Just saved myself / potentially made myself £95,000 ... !

[Vanessa]

Thought I would share an interesting story with the tribe ...

A few weeks ago, I was contacted by one of the lenders I have a mortgage with, an American lender, named Advantage.

I have a mortgage with them on a property originally purchased for £350,000. Great product - it allowed me to purchase the property with a 10% gifted deposit, with 90% LTV mortgage. I got stamp duty paid by the developer, so a legitimate NMD deal! That was two years plus ago. Those were the days ... *sigh*

The property is currently worth conservatively £315,000.
Mortgage payment: £0 per month
Rental income: £1400.00 per month.

Advantage wrote to me, saying that if I redeemed the mortgage before the end of September, they would give me a discount of £81,000 .... !!!!

I contacted John Simpson of Resident Broker, and we worked out some re-mortgage figures. John concluded that I needed a further discount to secure a reasonable 70% LTV product. He therefore suggested that he compose a letter to the lender, explaining that we needed more money off if we were to re-mortgage away from them. John wrote the letter, and I faxed it to Advantage.

They rang today to say that they agree to our proposal!

So, if I remortgage away, I substantially reduce my borrowing and get some really great equity.

Of, if we sell the property, we will make anything from £60K upwards depending on what I can sell it for.

The moral of the story is three fold:

1. If you don't ask, you don't get.

2. We are in extraordinary times, and lenders are flexible and worth pitching to.

3. A good, pro-active broker is worth his weight in gold.

I would just like to take this opportunity to thank John Simpson for being so pro-active, finding me alternative products, and writing the proposal to the lender. He is very quick to act, and always gives excellent advice. He is also very supportive and a great person to bounce ideas off.

I recommend his excellent finance blog at www.residentbroker.com/blog. Why not go and subscribe to it now so that you can keep up to date with the latest financial products and news?

Thank you to John for his excellent work.

So tribe, what would YOU do?

Keep the great cash flow and remain on the SVR?

Sell the property?

Re-mortgage to another product and take the equity for later?

[JOANNA CAROLINE]

"Equity" doesn't mean much to me nowadays ; if you think the property can cash-flow for the medium to long term within reasonable guesswork of interest rates then keep it, understanding that "equity" may be further eroded. But if not, I would grab the cash (sell) and run.

[Vanessa]

Thanks Caroline.

I do agree with you about the equity point. It is very difficult to quantify and pretty useless unless I do sell.

Thanks for your views, which are appreciated.

[Angela O'Connor]

No matter what the cashflow is right now, the fact is the yield is very low (4.8% gross)and I believe you are investing for the long term. It only takes a few rate rises and then what? You may want to sell it but will you make any gain?

Getting 81k knocked off can only be good for a start. It's a gift and it would take 5 years+ to make the same money on the rent (pos. cashflow) if the base rate would stay at 0.5%.

I assume the new mortgage will be appox. 70% of 315k = 220k. I don't know what product you went for but if we use an average of 5-6% over a long term, the property might be just about cashflow positive.

If you can sell the property and invest the money in a high yielding property, you might be better off. If you can make more money with holiday lets, HMO's etc. it might be worth to consider.

That's my tuppence worth.


Angela

[Angela O'Connor]

Oh, I forgot to say, thanks for sharing.

I am in a similar situation myself with a property I intended to be a BTS, which turned into a BTL. Yield is low, cashflow high because of the tracker. I will sell this property as soon as the time is right. I know I can do a lot better with that money.

Angela

[John Corey]

Good topic for a discussion. Thanks for kicking it off Vanessa.

Caroline and Angela covered a lot of good points.

At a macro level, less debt on the same property is better than more. Easier to service, etc.

Get some tax advice. The money being forgiven on the loan could easily be seen as taxable. You may have to pay tax in the same tax year that the loan is forgiven. If that is the case it might change your decision making process. A sale that crystalizes the reduced value of the asset could offset some of the gain and also free up cash for tax bill.

I would definitely look at taking advantage of the discount and I would not stay on the present loan. While the cash flow now is good it will not continue for ever. You can pretty much guesstimate what the cash flow will look like. I doubt it will add up to the £81K. A few years from now the rates will be up and the window to lock in the £81K discount will have passed.

Use 5% to 6% and look at the cash flow. Is this a property that makes sense as a buy and hold rental? Unless you can get a tenant buyer who will pay a premium over the rent on a lease option just factor in the normal rent level and the true running costs. If the property does not cash flow see what you can do to sell the property. Figure out the costs of selling? Will you need to refinance before the sale goes through or can you get the sale to completion before the discount offer runs out?

In two years time the value of the property might be up. Or it might be years before much of an uplift happens. Do you want to wait and then exit the property?

John Corey
www.ChelseaPrivateEquity.com/blog
Follow me on Twitter -> www.twitter.com/john_corey

[Wasim]

Hi Vanessa

A good result... (-:

As you say you dont know unless you ask!!

Regards

Wasim

[Stephen Fay ACA]

Hi Vanessa,

Firstly, congratulations. That is some result. Regardless of the tax position, you have a handsome profit. A case of "you've got to be in it to win it"?!

You asked me by email what my thoughts were on the taxation of your windfall ...

This is a very unusual scenario. If you simply remortgage to another lender, and retain ownership of the property in your own name, there is no disposal for Capital Gains Tax (CGT) purposes, and so CGT will not apply. Similarly, income tax would not apply as you haven't received any income as such.

Normally, where a transaction has the effect of transferring capital from one person to another, there are tax consequences e.g. the gift is a "Potentially Exempt Transfer" for Inheritance Tax purposes, meaning that the donor must survive 7 years after the date of the gift for no tax to be owed by the donor. However, in this case, the donor is a company & so IHT does not apply. In this case, this is a purely business transaction, where neither person gets something for nothing, and so it seems this would not fall under the "Covenants and Capital Gifts" rules.

So, on the face of it, there isn't any tax due.

However (sorry!), it doesn't pass the "smell test". In other words, it feels as though the "gain" is taxable. This is supported by the general logic that a loss for one party is usually offset by a gain for another party. If the lender treated the "gift" in its books as a bad debt (which it would do), then it would receive tax relief on that bad debt in the usual way. However, there would not be any equal and opposite gain for Vanessa which HMRC could tax. There are scenarios where this does happen, but they are unusual. Having said that, this is an unusual scenario! As this will be relatively rare, HMRC may allow it by concession.

This is a different scenario to the upfront developer "gifted deposit", where the gift isn;t taxed as income upfront, but the property cost for CGT purposes is the lower (net) cost of the property. In this case, HMRC clearly benefits as the CGT bill is higher due to the lower base cost being used in the CGT calculation

My feeling, overall, is that this capital gift, provided on a purely commercial basis, wouldn't be taxable on the recipient. But, I would probably seek a formal HMRC pre-determiniation, by carefully outlining the scenario, to clarify that. This is definitely a scenario where you should obtain professional advice (i.e. you can use your accountant's professional indemnity cover!). The above is just my musings and does not constitute professional advice.

However, my professional curiousity as been aroused now, so I will look into this further and revert back. Hope that helps.

Stephen Fay ACA
Fylde Tax Accountants
Tel: [phone]
Email: [e-mail]
Web: fyldetaxaccountants.co.uk

[Vanessa]

Very helpful, as always, Steve! Thank you so much.

What would you do in these circumstances? Nick wants to sell, I want to keep and reduce the debt!

[Stephen Fay ACA]

If you sell, CGT will come into play. This would probably be treated as a separate issue altogether to the mortgage gift. From the figures above, I would expect the base cost to be £315k (£350k less your 10% developer gift). Assuming your valuation of £320k is accurate, that would provide a £5k gain. However you can of course deduct your capital costs on purchase and sale, and any capital spend on the property whilst you have owned it. This should wipe out your capital gain altogether, hence you would not pay any CGT (although the sale would still need to be reported on your self-assessment return.

It really depends on what you plan to do with the sale proceeds ... can you re-invest the cash into a better property? Could you use the cash to pay down the mortgages on your other properties (and thereby be able to remortgage any of them onto better rates ... may not be an issue now, but could be soon). Was the prop bought as a long-term hold? Does it rent well? etc.

For me, with a gross yield of 4.8%, and the new mortgage of >£1k pcm, I would be inclined to sell & pay down my other props. In fact, that is exactly what I do every year. I sell 1 property every year to use up my CGT allowances (myself and my wife), and either re-invest in another prop (BMV, naturally!) or pay down a mortgage. I have a plan to sell most properties after around 10 years ownership (i.e. when I can pretty much guarantee a decent capital gain) & "churn" the portfolio ... to eventually end up with a mortgage-free small portfolio, having sold off most of it with no / low CGT to pay.

Having said that, selling property hurts doesn't it?!

Stephen Fay ACA
Fylde Tax Accountants
Tel: [phone]
Email: [e-mail]
Web: fyldetaxaccountants.co.uk

[James McBrearty]

Hi Vanessa

I ran this by our Chartered Tax Adviser & he very much agrees:

This area is one of those very tricky areas of tax where the commercial idea is simple but it does not fit neatly into old tax law. There were similar problems in the 80s I recall with cash backs on endowment premiums.

I even saw in the 90s a tax scheme which depended on the perceived tax exempt status of cash backs on investments that were taken out and then encashed with no penalty.

If you wanted further advice he is happy to take on the case.

Nick mentioned advocacy in his recent blog - Mark Lee has a tax advice network helpline and they only charge a fixed amount for the call

[John Corey]

The sniff test comment is a good one.

Assume for a minute that a loan being forgiven is not taxed. The holder of the loan gets to write off the loss (the amount forgive) while the borrower gets the gain from the cash tax free. Yes, the borrower did receive cash when they took out the loan so they did gain.

Now think about employment. If I am taxed on a salary and I would not be taxed when loans are forgiven I would work with employers so that they loan me the money and then forgive it later.

In Vanessa's case we need to ignore the property and its tax status. The simple idea is a pile of money was given to Vanessa/Nick. The money was spend on something. For some reason the lender is offering to accept less back. The difference is either a gift or income of some sort to Vanessa/Nick. It is being moved from the liability column to the asset column (like the cash was still in a bank account). It should not matter that the cash was spent on an asset that fell in value (like most all cars do so ignore the asset).

John Corey
www.ChelseaPrivateEquity.com/blog
Follow me on Twitter -> www.twitter.com/john_corey

[Stephen Fay ACA]

John,

You're assuming that UK tax law is logical - it isn't! There are all sorts of inequalities and complexities that don;t necessarily make sense. The UK tax system is a mish mash of literally hundreds of years of legislation, case law, loopholes opening and closing etc.

The employment analogy isn't a good one. Property income is not employment income, nor even a "trade" for tax purposes. (Incidentally, this is partly why property as an income is so attractive - as it's not a trade, and not employment income, National Insurance is not payable. That's around a third less tax due than the same amount of earned income). There are very clear rules as to when a loan provided by an employer is treated as income on the employee.

This is, in fact, a commercial transaction between two parties. The mortgage is being settled at a lower amount than its book value, and the mortgagee is benefitting from that. However, that doesn't necessarily make it taxable on the mortgagee (whether as a capital gift or as income). However the property and its status (i.e. as an investment asset), are important here, as it sets the context for the transaction.

It could be that the gift is a "tax nothing" i.e. there are no tax consequences at all. However, as I say, I would advise Vanessa to discuss this with her accountant, and probably seek a pre-determination with HMRC. It's a large amount, and so worth establishing firmly whther the "gain" is subject to tax. I would expect Vanessa's accountant to establish the position, and sign off on it (i.e. the advice is subject to the accountant's professional indemnity cover!).

Incidentally, I wouldn't advise individuals to seek advice directly from resources like the tax advice network (although this is an excellent resource, it's geared more towards accountants than lay persons). These resources are useful for technical queries made by practising accountants who understand their clients' full circumstances. In the real world, most competent accountants can deal with 95% of scenarios from their own knowledge and experience. But, there are always the odd occasions (like this one), where a second opinion is useful. (Myself, I would certainly seek firm guidance from HMRC on this one before formally advising a client - my insurance is expensive as it is!).

It's really for Vanessa's accountant to research and advise her on this one. Vanessa can then relax, safe in the knowledge that her accountant's professional indemnity cover will take the hit if the advice turns out to be incorrect!

Stephen Fay ACA
Fylde Tax Accountants
Tel: [phone]
Email: [e-mail]
Web: fyldetaxaccountants.co.uk