Money Makeover: 'My rental is worth 26 times more – how can I avoid paying tax on the profits?'

Kinross Almond’s work as an engineer meant he has travelled far and wide. His job took him first to Libya and New Zealand – and then later to Anglesey.

This may have been closer to the family home that Mr Almond, now 85, and his wife Mary had bought in Denbighshire, North Wales, in 1964, but the commute was still a slog. Mr Almond faced a daily round trip of 90 miles. “It became too much,” he said.

So the couple became accidental landlords. They let out their family home and in 1975 bought another house in Anglesey for £18,000 as their home for the next 10 years.

The couple moved back to Denbighshire in 1985. Since then, they have let out the Anglesey house, which currently has tenants who pay £725 per month. Mr Almond has paid off the mortgages on both properties.

Mr Almond wants to simplify their lives and is open to selling the Anglesey house. The property today is worth around £475,000 – 26 times what he paid for it 47 years ago.

But in itself this brings a major deterrent – their tax bill. “We pay tax upon tax upon tax. If I sell the property, I will pay capital gains tax, and then later on my children will also pay inheritance tax.”

First, Mr Almond wants to know what his tax liability is. He also wants advice on the best thing to do with the house. “I don’t really want to sell because I wouldn’t know what to invest the money in,” he said. Mr Almond’s wife would like to let the property for nine months a year and have access to it as a holiday home. He would prefer to let it long-term to fund trips away.

The couple plans to share their estate between their son, daughter and her two children, while minimising IHT.

Stefanie Tremain, private client adviser, Blick Rothenberg

Mr Almond’s capital gains tax liability would be based on his profits on sale. As the property was bought before March 31 1982, the cost is “rebased” to the March 1982 value, which was £52,000.

Mr Almond can also deduct the cost of any capital improvements made to the property. The costs must be improvements rather than “like for like” replacements.

Most of Mr Almond’s improvements (which total around £66,000) should be allowable. His estimated capital gain would therefore be £358,758.

The next thing to consider is “main residence” relief. A share of the gain will qualify for relief in proportion to the time Mr Almond occupied the property as his primary home. Only the period after March 1982 is taken into account.

This means, in the eyes of the taxman, Mr Almond has owned the property for 40 years and it was his main residence for around three and a half years. The last nine months of ownership qualify for relief by concession.

After Mr Almond and his wife’s annual tax-free exemption is taken into account, there would be a taxable gain of £298,280. CGT rates for residential property are currently 18pc or 28pc, depending on the level of your taxable income. For a higher-rate taxpayer, the total bill would be £83,518.

If Mr Almond gifted the sale proceeds to his children, this would be exempt from inheritance tax, provided he survived for the next seven years.

Mr Almond and his wife will each have an available IHT nil-rate band of £325,000. They should also qualify for the “main residence nil-rate band”, which is currently £175,000. Depending on how their wills are drafted, they should therefore be able to pass on up to £1m of assets free from IHT. If they kept the Anglesey property and included this in their inheritance estate, they would exceed this threshold by £171,000 (although this could be higher depending on whether some of their assets qualify for business property relief). This would be subject to IHT at 40pc, so a total bill of £68,400.

Elena Todorova, director of SPF Private Clients

There are several options available, depending on their plans and circumstances. The first would be to let the property on a long-term tenancy agreement for £725 a month; this would guarantee cashflow in the short to medium-term. This would make it easy to predict income and holiday funds, which would be the annualised rent – £8,700, less typically 20pc or 40pc tax depending on their other income, producing disposable income of £6,960 or £5,220 respectively.

The downside of using an assured shorthold tenancy agreement is that they cannot use the property themselves during the tenancy. The yield also seems low at 1.8pc, while there are limits to the expenses they can offset for tax purposes with capital expenditure generally deducted for CGT rather than income tax.

The second option is to use the property as a holiday let, which allows for family use. This enables them to maximise their income by letting on a short-term basis rather than long term, via sites such as Airbnb. They can expect their income to increase by two to four times during periods of high occupancy and demand, while also maintaining flexibility as to when the property is let.

As they would be running the property as a business, they can potentially offset a greater proportion of costs as well as claim various reliefs against CGT if they dispose of the property later. The downside is they may need to be more involved in letting or managing the house. As they live more than 60 miles away, it might make sense to outsource these services. They may have to pay 20pc to 25pc of the booking amount plus VAT to use booking platforms, plus there are cleaning costs and set-up fees.

It may be worth taking a mortgage on the property in order to access some equity. At the same time, it might be worth incorporating the property as a business, including children as shareholders and controlling the amount of funds drawn down. The business will pay corporation tax on profits. They will pay dividend tax only on profits drawn and if they do not need the funds, the money can stay in the business. There are also IHT advantages for properties within a limited company.

Holiday let mortgage rates are higher compared with a standard buy-to-let. However, a home loan can help them benefit from the equity of the asset without selling it. Also, they can potentially offset all of the interest or have a partial tax credit for interest paid. Speaking to a specialist tax adviser with expertise in property would be particularly useful.