Jennifer Adams considers some important tax implications of swapping properties.
Swapping properties (HMRC generally terms this as ‘exchanging’ properties) can lead to various tax implications, depending on the nature of the transaction, the parties involved, and the types of properties being exchanged.
Typical examples include the scenario where two unconnected parties exchange properties that they each solely own. A further example involves two or more people being joint owners of two or more properties exchanging ownership, resulting in each owning one property (or possibly a division of a jointly held buy-to-let portfolio).
Capital gains calculation: Sole ownership exchange
Where two unconnected parties exchange land they each own in their own name, the exchange is treated as two separate capital gains tax (CGT) transactions. The gain is calculated based on the difference between the market value at the time of exchange and the original purchase price minus any allowable costs or reliefs.
For example, if Jeremy and James each own a property in London valued at £500,000, upon exchanging properties, each creates a CGT and stamp duty land tax (SDLT) scenario, even though no cash changes hands. The base cost for each will be the acquisition costs of the property they originally owned prior to the exchange. If the property being exchanged is the main home of either party, principal private residence relief may apply, potentially reducing or eliminating any CGT liability on the gain.
Capital gains calculation: Joint ownership
While there are no CGT reliefs for straightforward exchanges, reliefs may be available for partitions. When joint ownership of property is exchanged between parties, a form of rollover relief exists (under TCGA 1992, s 248A). This provision was introduced to simplify the CGT implications of property exchanges when no immediate cash element is involved.
Those rollover relief provisions allow each participant to defer the gain from disposing of the old interest into acquiring the new interest, provided certain conditions are met. These rules only apply when the result is that each party ends up owning their respective properties outright.
HMRC’s Capital Gains Manual (at CG73000) points out that the provisions only apply when:
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two or more people jointly own two or more properties;
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one of the joint owners disposes of their interest in one property to the other;
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the consideration for the disposal is the transfer of another jointly owned property by the other owner;
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as a result of the exchange, each owner becomes the sole owner of one property; and
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the properties are not the main residences of the owners.
By claiming this relief, the parties can avoid incurring an immediate CGT charge. Each party can then assume the CGT base cost of the other party, potentially increasing any capital gain realised upon a future sale. An election to claim this relief must be made, but each owner can independently choose whether or not to claim.
Note that spouses or civil partners living together are treated as single property owners or single co-owners under this relief.
Unequal property values
When properties being exchanged are not of equal value, or if one joint owner pays extra for a larger share, different rules apply. A typical scenario would be where one party receives a property of lower value; that party can claim the rollover relief on their portion, any excess value realised being liable to CGT.
Another scenario would be where one joint owner pays an additional cash amount to balance the value during the transaction. Here, the recipient of the payment will realise a capital gain equivalent to the cash received. Any remaining gain from the exchange may still be eligible for the rollover relief.
Unequal property interests
A claim under TCGA 1992, s 248 remains viable if properties are owned in unequal proportions, requiring the exchange to align proportionally with the shares of the assets owned. The final result must be for each participant to own their respective properties outright.
Example 1: A tale of three properties
John and Adam own three properties, each with a market value of £100,000. John owns 1/3 of each property; Adam owns the balancing 2/3 share.
An exchange of properties, giving John one property and Adam the remaining two properties, would be possible.
Example 2: Rollover relief not available
John, Adam, and Julian own two buildings in proportions of 50%:25%:25% respectively. John disposes of his 50% share of Property 1 to Adam and Julian together in exchange for 50% of Property 2. As a result, John owns 100% of one building, while Adam and Julian each own 50% of the other.
No rollover relief can be claimed since neither Adam nor Julian end up as sole owners of either property.
Note that there is one exception to this relief. If the property includes land that has been or is currently the ‘only or main residence’ of one of the owners, or if it becomes their main residence within six years, that owner cannot benefit. If they have already benefited from it, the relief will be reclaimed at the time (within six years) when the property becomes their main residence.
SDLT transaction relief
When properties are exchanged, SDLT (or land and buildings transaction tax in Scotland, or land transaction tax in Wales) is due only if certain conditions are met.
SDLT obligations arise when the exchange results in a chargeable consideration, or if the market value of the properties involved exceeds the SDLT threshold. 'Consideration' refers to anything that is money or money's worth and in the context of property exchanges, is calculated on the higher of the market values of the properties being exchanged.
Unequal property values
HMRC’s Stamp Duty Land Tax Manual at SDLTM04020A (‘Non-cash consideration: exchanges’) gives an example of a situation where the properties being exchanged have unequal values and a cash balance is given to make up the value. The example is reproduced below:
“Ahmed and Katrina decide to exchange their homes. Ahmed’s is valued at £375,000, but Katrina’s is valued at £400,000, so Ahmed gives Katrina £25,000 in cash as well. Ahmed pays tax on chargeable consideration of £400,000 since this is both the value of the interest he acquires and the amount of consideration he gives to acquire it.
It is just and reasonable for Katrina to apportion the £400,000 market value of her house (i.e., the value of what she gave) to £375,000 for the property and £25,000 for the cash received. The chargeable consideration is £375,000 for Katrina’s acquisition – this is equal to both the value of the interest she acquired and the amount of apportioned consideration she gave to acquire it.”
Therefore, as SDLT is only chargeable on acquisitions of property, an apportionment is made to reflect that a proportion of the amount paid was in cash, and cash is not subject to SDLT.
Joint ownership
An exemption from SDLT can apply where jointly owned property is partitioned.
HMRC’s guidance (at SDLTM04030) states: “Where two or more people are jointly entitled to land (whether a single chargeable interest or more than one chargeable interest) and there is a partition or division of the land this is not treated as an exchange. The giving up of a share in one part of the land is not treated as chargeable consideration for the acquisition of a share in another part”.
Practical tip
There are exceptions and conditions to ensure that the CGT relief in TCGA 1992, s 248 is not used for tax avoidance. These include situations whereby the transaction might be seen as effectively a 'sale' in disguise, or where there are additional elements (such as loans or other forms of financial consideration).
