Our current tax regime provides married couples and civil partners with opportunities to reduce their income tax liabilities by dividing assets between themselves. However, when it comes to dividing rental income, beware of the traps.
The increases in the income tax personal allowance in recent years have come at the cost of reductions in the band of income attracting basic rate tax. In this tax year, an individual may have £43,000 of income before being subject to higher rate tax. There are a number of opportunities for couples to double that income limit, helped by tax rules which treat asset transfers between couples as tax neutral. But they need tread carefully to avoid the pitfalls.
Dividing income from property
At the moment, HMRC appear to be paying close attention to the way that rental income is divided between spouses.
The rules for splitting rental income have not changed for many years. In general, where rent is received from an asset held jointly by individuals who are married to each other and living together, the income is shared equally. Even if the one partner has contributed 90% of the capital to buy the property, their spouse is deemed to receive half the income. This rule works well for many couples.
But what if the couple wish to change how the income is allocated so that the spouse with little other income gets more? It is possible to change the way it is split provided that:
- the couple make a joint declaration, and
- they are ‘beneficially entitled’ to unequal shares in the property.
A joint declaration is made using ‘Form 17‘. Evidence to support the declaration that beneficial interests in the property are unequal, such as a declaration or deed, is required.
Joint tenants vs tenants in common
This is where many couples can get into difficulties. If the property is in England, Wales or Northern Ireland, it will often be owned by married couples as ‘joint tenants’. If so, the split is 50/50 – and remains 50/50 even if a declaration of deed is submitted. An important first step is to change the ownership status of the property from ‘joint tenancy’ to ownership as ‘tenants in common’. In Scotland, the couple would become ‘common owners’.
Different rules apply to properties which fall within the definition of furnished holiday lettings and those held by a partnership where the spouses are partners. In both cases, trading profits can be allocated in whatever way the partners choose. Be aware, however, that HMRC consider it unusual for a couple to be in partnership as it depends on a degree of organisation similar to that required in a commercial business.