If the property is owned jointly by two or more people, the manner in which any income is taxed will be subject to the relationship between the owners. Illustrating the situations will explain tax on Rental Income.
Situation 1: Unmarried Joint owners or in a civil partnership —Tax on Rental Income
Where the property is jointly owned and the joint owners are not married or in a civil partnership, any income generating from the property is often taxed as per their actual shares.
Example 1: Mary, Hillary and Chelsea are sisters. They are the owners of a house in equal shares, which they let out. The rental profit for the tax year is £21,000. The taxation levied on each sister on her third of the income is £ 7,000.
However, the joint-owners do not have to share the income in percentage of their share in the property—they may approve a different split. Whichever is the case, every joint owner has to pay tax on the income they obtain when they their file year end accounts.
Example 2: The facts are the same in example 1, except that the sisters have given their consent to share the income in the ratio 1:2:3.
For the tax year in question, Mary gets an income of £3500, Hillary obtains an income of £7,000 and Chelsea gets an income of £10,500. Each is taxed on the amount they obtain.
The allocation for tax purposes must be the agreed share—-the taxation cannot be levied on a different split just because this generates the lowest tax bill if this does not highlight the actual split. For example, if Chelsea has no other source of income and Mary and Hillary are both highest taxpayers, it is not possible for Chelsea to be considered for tax purposes as if she obtains all the profit, but for the allocating profit in the agreed split or correspondingly with their actual shares.
Situation 2: Spouses and civil partners
Stringent rules are levied where the property is jointly owned by spouses or civil partners. If this is the case, the income is considered as occurring to them in equal shares, irrespective of their actual entitlement and beneficial ownership.
However, if the property is owned by them in unequal shares, they can elect on form 17 for their share of the income for tax purposes for matching their actual shares in the property. Whether such an election is advantageous will be subject to the rate at which tax is paid by each spouse/civil partner.
Jacob and Emile are a married couple. They have a rental property in which Jacob has a 20% stake and Emile has an 80% stake. Their rental income for the tax year is £20,000. Jacob is a higher rate tax payer and Emile is a basic rate taxpayer.
In the absence of an election, the taxation levied on each spouse’s income of £10,000.
If they were to make an election on form 17, Jacob would be taxed on income of £4,000 and Emile on income of £16,000. The election would have an impact of moving income of £6,000 from the higher rate to the basic rate which saves the couple £1200 (£6,000 @ 20%). The election is hence, advantageous.
However, if Jacob had been a basic taxpayer and Emile a higher rate taxpayer, the election would not be beneficial, as the transfer would be from basic to higher rate, which costs the couple £1200.
It is viable to change the underlying ownership to obtain the best tax result as for capital gains tax purposes a property can be transferred between spouses on the basis of no gain/loss. This can be changed before sale as a different split is considered for the purposes of capital gains tax.
Polly and Percy are a married couple. They have a rental property in which Polly has a 20% stake and Percy has an 80% stake. The rental income for the tax year in question is £10,000. Polly is a higher rate taxpayer and Percy is a basic rate taxpayer.
In the absence of an election, each spouse is taxed on income of £5,000.
If they were to make an election on form 17, Polly would be taxed on income of £2,000 and Percy on income of £8,000. The election would have the effect of moving income of £3,000 from the higher rate to the basic rate, saving the couple £600 (£3,000 @ 20%). The election is, therefore, beneficial.
However, if Polly had been a basic rate taxpayer and Percy a higher rate taxpayer, the election would not be worthwhile, as the transfer would be from basic to higher rate, costing the couple £600.