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Buying UK Residential Property – A Brief Guide for Overseas Investors

There is a lot to think about when buying property in another country. This is a brief guide to some key points:-

Identifying the correct location and property

London is a big place and, like all major cities has good, bad and indifferent localities. Overseas buyers, particularly wealthy ones, often gravitate towards what is known as Prime Central London, namely Mayfair, Westminster, Kensington and Chelsea, and even there, there are good streets and better streets. A property search is time consuming, so do think about engaging the services of a specialist agent to find a property for you. If you get stuck speak to us. Although we are lawyers, we have considerable knowledge of the London property market and extensive contacts so that we can point you in the right direction.

Clinching the deal

For the best properties there is often a lot of competition. If you do agree a deal in principle there is a risk of being ‘gazumped’. Until a formal contract is signed by both parties and exchanged - see below ‘understanding the buying process’ – neither party is legally bound and, therefore, the seller can offer the property to another buyer at a higher price.

Ways in which you can improve your chances of securing the property you want are: being a cash buyer, showing that you have the ability to proceed quickly and to sign contracts within a short period, and requiring the seller to take the property off the market, including being advertised on any website. More sophisticated ways of securing the property include entering into an exclusivity agreement with a view to giving you the exclusive right to buy the property for a certain period. Alternatively, having what is called an attended exchange where, assuming that the seller has all the necessary papers to prove his title, and you have the deposit money ready, your solicitor goes to the offices of the seller’s solicitor, carries out the due diligence there and then, reports to you, and contracts are exchanged on the spot.

Understanding the buying process

In the UK due diligence is carried out prior to the parties entering into a binding contract. This is unlike many other countries, for example in Europe, where contracts are entered into very quickly and due diligence occurs afterwards, and before closing (completion). Due diligence will include checking the title of the property, obtaining a survey, carrying out searches of the local and other authorities, obtaining information from the buyer and the freeholder/managing agent (if the property is a flat) and agreeing the terms of the contract. If mortgage finance is to be obtained then an offer from the lender will also be required pre-exchange. When both parties are ready to proceed, each signs a separate but identical contract. The solicitors for each party agree that contracts are binding and this process is called ‘exchange of contracts’. On exchange of contracts a deposit is paid by the buyer, traditionally this is 10% but it can be, and is often, 5%. Completion can take place on the same day as exchange, but usually there is an intervening period which is relatively short and between 7 and 28 days, during which time further legal and practical matters are attended to. On completion, the balance of the price is paid, title is transferred to the buyer and possession of the property is obtained.

Funding

Any loan to buy UK property will be secured by the lender taking a charge (mortgage) against it, registered at the Land Registry. Mortgages in the UK are ‘recourse’, in other words if the borrower makes default and the lender forecloses, the borrower ( and any guarantor of the loan) is liable for any shortfall if the sale price is not sufficient to pay the loan interest and costs. When lending to overseas buyers a specialist bank or lender is usually required, particularly where there is to be an offshore company. Normally a sophisticated investor will use a private bank or the private banking arm of a major bank. Bearing in mind current problems it is not generally advisable to be too heavily geared. However, where the property is owned in individual names or through a trust it is an advantage to have as much of the equity as possible covered by debt secured on the property to minimise the potential exposure to Inheritance Tax (see below). This needs to be structured carefully.

Ownership Structure

The key issues here are tax and confidentiality. Tax is complex depending on your particular circumstances, and further information is given below. For most higher value properties it is inadvisable for a property to be in your own name. This is both from a tax perspective, and also to keep your identity confidential and secure. It should be noted that the UK Land Registry is open to the public and so the name of the owner of the property and the price paid can be seen by anyone through the Land Registry’s website. A common structure would be an offshore company with shares held in what is known as an excluded property trust.

Key UK Taxes

Inheritance Tax – This is charged at the rate of 40% on the net value of an individual’s estate above the ‘nil rate band’ (currently £325,000). Various exemptions apply including where assets pass between spouses (unless a non-domiciled spouse inherits from a UK domiciled deceased spouse). For individuals not domiciled in the UK only their UK based assets will be subject to Inheritance Tax. This opens up the possibility of planning for non-domiciled individuals to avoid inheritance tax by acquiring via offshore structures but ownership via a company can trigger a liability to an annual charge where the property is worth more than £2million. Ownership via a trust may also be worth considering as this may take you outside the 40% IHT charge. Trust ownership will result in charges every 10 years of up to 6% of the property value. Lending can be used to reduce this exposure. Specific advice is required here.

Capital Gains Tax - In most circumstances non-UK resident individuals are outside the scope of capital gains tax here, although care needs to be taken on timing if you have previously been resident in the UK or intend to become resident in the future. There can also be an exposure where a non-resident is carrying on a trade in the UK through a branch or agency here. If you do fall within this tax, it is charged at the rate of 18% unless you are a higher rate taxpayer, in which case the rate rises to 28%. Individuals are generally entitled to an annual allowance of £10,600. Offshore companies selling UK property for £2 million will be subject to Capital FGains Tax at 28% from 6 April 2013.

Income Tax – When a property owner is in receipt of rental income from a UK property they are within the scope of income tax (or corporation tax if the owner is a company carrying on a UK trade through a UK branch or agency). Offshore companies not carrying on a trade here should only pay income tax at the basic rate of 20%. Individuals will be taxed at banded rates, the highest of which is 50% on income above £150,000 per annum (reduced to 45% from 6 April 2013). Often an agent will have to be appointed to withhold this tax from the rental payments they collect. Although an application can be made to receive this gross. It is possible to claim various expenses to reduce the income tax exposure including interest payments on loans.

SDLT – This is a transfer tax due on the gross value for which the property is purchased. The top rate is currently 7% which applies to all residential purchases over £2 million. This rate increases to 15% for £2 million+ properties acquired by companies. There are structures which can be put in place to avoid this charge although these are not straightforward. We can advise on this further upon request.

Annual Charge – From 1 April 2013 an annual charge will apply to £2m+ properties held by companies. This ranges from £15,000 to £140,000. There are exemptions from this charge which may apply to your circumstances.

Adding Value

You may be able to add value by adding to it, converting it or re-developing it. Depending on the type of building and the nature of the works, this may require planning consent, and with leasehold properties probably the consent of the freeholder. There may be other consents needed depending on the nature of the property eg: listed building consent if it is of historic/architectural importance.

If the property is leasehold it may be possible, in the case of a house, to buy the freehold or extend the lease, and in the case of a flat, to extend the lease.

If the property is a flat it may be possible, together with the owners of other flats in the building, to acquire the freehold. See further information in our leasehold enfranchisement section of the website.

Flats

If you buy a flat in the UK it will almost always be held under a lease. This is for technical legal reasons entrenched in ancient English law. A long lease is perfectly marketable title but you would not have the highest interest in the building, which is that of the freeholder. Sometimes a flat will come with ownership of a share in the freehold and, or, as mentioned above, it may be possible to acquire the freehold compulsorily by getting together with owners of flats in the same building under a process known as collective enfranchisement.

- The lease

The value of the flat will be partly dependent upon the length of the lease. Ideally you should be looking for a lease of 85 years or more. However, the Prime Central London area is a special market where shorter leases still have considerable value. Generally, for mortgage purposes lenders are looking for leases of 60 years or more. Once a flat has been owned for more than 2 years there is a right to extend the lease. The price to be paid to the freeholder for that extension is based on a number of factors, including the length of the lease. It is important to note that if the lease has less than 80 years remaining and the right to a new lease is exercised, an additional sum is payable to the freeholder which is called a ‘marriage value’. There can be opportunities for profits to be made in buying short leases and extending them, but great care and specialist advice is required. For more details of lease extension please see our FAQs on this subject.

- Service charges and management

All flats are subject to a service charge. The building in which they are contained is, or should be, managed by the freeholder or a managing agent on the freeholder’s behalf. Each flat within the building is liable for a certain percentage of the costs for providing the services. Unfortunately, the management of flats is one of the big problem areas as, although there are a number of laws to protect flat owners, there are still many rogue freeholders who provide no or inadequate management, or overcharge for management services. Checking out whether these problems exist is one of the areas of due diligence to be undertaken before you exchange contracts.

This article is of a general nature and you should take independent and specific professional advice on any particular transaction with which you are involved

If you would like further information, either about the London property market or the buying process, please do not hesitate to contact us.  We are able to recommend agents, surveyors and lenders should you need help with these.

Sykes Anderson is a niche property, tax and commercial firm acting both in the UK and internationally

Christopher Sykes
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February 2013