Bank of Mum and Dad: Concessionary Purchases
This article has been updated by Darren Price.
Occasionally Mum and Dad own a family home which could be transferred to a son or daughter when Mum and Dad downsize. In these situations it is not uncommon for the parents to agree to transfer the property at undervalue, with the rest of the value effectively being a gift.
Mark and Helen own the family home worth £510,000 with a mortgage of £110,000 and wish to downsize to a new home worth £280,000. Their daughter Sophie is a first time buyer and would love to own the family home. They agree that Sophie will raise £400,000 on a mortgage and pay this to her parents for the family home where she will live. Mark and Helen will use £110,000 to pay off their mortgage. They will have a little left over after the purchase of their new home for £280,000, payment of stamp duty land tax, the costs of moving and other expenses.
Mark and Helen will be left with a mortgage free home that they bought for £280,000. Sophie will have a house worth £510,000 and a mortgage of £400,000.
What is the "price"?
It will be important to Sophie how her purchase is structured.
- If it arranged as a purchase for £510,000 with her parents gifting her the £110,000 (see Gifted Deposit below) then she will not benefit from first time buyers' relief for stamp duty land tax and will pay SDLT of £15,500.
- If it is a purchase for £400,000 (see Concessionary Purchase below) with first time buyers' relief the SDLT will be £5,000.
If the purchase is structured as a "gifted deposit" then the contract and transfer will record the higher figure, here £510,000. SDLT is due from Sophie on that full stated sum.
It is easy to understand this if it is a rich uncle and aunt who gift the money to Sophie for Sophie to pay to her parents. But here the gift is provided by her parents. "Real money" might not pass for the amount of the gift from Mark and Helen to Sophie, as it would only have to be paid back as part of the purchase price.
But a lender will often require the parents to sign a document confirming that the money has been gifted. The "chargeable consideration" for SDLT is then the full gross sum treated as paid. The gift and the gross price might be recorded on a completion statement. Or the "gift" (without money actually passing) creates a debt owed by the parents which is then extinguished when the property is transferred to Sophie (the chargeable consideration is then the actual cash passing plus the amount of the debt then extinguished).
Concessionary purchase / transfer at undervalue / gifted equity / family discount/ genuine bargain price
The arrangement here is the parents sell to Sophie for less than the market value. The contract and the transfer record the amount of cash passing. SDLT is then based on this lower figure if there is nothing else Sophie is giving in return.
This is simple, except that not all lenders will allow it to be done this way!
Obtaining the mortgage
Many lenders are uncomfortable lending against a property bought at less than market value. They might lock Sophie into a structure where she will end up being recorded as having paid £510,000 for the property.
Sophie will want to find a lender who will lend when the property is bought at undervalue. Lenders use terms like concessionary purchase / transfer at undervalue / gifted equity / family discount/ genuine bargain price. They will almost certainly want to be satisfied that Mark and Helen will not be living in the property, that there is no arrangement for the parents to be paid more in the future and that they do not have any retained interest.
Lenders sometimes confuse things by using terms like "gifted equity" and "gifted deposit" loosely. They can refer to odd things like the "registered value" or even "gifted deposit equity".
Confusion can also be caused by using the word "deposit" in odd ways. Sophie should not let that confuse her! Lenders sometimes confusingly call the difference between their valuation and their loan the "deposit". It is not really a deposit! It would be better to call it Sophie's "equity". Sophie should be clear that the lender is being asked to lend £400,000 against a property worth £510,000 which Sophie is buying at a discounted price of £400,000 from her parents.
Keys to achieving an SDLT saving
The keys to Sophie securing an SDLT saving are:
- Finding a lender willing to accept the property as security when it is transferred at a price less than its market value.
- That the contract and transfer can state the lower cash sum passing to the sellers.
- No document is required saying that a gift of cash is made to the buyers.
- Using solicitors experienced in these arrangements.
Inheritance Tax (''IHT'')
Mark and Helen should consider the IHT implications of the gift they make to Sophie by selling her a house worth £510,000 for £400,000; a gift worth £110,000. Unlike SDLT, the way the purchase is structured will not affect the IHT implications; the amount gifted is the loss in value to the person's estate (in this instance being either the amount of gifted deposit or the discount in the house price).
IHT may be payable on a person's estate as a result of their death. Gifts made by that person in the seven years prior to their death are also counted within their estate for IHT purposes, to the extent that they are not covered by an exemption. Once the seven years have passed the gift should fall out of their taxable estate, and no longer be chargeable. However, if the gift is subject to a "reservation of benefit" then the whole value of the gift could be treated as part of the deceased donor's estate.
Transferring the house to Sophie in this way could be tax efficient as (assuming Mark and Helen live the next seven years) this takes £110,000 out of their taxable estate for IHT. Assuming that Mark and Helen's estates are over the nil rate bands applicable for that year (currently £325,000 per person with an additional £125,000 available (in the tax year 2018/19) if certain criteria are met) then this is a saving 40% of that £110,000. Additionally the transfer takes any growth in value of the house out of their estates.
As mentioned above, an important factor to bear in mind is that in order to reduce their estate for IHT purposes by the £110,000, Mark and Helen must not reserve a benefit in the house, for example by still living in the house after the gift to Sophie. In this case they are downsizing and moving out, but they might well come and stay with Sophie sometimes. Could that be a reservation of benefit?
HMRC have published examples of what is and what is not counted as a reservation of benefit. One example is that it would not count as a reservation of a benefit if Mark and Helen stay with Sophie for no more than one month a year (or two weeks a year if Sophie is not present in the house). If Mark and Helen plan to use the house more than then this could put the gift back into their estates for IHT purposes. For example, if Sophie is away on holiday for three weeks a year and Mark and Helen "house sit" to look after the pets. Professional advice should be sought if Mark and Helen resume any interest in or benefit from the use of the property at any time in the future.
Capital Gains Tax (''CGT'')
For CGT the disposal of the house (however it is structured) would be treated as if made at market value; that is £510,000. That is because it is made to a connected party (it is from parents to daughter). Therefore CGT would be calculated on any gain in value from when Mark and Helen acquired the property to the market value at the date of the transfer. In this instance we would expect the private residence exemption to apply as Mark and Helen are disposing of their only or main residence.
Complications could arise and CGT may become chargeable if Mark and Helen had lived in the property as their second home, or if there had been periods when it was empty or rented out. The gain might then need to be apportioned over the period of their ownership and only part of the gain might qualify for relief. If there are any complications over the CGT position, Mark and Helen should consider seeking professional advice.
Mark and Helen will be deemed to have made a gift for non-tax purposes e.g. in the event of either of them becoming bankrupt or later requiring means tested residential care in which case the transaction could be set aside. If they have other children in addition to Sophie they might want to equalise the benefits passing to each of them to compensate for the gift made to Sophie and a review of their Wills and overall estate planning would be advisable.