
- It is crucial that the business being incorporated is a going concern.
Impact on Business Owners:
- For business owners, this relief can significantly reduce the immediate tax burden and improve cash flow during the incorporation process.
- It provides an incentive for business owners to shift towards a corporate structure, which can offer other benefits like limited liability and potentially lower overall tax rates.
Advanced Tax Planning Strategies
Incorporation relief should be a key component in advanced tax planning strategies, especially for those owning substantial business assets, including property. Strategic considerations include:
- Planning for the eventual disposal of shares is crucial, as CGT will ultimately apply. Business owners need to consider future tax rates and potential changes in legislation.
Structuring the Transfer:
- Careful structuring of the transfer to ensure eligibility for relief is paramount. This may involve valuations of the business and its assets and ensuring that the transfer is structured as a trade for shares rather than a cash sale.
Balancing Relief with Other Tax Liabilities:
- While incorporation relief can defer CGT, other tax liabilities, such as corporation tax on future profits, need to be considered. The overall tax position of the individual and the company should be evaluated.
Seeking Professional Advice:
- Given the complexity and potential financial implications, seeking advice from tax professionals is advisable. They can help navigate the nuances of incorporation relief and integrate it into a broader tax strategy.
Incorporation relief offers a valuable tool for business owners and property investors, but it requires careful consideration and planning. By understanding and strategically using this relief, taxpayers can optimize their tax position during and after the process of incorporation.
Is Stamp Duty the same as incorporation relief?
While incorporation relief and stamp duty are different aspects of the UK tax system, they are closely connected in scenarios involving the incorporation of businesses with property assets.
There is a logical connection between incorporation relief and stamp duty in the context of UK taxation, especially when it comes to the incorporation of a business that includes property assets. Here’s how they are connected:
Incorporation of a Business with Property Assets:
- When a business that includes property is incorporated (transferred into a company), it not only can qualify for incorporation relief for Capital Gains Tax (CGT) purposes but also triggers considerations for Stamp Duty Land Tax (SDLT).
Stamp Duty Land Tax (SDLT) Implications:
- SDLT is a tax on transactions involving the transfer of land or property. If property is part of the business assets being transferred into the company during incorporation, SDLT may be payable.
- The rate of SDLT depends on the value of the property and the circumstances of the transfer.
Interaction Between Incorporation Relief and SDLT:
- While incorporation relief can defer CGT on the gains of the property being transferred, it does not automatically exempt the transaction from SDLT.
- Business owners must evaluate the SDLT implications separately. Even if they benefit from incorporation relief on the CGT front, they may still face a significant SDLT liability.
- The decision to incorporate a business, especially one with property assets, needs to consider both the potential CGT deferral through incorporation relief and the SDLT liabilities.
- Proper planning and structuring of the incorporation process are essential to minimize the overall tax burden, balancing the benefits of incorporation relief with the potential costs of SDLT.
Seeking Professional Advice:
- Given the complexity and potential financial implications of balancing incorporation relief and SDLT, it is advisable for business owners to consult with tax professionals. These experts can provide guidance on how to structure the transaction in the most tax-efficient manner.
How to avoid immediate capital gains tax when selling a property in the UK
To avoid immediate capital gains tax payment when selling a property in the UK, utilize the annual CGT exemption, transfer ownership to a spouse, claim private residence relief if you lived there, let out part of the property, make exempt home improvements, hold over the gain by buying another residence, claim entrepreneur’s relief if you qualify, offset losses, incorporate and claim rollover relief, and seek professional tax planning advice.
- Use your annual CGT exemption of £12,300 for individuals or £24,600 for couples before paying any capital gains tax.
- Assets can be transferred between spouses at no gain/no loss, allowing your spouse to use their allowance and losses.
- No capital gains tax is paid on a primary residence if you qualify for private residence relief.
- Letting out part of a property can provide relief on gains relating to the rented area.
- Making certain improvements like building an extension can exempt part of the gain.
- Defer paying capital gains tax by buying another residence and meeting qualifying conditions to hold over the gain.
- Entrepreneur’s relief reduces capital gains tax to 10% on gains up to £1 million for qualifying business owners.
- Offset any capital losses on other assets before the tax year end against the gain.
- Incorporating a property portfolio into a company can potentially qualify for rollover relief.
- Seek expert guidance on maximizing exemptions and reliefs to minimize your capital gains tax.
Potential for greater tax savings efficiency within a company structure
Transferring an existing property business into a company can achieve greater tax efficiency in some cases, but the individual circumstances determine if it is worthwhile overall. Seeking expert guidance on the tax implications is highly recommended before proceeding with such property transfers.
To achieve greater tax efficiency for property transfers through incorporation relief and business property relief:
- The property portfolio should be transferred into a limited company structure. This allows rental income and gains to be taxed at lower corporation tax rates compared to income tax rates for individuals.
- To qualify for incorporation relief on the transfer to mitigate capital gains tax, the property business must be transferred in full (except cash) to the company in exchange for shares. The individual must operate an existing property business, not just hold investment properties.
- Business property relief can also reduce inheritance tax on shares in a property company by up to 100% if held for 2 years.
- Other benefits of incorporation include full deductibility of mortgage interest, ability to retain profits for reinvestment, and limited liability.
- However, there are also downsides to consider such as higher mortgage costs, loss of ownership control, and costs of administering a company. Professional advice is recommended.
- Important to note incorporation relief has specific qualifying conditions based on case law and HMRC guidance. Meeting the “business” test requires evidence of extensive business activities.
Business property relief can eliminate inheritance tax on shares in a property company if all the conditions are met, but professional advice is recommended to ensure the company structure and activities qualify before relying on this. The relief is not automatic for any property company shares held for 2 years.
Eligibility Criteria of Incorporation Relief Property
The existence of a genuine property business is central to qualifying for incorporation relief. Merely holding investment properties for tax purposes does not meet the criteria.
Seeking expert guidance to structure transactions that satisfy the extensive conditions is highly advisable.
- The property portfolio must constitute an existing property rental business, not just passive investments. Extensive business activities are required like actively managing properties and tenants.
- All assets of the property business, except cash, must be transferred to the company in exchange for shares. Partial transfers do not qualify.
- The property business must be transferred as a going concern to the company.
- The consideration received by the transferor must be wholly or partly shares in the company. Cash only transfers do not qualify.
- Anti-avoidance rules prevent artificial arrangements just to access incorporation relief. There must be commercial rationale.
- For partnerships, each partner must individually satisfy the tests for carrying on a property business.
- The transferee company can be UK or foreign resident.
- Specific eligibility conditions apply based on extensive case law and HMRC guidance. Meeting the ‘business’ test is key but not straightforward.
Application Process of Incorporation Relief Property
Incorporation relief applies automatically if the conditions are met. Appropriate documentation of the transfer and notification to HMRC provides assurance that tax relief has been properly applied.
Application Process of Incorporation Relief
- Incorporation relief applies automatically if the qualifying conditions are met. There is no need to make a claim.
- The transfer of the property business assets to the company in exchange for shares should be reported and documented correctly to evidence the relief.
- The transfer documents, company formation documents, and tax returns should reflect that incorporation relief was given.
- It is advisable to notify HMRC in writing when incorporation relief has been applied.
- The company’s first tax return after incorporation should include a statement that relief under s162 TCGA 1992 was given on the property transfer.
Documentation of Incorporation Relief
- Documents evidencing the transfer of the property business assets to the company.
- The company formation documents showing the shares issued in exchange for the property assets.
- A valuation report supporting the market value of the properties transferred.
- Evidence that a genuine property business existed prior to incorporation.
Valuation Process of Incorporation Relief
- Obtain an independent professional valuation of the property portfolio at the date of transfer to the company.
- The valuation should reflect market value on an individual property basis.
- The valuation report should detail the valuation methodologies used.
- The total market value based on the valuation report determines the base cost of the shares issued in exchange.
Case Studies and Examples of Incorporation Relief Property
- Incorporation relief allows deferral of capital gains tax when transferring a property rental business into a company in exchange for shares. The gain is rolled into the base cost of the shares.
- To qualify, the property portfolio must constitute an existing business with extensive activities beyond just passive investment. A portfolio of 5+ properties and 20+ hours per week of work is often cited.
- All assets except cash must transfer. The consideration must be fully or partly shares, not just cash. Extensive conditions apply based on case law.
- Professional advice is critical to ensure the business test is met and transactions structured correctly to benefit from the relief.
- A portfolio of 14 properties worth £5m with mortgages of £1.5m transferred into a company. Incorporation relief deferred £80k of gains. Additional debt was added before incorporation to allow tax-free extraction of profits 1
- A landlord with 5 properties worth £1m originally purchased for £800k could save £56k in capital gains tax through incorporation relief.
- A property divided into 10 flats, jointly owned by Mrs Ramsey. She spent over 20 hours per week on management activities. The Upper Tribunal allowed incorporation relief as her activities constituted a property business
Incorporation relief can provide valuable tax savings when structured correctly, but professional advice is essential to ensure the extensive qualifying conditions are met. Each case depends on its facts.
When Full SDLT relief applies for Incorporation Relief Property?
Key points regarding when full relief applies for incorporation relief property:
- Full incorporation relief applies when all the assets of an existing property rental business (except cash) are transferred to a company in exchange wholly or partly for shares
- The property portfolio must constitute an actual business with extensive activities, not just passive investments. Meeting the ‘business test’ is key but can be challenging to evidence
- All partners in a property partnership must individually satisfy the business test for full relief to apply to each partner’s share
- Full relief is only available if business is transferred as a going concern and the consideration is wholly or partly shares. Cash-only transfers do not qualify.
- The transfer must be of the entire business assets, not just some properties. Partial transfers do not qualify for full relief
When Full Relief Is Restricted
- If part of the consideration is in cash, the incorporation relief is reduced proportionately by the cash portion
- Relief can be restricted if part of a loan attached to the property is not formally transferred to the company
- Holding excess cash reserves or excepted assets not used in the business can reduce the relief
- Artificial arrangements solely to access incorporation relief may be denied full relief under anti-avoidance rules
- Meeting all the qualifying conditions allows the full capital gains tax liability to be deferred through incorporation relief
- However, the existence of an actual property business must be evidenced. Passive investment property does not qualify for full relief
What is SDLT relief on incorporation of the property?
- Incorporation relief allows deferral of capital gains tax when transferring a property rental business into a company in exchange for shares. However, it does not provide relief from SDLT (Stamp Duty Land Tax) on the transfer.
- SDLT is normally charged on the market value of properties transferred into a company, based on standard SDLT rates. This can make incorporation expensive from an SDLT perspective
- The main exception is when a property partnership incorporates. SDLT can be fully relieved when properties are transferred from a partnership to a company owned by the partners.
- To qualify, the partnership must have existed for genuine commercial reasons prior to incorporation. Artificial partnerships created just for SDLT relief are targeted by anti-avoidance rules.
- The partnership must have actively carried on a property rental business. Passive investment does not qualify. Extensive activities are required.
- If SDLT was not properly accounted for when the partnership originally acquired the properties, the relief on incorporation is restricted
- For full relief, all partners must be connected with the company receiving the property, either directly or by acting together
SDLT relief on property incorporation is very limited unless transferring from a genuine partnership carrying on an active property rental business. Professional advice is recommended to structure transactions correctly.
Multiple Dwelling Relief vs Incorporation Relief for property
- Incorporation relief allows deferral of capital gains tax when transferring a property rental business into a company in exchange for shares.
- Multiple Dwelling Relief (MDR) reduces Stamp Duty Land Tax (SDLT) when multiple residential properties are purchased in a single transaction or linked transactions.
- MDR and incorporation relief are separate tax reliefs targeting different taxes – CGT and SDLT respectively.
- When incorporating a property portfolio, MDR may be claimed to reduce the SDLT payable if multiple properties are transferred to the company simultaneously.
- But incorporation relief and MDR have different qualifying conditions and are not reliant on each other.
- In particular, incorporation relief requires a genuine property rental business to be transferred, not just investment properties. MDR does not have this requirement.
While MDR may be relevant when incorporating multiple properties, it is a distinct relief from incorporation relief. The two reliefs are not directly connected or reliant on each other. Their availability depends on meeting separate qualifying conditions for CGT and SDLT purposes respectively.
Incorporation Relief vs Gift Hold-Over Relief
- Defers capital gains tax when transferring a property rental business into a company in exchange for shares
- Requires evidence of extensive business activities beyond just passive investment
- All assets except cash must transfer and consideration must be fully or partly shares
- Applies automatically if conditions met – no need to claim
Gift Hold-Over Relief
- Defers capital gains tax when gifting business assets like property to a company
- Assets must have been used in a trading company or trading partnership
- Consideration from a company must be shares issued to the person making the gift
- Must claim to HMRC to apply the relief
Incorporation Relief vs Business Asset Rollover Relief
- Defers CGT on transfers of property rental businesses to a company.
- Transferee company can be UK or foreign resident
- Requires transfer of entire business assets except cash
Business Asset Rollover Relief
- Defers CGT when a sole trader or partnership transfers business assets to a company in exchange for shares
- Transferee company must be UK tax resident
- Can apply to transfer of a single business asset
Incorporation Relief vs Entrepreneurs' Relief
- Specific to transfer of property rental businesses into companies
- No lifetime limit – defers entire CGT liability until shares sold
- Automatically applies if conditions met
- Reduces CGT rate to 10% on gains up to £1m lifetime limit when selling a business.
- Applies to wider range of business disposals beyond just incorporation.
- Need to actively claim the relief.
When SDLT relief on property incorporation is not limited?
SDLT relief is generally limited on property transfers to a company, except when incorporating an active partnership carrying on a genuine property rental business for commercial reasons over an adequate period of time.
- SDLT relief is generally not available when transferring property from an individual or sole trader into a company, even if it is an active property rental business. The transfer is treated as a disposal and purchase at market value for SDLT purposes.
- The main exception is when incorporating an existing property partnership into a company. Full SDLT relief can apply in this case if certain conditions are met.
- The partnership must have existed for genuine commercial reasons prior to incorporation. Artificial partnerships created just for SDLT relief are targeted by anti-avoidance rules.
- The partnership must have actively carried on a property rental business, not just passive investment. Extensive business activities are required.
- The partners must be connected with the company receiving the property, either directly or by acting together.
- If SDLT was not properly accounted for when the partnership originally acquired the properties, the relief on incorporation is restricted.
- The relief only applies if the business is transferred as a going concern in exchange for shares. Cash-only transfers do not qualify.
- The partnership should exist for at least 2-3 years before incorporation to avoid the anti-avoidance rules.
Does property incorporation apply for residential property?
Residential property incorporation is possible in the UK but requires careful planning to address mortgage refinancing and regulatory restrictions. The potential tax and non-tax benefits can make it worthwhile with proper advice and implementation.
- Property incorporation involves transferring a property portfolio from personal ownership into a company structure, usually a limited company. It can apply to residential property portfolios, but there are some additional considerations.
- Most mortgages for residential properties contain “due on sale” clauses requiring the loan to be repaid if the property is transferred to a business entity. This restriction may make incorporation impractical unless the mortgage can be refinanced under the company.
- Some UK regulations prohibit corporations from owning residential property or limit the number they can own. These restrictions would need to be reviewed before incorporating a residential portfolio.
- The tax benefits of incorporation, such as lower corporation tax rates on rental income, can still apply to residential properties held within a company structure.
- Non-tax factors like liability protection and estate planning can also make incorporation worthwhile for residential investors.
- Seeking professional advice is recommended to review mortgage terms and any regulatory restrictions when considering incorporating residential properties in the UK.
Does property incorporation apply for property investment?
- The property portfolio must constitute an existing property rental business, not just passive investments. Extensive business activities are required like actively managing properties and tenants
- All assets of the property business, except cash, must be transferred to the company in exchange for shares. Partial transfers do not qualify
- The property business must be transferred as a going concern to the company
- The consideration received by the transferor must be wholly or partly shares in the company. Cash only transfers do not qualify
- Anti-avoidance rules prevent artificial arrangements just to access incorporation relief. There must be commercial rationale
- Specific eligibility conditions apply based on extensive case law and HMRC guidance. Meeting the ‘business’ test is key but not straightforward
- Incorporation relief applies automatically if the conditions are met. There is no need to make a claim
- The transfer should be reported and documented correctly to evidence the relief
- Advisable to notify HMRC in writing when incorporation relief has been applied
- Valuation report required supporting market value of properties transferred
- Transfer documents evidencing assets transferred to the company
- Company formation documents showing shares issued in exchange for assets
- Evidence that a genuine property business existed prior to incorporation
- Meeting all the qualifying conditions allows capital gains tax deferral through incorporation relief
- However, existence of an actual property business must be proven. Passive investment property does not qualify
Can SDLT relief be claimed when incorporating properties into a company?
SDLT relief can be claimed when incorporating properties into a company, even if incorporation relief was already claimed, as long as the specific MDR conditions are met independently. But professional advice is recommended to ensure eligibility given the prior history of the properties and anti-avoidance rules.
- SDLT relief and incorporation relief are separate tax reliefs targeting different taxes (SDLT and CGT respectively).
- Incorporation relief allows deferral of CGT when transferring a property rental business into a company in exchange for shares.
- SDLT relief may be available through Multiple Dwellings Relief (MDR) when multiple properties are transferred to a company simultaneously or in linked transactions.
- MDR has its own qualifying conditions unrelated to incorporation relief.
- However, any prior SDLT relief on the original acquisition of the properties could restrict subsequent relief on incorporation.
- There are anti-avoidance rules targeting artificial SDLT relief arrangements.
Can I use LINKED TRANSACTION and incorporation relief to save on tax?
Incorporation relief can apply across linked transactions transferring a business, but each relief has specific rules. Expert guidance should be sought when incorporating to optimize tax treatment.
- Incorporation relief allows for the deferral of capital gains tax when transferring a business into a company in exchange for shares. To qualify, the whole business must transfer as a going concern and all assets except cash must be exchanged for shares.
- Linked transactions refer to multiple transactions that are connected or related in some way. They are considered linked if they form part of a single scheme, arrangement or series of transactions between the same parties.
- For incorporation relief, if the business assets are transferred through multiple transactions, these could be considered linked. The relief would apply across the totality of the linked transactions, not individually.
- For SDLT (stamp duty land tax) purposes, multiple property transfers between the same parties may also be considered linked transactions. This allows multiple dwellings relief to be claimed across the total consideration.
- However, incorporation relief and SDLT relief have different qualifying criteria. SDLT relief on incorporation will depend on the specific circumstances, even if incorporation relief is obtained.
- The existence of a genuine business being transferred, not just investment property, is key for obtaining full incorporation relief. Professional advice is recommended to structure transactions that meet all the qualifying conditions.
Can you claim incorporation relief on goodwill?
Incorporation relief can apply to goodwill associated with an active trade or business being transferred into a company, providing the transfer meets all the specific qualifying criteria. The existence of a genuine business is key. Passive investment property and associated goodwill does not qualify for incorporation relief.
- Incorporation relief allows for the deferral of capital gains tax when transferring a business as a going concern into a company in exchange for shares.
- The relief applies to any chargeable assets transferred, which can include goodwill associated with the business.
- However, to qualify for relief on goodwill, the business being transferred must constitute an actual existing business with significant activities, not just a passive investment. Simply having investment properties and goodwill does not meet the qualifying conditions.
- There must be a genuine commercial reason for transferring the business assets, not just tax avoidance. All assets except cash must transfer to the company and the consideration must be fully or partly shares.
- If part of the consideration is cash, the incorporation relief is reduced proportionately by the cash portion.
- Professional advice is recommended to ensure the extensive qualifying conditions are met and the transfer is structured appropriately to benefit from the maximum incorporation relief available.