Tax problems relating to purchasing a house for my parents

gordito

I posted this thread in the house buying section and got some good feedback on the mortgage and renting side of this issue. It was recommended that I also posted here to see if anyone could give me a view on the tax consequences of the options open to me.
Thanks.

My parents (both over retirement age) have decided to give up their leased business (and associated rented flat) but the capital they will end up with is insufficient to purchase a new residential property and they are concerned about the ability to get a mortgage, or the cost of getting such a mortgage, given their respective ages.

Therefore I want to investigate the options available to me relating to me buying a property for them and they rent it out from me. However there are a few complicating factors and I want to keep both my and their tax liabilities to a minimum.

My situation is that I own my principal property out-right and could remortage it. For arguments sake, if I was looking to purchase a £200k property for my parents, they could probably contribute £80k and I would get a mortgage to cover the remainder. My parents would live in the property and pay me a monthly rent sufficient to cover the mortgage payment.

However, since they are contributing a significant amount to the initial purchase of the house, how should I handle this - should they make the £80k a gift to me (their estate value is well under inheritance tax thresholds) and I buy the property in my sole name? Or should we have a joint purchase? Are there any tax breaks for rental income received from parents? On the death of my parents, how would I calculate any value of the house that relates to them in order to split their estate's proceeds with my brother?

Many questions I know, but hopefully someone out there has been through a similar process and can pass on some good advice.

Thanks.

localhero

Hi Gordito,

I'm no expert on CGT so perhaps Jimmo may be able to add his thoughts as to whether this would work.

You obtain an interest only mortgage and lend your parents the £120,000 they require to buy the property. You would avoid CGT since it would not be your property that made a capital gain. And since it would be your parent's main/principal residence, they too would avoid CGT.

To protect your interests you should register a charge against the property in the same way a bank would. So even if anything unforeseen should happen you are guaranteed to get your capital back.

After they've both died your debt would be repaid to you from their estate (and you in turn repay the mortgage if you wish). What's left over from their estates is distributed according to their wills. Their net estate (debts less liabilities) of £80,000 would be nowhere near the IHT threshold.

The issue of liability to care fees is dealt with by your parents owning the property as tenants in common as opposed to joint tenants. With joint tenancy upon the death of the first of your parents, the property would automatically pass to the survivor and risks being assessed for care home fees later.

If they instead owned a 50% share each as tenants in common, it would not pass automatically to surviving spouse. They would both need to make a will however to determine who their share passes to.

My suggestion is that they each make wills leaving their estates to a discretionary trust with spouse as one of the beneficiaries. When the first one dies, the trustees would be able to loan the contents of the fund (ie half of the property) to the surviving spouse during their life. Although surviving spouse would owe the trust the share of the property they've borrowed they would benefit from a full CGT exemption.

If surviving spouse requires care later on, their share as tenant in common would be virtually worthless (since the trust would own the other half making it virtually unsaleable) and therefore not assessable to care fees.

When surviving spouse dies, the discretionary trust is repaid from their estate and the trust wound up and distributed to the other beneficiaries. The loan is repaid to Gordito and what remains of surviving spouse's estate passes in accordance with their will.

In addition whilst they live there they can pay you interest on the loan (and not the capital as Jimmo says) - you would break even - so no income tax.

So at the end of the day when they've both died here's the end result: - 1) No CGT for you or them, 2) No IHT 3) No care home liability 4) No income tax to pay on the interest 5) A guaranteed return of your capital; and 6) (possibly) a gift in their will to you as a thank you. :beer:

For this to work properly they would not to invest around £250 -£300 on decent wills. Not a DIY option - contact the Institute of Professional Willwriters for someone qualified, regulated & Insured (visit www.ipw.org.uk - to find a member in your area). Best wishes.

MarkyMarkD

I'd like to hear Jimmo's answer to this.

I don't think that localhero's suggestion works because I don't see how the OP can offset their loan interest income against their loan interest expense. That's because it's not rent - the OP isn't going to own the property under localhero's scenario.

Unless you are running a lending business, surely you can't offset interest in this way? It would be like me borrowing money on my mortgage and simply putting it in the bank - I've never heard anyone suggest that the income and expense can be offset in those circumstances.

localhero

Hi Marky Mark D,

You're right it can't be rent since the parents own the property.

What I meant is the parents pay interest on the loan to Gordito that just happens not to produce a profit. It would be a commercial transaction (albeit a bit artificial), that would work wouldn't it?

MarkyMarkD

I don't think so. That's why I want to hear Jimmo's expert opinion.

If you can do what you are suggesting, why can't I offset my bank savings interest against my mortgage from a different lender?

EdInvestor

If there is no IHT liability won't the trust setup be caught under the deprivation of assets rule in re care fees?

MarkyMarkD

Thanks, Jimmo.

It's a fairly silly bit of taxation logic IMHO. It means that if you stooze using a credit card with (say) a 3% transfer fee but 0% interest for a year, and get 6% credit interest, you are assessed for tax on 6% whilst your net income is only 3%.

So I don't think there is a simply answer to the OP's dilemma. Two possibles have problems as follows:

- if the OP borrows the money on their own property, and lends it to the parents, then the interest received is taxable and the interest paid is not tax relievable; and
- if the OP and the parents take out a joint mortgage, the share of the parents' property belonging to the OP is subject to CGT as it's not the OP's principal private residence.

How about this one:

- if the parents take out a mortgage in their own name, guaranteed (if necessary - and not sure why it would be necessary to be honest apart from their age) by the OP. Because it's the parents' PPR, there is no CGT due. Because there's no transfer of interest, there's no income tax. The parents could afford the mortgage from what the OP has said.

I think we need some advice from a mortgage expert re lenders who will advance money to older people.

localhero

I'm obviously disappointed that my cunning plan doesn't quite work - though I suspected the lending money/interest part might be flawed. I think MarkyMark's alternative suggestion sounds like a good idea.

In response to Edinvestor, no the trust set up wouldn't be caught under the deprivation of assets re: care fees. Each and every one of us are entitled to leave our estates to who we wish. So it would be quite legitimate for both parents to do this in their wills.

The care fees problem often arises once it's too late (ie one parent has died and the property has passed to surviving spouse) - in that situation gifting the property as a lifetime gift to relatives falls foul of the rules.

gordito

Thank you all so much for your input. It's all very interesting and at the very least has confirmed my thoughts that this is potentially a complex area and I would benefit from professional advice.

I don't know if this is the correct forum to ask this question, but what do I need to consider as far as care fees are concerned? Would my chosen path of action have an impact on any future government-funded support for my parents' care fees?

localhero

The care fees situation is dealt with in my post #3. If this is a concern to your parents they should both make wills that will minimise their liability to care fees.

As things stand, if one of them dies and the other one later requires care, they would be means tested and any assets (including the property) above £20,000 are taken into account.

The common trap is married couples leaving their estates to each other, or the property passing automatically by joint tenancy. The local authority are then able to put a charge on the property if the survivor requires care.

Therefore ownership as tenants in common and properly drafted wills will safeguard the property in that respect.

DavidLaGuardia

jimmo wrote: »

MarkyMarkD
Re your post at #9:
I don’t think many taxmen would claim that tax law is logical. It’s the law and has to be applied. Your stoozing example is absolutely correct. In your view (and mine) there is no logic to it.

There is actually some logic in the tax applied in the example. While he would be taxed on the full income of 6%, the loss of 3% could be used as a capital loss that could be used to offset any capital gains. No good if this cannot be used (however rememember capital losses can be carried forward) but the logic is retained.