9 April 2016 – by Alexander Peace
Stamp duty changes for additional dwellings that came into force last week risk stifling investment in build-to-rent schemes. But investors can avoid or mitigate the higher duty through forward-funding as well as other strategies.
The British Property Federation estimates that the tax will cost investors a year’s income, based on a typical 10- to 15-year rental yield, and could lead to the re-appraisal of investments.
But housing and planning minister Brandon Lewis says that the government has no intention of deterring institutional investment, leaving the way open for the forward-funding of schemes to avoid tax.
According to Jonathan Northey, partner at law firm DLA Piper: “The changes make build to rent the most sensible option for developers, which means that investors will need to engage earlier and invest at an earlier point than they are currently doing.
“Given the changes, any purchase of existing or even part-built stock will be complicated and more expensive following the Budget.”
The sector is also looking at new ways to avoid or mitigate the tax.
This is the government’s preferred option – investors that forward-fund a scheme, rather than buy a completed block, would avoid the tax.
It is a good way to pull in investment at the beginning of the development process, and it accomplishes what the government wants: more new homes.
Investors would be liable for a 5% tax on land, however, and when they want to leave the investment they will be hit, though this will technically not take place for 10 to 15 years.
Furthermore, if work on the scheme has started in any way, the full new-rate SDLT may apply.
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Multiple dwellings relief
Under multiple dwellings relief, the average value of a flat, rather than the total value of all of them, is taxed, which can help avoid the higher rates.
But this was already being done by rental investors, and the new 3% tax will still apply on multiple-dwelling relief deals, so this is not a particularly cheap solution, except for the cheapest flats.
On schemes of more than six properties, the buyer could apply non-residential rates of SDLT. But this solution is barely cheaper. Using non-residential tax on the above example, the SDLT due would be £139,500: £150,000 x 0% plus £100,000 x 2% plus £2,750,000 x 5%.
Creating a corporate wrapper around a development and then trading the company, rather than the asset, is what many see as a useful tactic for avoiding the higher-rate SDLT.
However, this method makes any gains vulnerable to inheritance and capital gains tax, and could attract annual charges on enveloped properties.
Registering the company abroad is a possible solution, but it would mean additional costs and difficulties for UK developers, as well as a loss of control.
Many developers are also concerned about the negative public sentiment surrounding offshore tax avoidance.
The issue for larger schemes and estate regeneration
If a block of properties sits within a larger development, forward-funding the smaller block becomes more complicated.
An investor looking to purchase 200 rental units in a 1,000-home scheme will find that if work has started on that section, they are liable for the new tax. Having a mix of commercial and residential units within the scheme can further complicate matters, and change eligibility.
This complication with forward-funding could curtail investment in larger-scale schemes.
The government’s view
At the time the stamp duty changes were announced, Conservative housing and planning minister Brandon Lewis said: “What I would like to see happen, which is what we have been arguing for, is more institutions becoming involved in the development from the beginning and staying involved all the way through the process.”