Many thousands of holiday home owners have been affected by recent changes to income, inheritance, and capital gains tax. But while most are aware there have been some big changes, not everyone fully understands them.

From a tax-saving viewpoint, owning a second home and renting it out for several months a year was a prudent step, since any losses on these ‘businesses’ could be offset against the homeowner’s overall tax liabilities; but that has all changed.

Before the last election, Labour were planning to scrap all tax reliefs on second properties, but the sting of this was taken out by Conservative and Lib Dem opposition, who ensured it was altered to the offset of losses relating to income tax on the property in question, not other earnings.

And in terms of inheritance tax, it has become difficult for any holiday accommodation provider to quality for exemption from this potentially highly costly levy.
A second home often provides additional income to retirees, and traditionally was attractive since such properties did not attract inheritance tax upon the owner’s death. But with the new changes, such a business – or investment as the HMRC may see it – may no longer be so attractive; potentially reducing the net wealth of some families by hundreds of thousands of pounds.

Here’s an example:

A single man dies and leaves a £500,000 house and a £250,000 holiday home to his children. Inheritance tax would be paid on the holiday cottage at 40%, amounting to £100,000 tax – but only if the holiday home is considered an investment. If it is labelled as a business by the HMRC, it would not attract a single penny in tax.
So, deciding whether or not a holiday cottage is a business or an investment is key here. How much involvement the owner has with the property and its dealings is crucial; are they ‘hands on’ as regards changeovers and dealing with guests, cleaning etc.? Additionally, some properties may qualify for capital gains tax, but not for inheritance tax – resulting in many home owners reaching for the tax accountant’s telephone number.
One thing is certain, second home owners (many of our holiday home insurance clients among them) will be getting rather better at tax planning very soon.

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