Tax issues for live/work

Taxation is one area where the financial rules for live/working and home-working diverge, we believe unfairly. Unlike home-workers, live/workers can find they are penalised for openly using part of their property as a workspace. But the position is not always clear cut.

It can be argued that live/workers already have a financial advantage over people renting or owning separate business premises and that the additional costs might be a disincentive for buyers who might be tempted to use the property as wholly residential.

Live Work Network’s view is that there should be a balance between controlling use of the property and making live/work commercially viable, especially given its popularity with small and start-up businesses.

Accountant Dan Thompson, who lives in a Lewisham live/work property, advised us: ‘Live/work is one area where the rules are often vague and straight answers are hard to come by. I’d recommend seeking advice where you think it worthwhile and can afford to do so.

‘As long as you do good research, act as a reasonable person could be expected to, and document all your decisions, you are unlikely to get into hot water with the authorities even if you break a few rules by accident.’

How does live/working differ from home-working?

A live/work property is one designed from the outset for dual residential and business use. It may be newly built or converted to create a professional workspace where one or more people can run a business.

In planning terms, it has a unique status (‘sui generis’) as a property ‘of its own type’ incorporating residential and commercial use.

Allowable expenses

Both live/workers and home-workers can claim as allowable expenses the proportion of power, water, etc used for the business element of the property.

Mortgage interest

See here   for Live Work Network’s guide to lenders’s terms for live/work mortgages (but bear in mind the volatility of the current mortgage market). If you have been able to buy your property with a single mortgage – residential or commercial – you can claim one-fifth of the interest on this as an allowable expense. But be aware that this may affect your liability to capital gains tax (see below for more on this).

Council tax and business rates

This applies equally to people who buy or rent a live/work unit. It makes sense to assume you will pay council tax on the part of your property designated ‘live’ and business rates on the part designated your work area. Business rates are typically a lot higher than council tax, especially in London.

However this rule can be less clear cut if:

  • your live/work property is open plan and there is no clear division between work and live. Some live/workers have not been charged business rates in properties like this
  • your property has been officially designated ‘live’ by the local council. This has happened to live/work units in some boroughs, even where the work use predominates.

If your work area is (in planning terms) designated B1 chances are you will have to pay business rates on this part of the property.

Unlike council tax, which is set by the local council, business rates are set nationally but charged and adjusted locally. They should reflect the open market value of the premises, backdated two years and a number of other factors including how many and what value premises you rent or own.

Your council’s valuation office should calculate your bill taking account of any reductions you are eligible for, such as Small Business Rate Relief. Business Link says valuation officers are also your best source of advice on what discounts will apply in your case.

Getting expenses like this agreed in advance in writing is often a good idea. Keep a paper trail of your correspondence with the council, and brief notes of phone calls etc.

Business Link offers a detailed guide here to how business rates work and explains how to work out the rateable value of your property. It also explains how to challenge the authorities if you think they’ve set your rateable value wrongly. The rateable value is not the same as your rates bill but it does influence the size of your bill.

You can also find out more about liability for business rates at this government website.

Capital gains tax

see also mortgages above

If you buy a live/work unit and later sell it, you may become liable for capital gains tax (CGT) if the value of the property has risen. Transferring ownership or giving it away will not give you an opt-out mechanism. If the live/work property is your main residence, then all gain on the ‘live’ element will be exempt from CGT.

In the recent Budget the government announced the abolition of business asset taper relief, which offered tax exemptions to entrepreneurs and business owners. All capital gains are now subject to tax at a flat rate of 18%, regardless of length of ownership.

For some useful guidance, click here

Generally speaking you must pay CGT on any gain in the value of your assets if and when you sell them on. For example, if you were to buy a painting for £1,000, then later sold it for £100,000, you would be taxed on the £99,000 you gained.

As an individual, however, you are exempt from CGT on your ‘principal private residence’ (PPR), so most homeowners won’t pay tax if the value of their house increases over time and they eventually sell it for a profit.

If as a live/worker you claim an element of the interest on your mortgage as an allowable deduction for your trade, it may follow that when you sell the property a corresponding proportion of the increased value will not qualify for PPR exemption. This will be subject to CGT.

The gain in the value of your property would have to be substantial, because there is currently a CGT-free allowance of about £9,000. As only one fifth of your gain would be liable for CGT (assuming you had claimed one-fifth of your mortgage interest as an allowable expense) the value of the entire property would have to be over £45,000 to exceed your tax free allowance. If you jointly own the property, your annual tax-free allowance can be combined to make approximately £18,000.

Do get professional advice, especially if your live/work property starts to shoot up in value. We are not aware that HMRC has a clear view on the issue.

Business Link advises: ‘If part of the property has been used exclusively for business purposes or if the property has not been occupied as your home throughout the period you have owned it, partial relief may be due.’

Business Link too recommends seeking the advice of an accountant, pointing out that the conditions for exemptions and reductions in the charge are complex but worth checking.

Value added tax (VAT)

The buying price of the work part of a live/work unit may be liable for VAT if there is a B1 defined workspace. Remember though that this will be partly offset by having a lower value than the live area.

If the property is open plan, it may not be liable for VAT at all. Or the developer may have paid VAT on the land when they bought it, so the cost has already been absorbed. It is not straightforward – the best advice we can give you is to ask the developer/seller.

 One area where we have found it much less easy to offer advice is on claiming back VAT under HM Revenue & Customs’ Public Notice 719: ‘VAT Refunds for do-it-yourself builders and converters’.

The first point to stress is that you, or rather your trade or business, must be registered for VAT if you plan to try claiming any of the tax back.

Dan Thompson tells us: ‘It is not an individual who is registered for VAT but his or her trade. Often in the case of live/workers and self-employed people the two are one and the same thing, but it is an important distinction.

‘A trade must register for VAT once its turnover exceeds approximately £64,000. Any trade can choose to register voluntarily (regardless of turnover), but live/workers should beware; VAT returns are quite an onerous burden, and HMRC is not sympathetic to traders who are late with payments/returns. Penalties can also be charged on late payment/filing.’

Live Work Network knows of some live/workers who have successfully claimed on the cost of converting and fitting out live/work units bought as a shell or unfinished building. The claim must be lodged within three months of completing the work.

However we also know of cases where live/workers have had a VAT claim refused. One recent case hinged on judgements made by HMRC that might have delighted Alice in Wonderland author Lewis Carroll; the claimant less so.

Dan Thompson’s advice is, in a nutshell: ‘It is the trade that can be VAT registered, not the individual. On this basis, VAT charged on anything that is not to do with the trade cannot be recovered.

‘If a self-employed live/worker buys tools for his/her trade, he/she can recover the VAT. If the live/worker buys a playstation for his/her son, he/she cannot recover the VAT because it is nothing to do with the trade. If the live/worker incurs VAT refurbishing the work area of their home, they may recover the VAT. If the live/worker incurs VAT refurbishing the live area, they cannot recover the VAT because it is nothing to do with the trade.

‘An important principal of taxing all trades is that, in general, expenses incurred for the purpose of the trade (including VAT) are allowable so may be recovered, whereas personal expenses that are not for the purpose of the trade are not allowable so cannot be recovered.’

You can find out more about reclaiming VAT under Public Notice 719 at www.hmrc.gov.uk or call the National Advice Service on 0845 010 9000.

Inheritance tax

And, at last, a bonus for live/workers who own their property – a typical residential property over the £300,000 threshold will incur the full wrath of inheritance taxation but business premises get 100% tax relief.

As always though, there is a sting in the tail: the ‘live’ element may still be subject to inheritance tax. So only assume the pro rata portion of the property designated work space will qualify for the business property relief. And possibly not a lot of use to you now, but think how much your loved ones might welcome your demise!

Qualifier

Please note that this is only a general guide to the taxes you may have to pay as a live/worker. Live Work Network would strongly recommend you seek the advice of a professional accountant as there are no hard and fast rules and we have found individual circumstances can be interpreted by the tax authorities in many different ways.

Live Work Network offers its sincere thanks to finance expert and Lewisham live/worker Dan Thompson for his much appreciated advice.