Inheriting rental properties can present a range of challenges, particularly when it comes to tax implications and future management strategies. Whether you plan to sell the inherited properties or hold them long term will significantly influence how the inheritance should be structured.

Deciding Between Selling or Holding Inherited Properties

If the intention is to sell the inherited rental properties, it often makes sense for beneficiaries to inherit them personally. This is because inherited properties are typically rebased to their market value at the date of death, which can reduce or eliminate capital gains tax (CGT) liabilities if sold soon after inheritance. This approach can provide tax-efficient sale proceeds that can be reinvested, for example, by introducing the funds into a limited company as a director’s loan, allowing for future tax-free withdrawals.

Although this process may incur selling and purchasing costs, including legal fees, mortgage fees, and stamp duty land tax (SDLT) or its equivalents in Scotland and Wales, the overall tax position can remain favourable. The decision to sell or hold should be guided by practical investment considerations such as whether the inherited properties fit the investment strategy, their location, yield, and whether capital would be better recycled into other assets.

Holding Properties Long Term Through a Limited Company

For those intending to keep inherited properties long term, planning becomes crucial. If the properties are inherited directly into a limited company, either by will or deed of variation, the value is effectively transferred into the company. This increases the company’s shareholding value, and extracting this value personally in the future is likely to trigger tax liabilities.

While a company selling an inherited property may face little or no corporation tax on growth up to the inheritance date due to the market value rebasing, withdrawing sale proceeds personally could incur dividend tax or other extraction taxes. Conversely, inheriting personally, selling, and then lending the proceeds to a company creates a director’s loan account, which can generally be drawn down tax free later.

However, if the genuine intention is long-term holding, it may still be preferable for the company to inherit the property directly, despite the potential tax on future extraction.

Complications When Siblings Are Involved

Joint inheritance of properties by siblings can introduce complexities. It is often simpler and cleaner for siblings to inherit separate properties rather than co-owning each one. Alternatively, a jointly owned company structure could be established, such as a subsidiary company with family member shareholdings, which then inherits the properties. This approach can help streamline management and ownership issues.

Importance of Timing and Will Planning

One common pitfall is partial inheritance on the first death, such as one parent leaving their share of a property directly to a child. This can complicate matters, including refinancing options. It is often simpler for the surviving spouse to inherit first, with the generational transfer occurring on the second death.

Relying on a deed of variation after death to divert inherited property from an individual to a limited company can work well for unencumbered properties. However, where mortgages are involved, this can trigger additional tax issues. For example, if a company takes on mortgage debt linked to the inherited property, SDLT, Land Transaction Tax (LTT), or Land and Buildings Transaction Tax (LBTT) may arise because the mortgage could be treated as consideration, leading to unexpected tax liabilities.

Specific reliefs and exemptions may apply in certain circumstances, but these depend on whether the property is inherited directly or diverted through a deed of variation. The will’s drafting is also critical. Typically, a mortgage secured on a property passes with the inheritance, and the beneficiary refinances if necessary. If the estate is intended to redeem the mortgage before passing the property, the will should explicitly state this intention, and the estate must have sufficient liquid assets to do so.

Proactive Planning Is Essential

It is vital not to leave these considerations until after death. Proactive planning can ensure the inheritance is structured to meet your objectives, avoid unnecessary SDLT/LTT/LBTT, minimise future extraction taxes, and take advantage of inheritance tax planning opportunities. The optimal approach depends on your long-term strategy, family circumstances, and whether the properties are intended for sale or long-term retention.

A Conversation Worth Having

Landlords with established portfolios and modest borrowing who are considering how their assets will serve them in the future should review their strategy carefully. Discussing these matters early can help align inheritance planning with investment goals and family dynamics.

Source: Based on reporting from Property118

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