Taxidermy: getting under the skin of tax law
SDLT: a double whammy
‘When people thought the earth was flat, they were wrong. When people thought the earth was spherical, they were wrong. But if you think that thinking the earth is spherical is just as wrong as thinking the earth is flat, then your view is wronger than both of them put together.’
Isaac Asimov in ‘The Relativity of Wrong’
A solicitor has a professional duty to either advise a client on the tax aspects of a transaction (notwithstanding his ignorance of tax law) or explicitly warn the client that he is not going to do so. If the solicitor is not giving tax advice, this must be set out in writing and the client must agree.
I’ve just been contacted by one member of a couple who, shortly before Christmas, bought an investment property. The property was a freehold house which, some time before they bought it, had been divided into two flats. There was a sitting tenant in one of the flats, so the purchase was subject to that tenancy.
The purchase price of £650,000 was met by the couple in unequal shares: the one who phoned me put up £610,000, the other £40,000. The couple weren’t married. They paid cash, but wanted to refinance the property after completion. Mortgage lenders don’t like freehold flats as they don’t consider them to be good security, so before the two flats could be mortgaged they each had to be held on a long lease.
So, far so good, except that English land law doesn’t allow a person to grant a lease to himself. To overcome this obstacle, the property lawyer engaged by the couple advised them to form a company and use the company to buy the freehold for £650,000 from the sellers. The company then granted two new long leases to the couple for a total price of £650,000 (which was never paid).
(Bear with me, I’m getting to the punch line).
SDLT on the purchase price should have been £26,000 (£650,000 at 4%). However, the solicitor managed to generate an additional charge to tax of £19,500! This second charge came as something of a shock to the couple, who had quite reasonably expected to pay only one charge to SDLT (on the grounds that they had only paid £650,000 once).
So how could this have been avoided? Simply by granting the leases for £1. This had been pooh-poohed by the solicitor (‘I don’t know anything about tax but…’). The reason given was that it would have led to a charge to capital gains tax on any later sale being on the proceeds of that sale less the £1 paid on the grant of the lease. Wrong: as the couple were ‘connected’ with the freehold-owning company for capital gains tax purposes, they would be treated as paying market value for the leases, not £1. For those of you who want chapter and verse, it’s there in section 18 of the Taxation of Chargeable Gains Act 1992
In addition (or should that be wronger?), by granting the two leases to the couple jointly and failing to put in place a declaration of trust setting out their shares as being in proportion to what they each put in, the solicitor had, in effect, given £285,000 from one to the other. And to compound the wrong, without that declaration the couple would be presumed to hold the leases as joint tenants and, should one of them die, his interest would automatically pass to the other, irrespective of the contents of any will. Morbid lawyer talk maybe, but the one who put in the £610,000 was off to Rwanda the next week!