I read with interest your column last week on tax on rental income. I am on the opposite side of last week’s reader, in that I am looking to sell the property I inherited, which I have been letting out for the past six years.
The value of the property when we inherited it was around £330,000, and my local estate agent thinks we’ll get around £400,000. I haven’t done any structural work to it, and I never lived in it – it was my mother’s home and I had long-since fled the nest by the time she bought it.
I suspect we’ll have to pay capital gains tax on it. How do I work this out?
You don’t have to pay capital gains tax when you inherit or are gifted a property, but you are right that this tax is triggered when you come to dispose of the property.
The critical thing to remember here is that capital gains tax is payable on the net profit that you make on selling the house, not the total value of the property. Your net profit is calculated by deducting any allowable expenses from the profit you make on the sale.
There are many things you can deduct to reduce your profit for tax purposes. While you can’t deduct the costs of upkeep on the property, as you mention costs of structural work and improvements can be deducted. You can also deduct stamp duty costs and estate agency fees as well.
In your case, this should be a pretty simple calculation. You didn’t pay stamp duty when you inherited the property, you’ve done no significant work. So, you can deduct estate agency fees from your profit of £70,000.
With typical estate agency fees of 1.5 per cent, that would reduce your profit for tax purposes by £6,000, leaving you with a net profit of £64,000.
Had the property been your main home at any point during the past six years of ownership, that period would be covered by something called ‘private residence relief’, and you would not pay capital gains tax on the proportion of the profit that was covered by that period, plus an extra nine months.
However, you do not qualify for this.
The next step is to deduct your capital gains tax allowance from your net profit. Each individual gets a tax-free gain they can make each year, with tax paid on the amount above. In the 2021/22 tax year, this is £12,300.
If you own the property jointly with a spouse or civil partner, you can use both of your allowances combined, amounting to £24,600.
I am assuming the ‘we’ in your question is you and your partner (rather than a sibling), so will estimate your bill using both of your allowances. Note that if this is not the case, your bill will be higher.
So, your taxable gain will be £64,000, with your £24,600 tax-free allowances, leaving your net profit at £39,400. This is the amount on which you get charged capital gains tax.
The rate you pay varies on the asset on which you make a profit and is higher for property sales. It also depends on the rate at which you pay income tax.
If you’re a basic-rate taxpayer, you’ll pay 18 per cent. If you’re a higher or additional-rate taxpayer, you’ll pay 28 per cent.
If you have income from other sources, such as a salary or pension, the capital gain you make is added to this, and it could be that you pay a proportion of your gain at the lower rate and a proportion at the higher rate.
You must pay the tax owed within 30 days of the completion of the sale or disposal. You’ll do this by submitting a ‘residential property return’ and making a payment on account.
You used to be able to wait until you submitted your tax return to inform HMRC of a sale, but that changed from the last tax year.