The European Commission have recently issued a “reasoned opinion” declaring that the relief from UK IHT afforded by Agricultural Property Relief is incompatible with EU legislation regarding free movement of capital. The EC objection is of course that the relief applies only to property in the UK, Channel Islands and Isle of Man – EU law requires, broadly speaking, that any relief should be available to property situate anywhere in the EU. HMRC have yet to respond to the opinion.
Does this presage a mass flight from the prairies of East Anglia to the orange groves of Seville and the spaghetti bushes of northern Italy? Well, perhaps not: at least not while the Euro trades at its present heady levels, anyway. But it did get us thinking about the tax implications of investing in property overseas.
First, a home overseas may of course be a “residence” for the purposes of CGT main residence exemption. Indeed, it may by election be treated as the main residence. Acquisition (or sale) of an overseas holiday home may therefore trigger an opportunity for making a main residence election. Rent from overseas property may be subject to UK tax (though local tax may also need to be considered) but must for tax purposes be kept separate from any profits of a UK property rental business.
Second, the CGT consequences of owning foreign property can be counter-intuitive. Consider: I buy a property overseas for 500,000 Euro on an interest-only Euro mortgage at a time when £1 = 2 Euro. I subsequently sell it for 500,000 Euro and repay the mortgage, at a time when £1 = 1 Euro. Obviously I have made no gain and would expect to pay no tax.
I will be treated as making a gain of £250,000 on the disposal of the property – remember, acquisitions and disposals must be calculated in sterling terms. But I get no relief for the equivalent loss of £250,000 on the mortgage. In particular the additional cost of repaying the mortgage is not treated as part of the cost of acquiring the asset: a liability isn’t an asset (!) for CGT purposes and a “loss” arising from the increased cost of repaying a foreign currency mortgage isn’t an allowable loss. Of course, where the same thing happens in reverse on a rising pound the “gain” on the mortgage debt isn’t taxable either, though that may be cold comfort to a client who is presented with a tax bill on a wholly notional gain.
This article was also published on TaxationWeb.