Tax Doctor:
Mark McLaughlin
CTA (Fellow) ATT TEP

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July 2005

Q:

We set up a company three years ago and use part of our house as an office (for four people). We now need to do some renovation and extension to this home office (renovation to existing office and extension that will be used half as personal dining room half as business meeting room), costing £30,000. Can we claim a corporate tax deduction on building costs of this work without taking the risk of being liable for capital gains tax (CGT) when selling the house?

A:

The expenditure on your home (i.e. on renovation and extension work) appears to be capital in nature, as it presumably enhances the value of your property on a future sale. In that event, a corporation tax deduction cannot generally be claimed for building materials etc, unless an element of the costs relates to repairs and renewals of the office element. In addition, the company apparently does not own the property, as your query mentions possibly being liable to CGT when the house is sold. If the company incurs expenditure on property owned personally, it is likely that Revenue & Customs will seek income tax (and National Insurance contributions) as a benefit in kind, although the company should obtain a tax deduction for this employment income. One possible argument against a benefit in kind charge might be that the company has incurred the expenditure for an entitlement to a share in the property, equal to the part occupied for business (a ‘constructive trust'). However, you should consult a lawyer on the strength of this argument, and to draft any necessary documentation.

As your query suggests, there are potential CGT implications when part of the home is used for business. However, the exemption for gains (and losses) on the disposal of the only or main residence is subject to restriction if any part of it is used exclusively for business purposes. You mention that the proposed extension will be used equally for private purposes, but what about your existing office? If that part of your home is used exclusively for business, a proportion of any future gain on the disposal of your home will be chargeable to capital gains tax. Business asset taper relief is potentially available to reduce the gain. However, the taper relief calculation requires that the non-exempt gain is apportioned between business and private use of the entire home, which means that business asset taper relief is only applied to a proportion of that gain. Exclusive business use should therefore be avoided, if possible. HM Revenue & Customs' practice is to disregard ‘occasional and very minor residential use' and to restrict private residence relief on that basis.

Rental income

A further way of obtaining corporation tax relief for the business use of your home is to charge the company a commercial rent. Should you then decide to incur the extension and renovation costs personally (e.g. as the company is unlikely to obtain a tax deduction), this would allow you to recoup those costs over time. It may also be possible to deduct any expenses relating to business use (e.g. a proportion of heating and lighting costs) against the rental income. The profit from letting your home would still be liable to income tax, in the same way as remuneration from the company. However, unlike salary and most benefits in kind, there is no liability to National Insurance contributions on rental income from the company. On the other hand, your rental income would not count as earnings for the purposes of calculating maximum personal pension contributions. There are also potential stamp duty land tax implications if there is a lease agreement between you and the company. However, this can be avoided if you grant the company a licence to use or occupy the property instead. You should ask a lawyer to draft an agreement, and to ensure that the arrangements amount to a licence as opposed to a lease. For the company, rent in excess of market value can result in a disallowance as a deduction for tax purposes, so a professional rental valuation is recommended.

Other issues

Mark McLaughlin

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