Losing the plot: Tax implications of developing the garden

Sarah Wray, senior associate, Charles Russell Speechlys, 21/03/2023

Clients who own houses with significant land often consider selling off land for development. However, the tax analysis can be complex. This article considers the questions professional advisers should ask in these circumstances. It also considers the SDLT position of a buyer of a development plot.

1) Was the property purchased with a view to profit?

If so, the “transactions in land” income tax anti-avoidance rules may apply to tax any gains arising from the sale to income tax. Red flags would include clients who started the planning process shortly after completing on the purchase, or who have never lived in the property. The rules may also apply if the client is proposing a “slice of the action” (ie overage) contract wherein they share in the proceeds of any subsequent development by the buyer. 

2) Is the development plot residential property?

The answer to this question determines the applicable rate of capital gains tax (CGT). Residential property gains are taxed at 18 percent/28 percent, whereas non-residential property gains are taxed at 10 percent/20 percent.

For CGT purposes, land is residential property if it either (i) included a dwelling at any time during the ownership of the seller or (ii) subsisted for the benefit of land which included a dwelling during that period. 

HMRC guidance explains that they treat a garden as “a piece of ground, usually partly grassed and adjoining a private house, used for growing flowers, fruit or vegetables, and as a place of recreation” and grounds as “enclosed land surrounding or attached to a dwelling-house or other building serving chiefly for ornament or recreation”. 

Typically, HMRC will treat any land surrounding a house as grounds (and therefore as residential property), unless it can be shown that it is used for some other purpose such as agriculture (including where let under a farm tenancy or grazing licence) or trade. HMRC typically treats paddocks and orchards as part of the grounds. 

This is a broad definition and generally means that where part of a garden is sold for development, it will be subject to CGT at 18 percent/28 percent. This is the case even where clients have partitioned the plot by the time of the sale (more on the dangers of this below).

3) Will principal private residence relief (PPR) apply?

PPR only applies to the “permitted area” – either up to 0.5 hectares or such garden or grounds as are “required” for the enjoyment of the house. An eight-bedroom country house will require larger grounds than a terraced urban two bed house.

Depending on the division of the plot, the part being sold may well lie outside the permitted area; the sale of it for development may imply it is not required for the reasonable enjoyment of the house. In such cases PPR will not apply and clients will be subject to CGT at 18 percent/28 percent on any gain. Advice will need to be given on the apportionment of base costs and expenditure.

If, however, some or all the plot falls within the permitted area, that part would benefit from PPR. However, the plot will only benefit for PPR if, at the time it is sold, it is still being used as the clients’ garden or grounds.  Therefore:

- The client would be unwise to partition the land prior to sale as this could jeopardise their PPR claim. 

- If the clients also intend to sell the house as well, timing is key.  If the clients complete on the sale of the house before exchanging on the development plot, no PPR will be given on the development plot. 

Professional advisers may also be asked to advise buyers on their stamp duty land tax (SDLT) position when they purchase a development plot. SDLT rates vary across purchases of residential or non-residential property and include a supplemental charge where additional dwelling-houses are purchased. The differences are significant: the top rate of non-residential SDLT is five percent, whereas an individual buying a second residential property can be subject to rates of up to 17 percent. 

The question in these circumstances is whether the development plot is “land that is or forms part of the garden or grounds of a [dwelling]”. The answer will be “yes” where the development plot currently forms part of a garden.

In these cases, the residential SDLT rates will apply. However, as the land being purchased does not include a dwelling, no second property supplemental charge will apply.

As with CGT, HMRC is strict in its interpretation of grounds.  In order to show that land is not part of a residence’s grounds, the buyer would need to show that genuine commercial activities occur on it which would point to the land being non-residential property; hobby beekeeping, grazing or equestrian activities will not be enough. 

Contiguous paddocks and orchards are again normally treated as gardens or grounds.  HMRC is clear that this test is not a snapshot in time: they will consider the historic use of the land and therefore fencing it off prior to sale will not aid the argument that it is no longer residential land.

However, if the plot has become separated from a dwelling, then there may be argument that the non-residential rates should apply. This could be the case if the seller has already sold off the house, such that the development plot has become an “orphan” plot.

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