Much of the attention following the proposed rates for the new land and buildings transaction tax (LBTT) has focused on the dramatic increases on residential property transactions above £500,000 planned to come into effect from 1 April.
Although Finance Minister John Swinney stated that it was his intent for LBTT to be “revenue neutral”, raising no more or less than the stamp duty land tax (SDLT) it replaces, the proposed changes have drawn a wall of criticism with commentators saying it is a potentially divisive tax that will target the “squeezed” middle classes and act as a major brake on economic activity. Whatever your views, the first tax to emerge from the Scottish Parliament since 1707 has been met with a baptism of fire.
Unlike SDLT, where a rate is applied based on value from £0 to that value at the applicable rate, LBTT is calculated using cumulative bands and the tax represents the aggregate of the constituent parts of the price. For example, SDLT on a commercial property worth £1,000,000 is 4 per cent of £1,000,000, in other words £40,000. Under LBTT, it is £36,000 – comprising £0 to £150,000 at nil plus £150,000 to £350,000 at 3 per cent (£6,000) plus £350,000 to £1 million at 4.5 per cent (£30,000). At the lower end, the new LBTT may be less than the SDLT it replaces.
The rates and bands are subject to parliamentary approval, although it is not anticipated that they will change from those announced in the draft budget.
However, little has been said about the sweeping tax changes for commercial property transactions, which will also come into effect on 1 April. When compared to the proposed tax rates for residential properties, non-residential transactions are set to be taxed from a higher initial threshold and with a maximum of 4.5 per cent being applied on deals above £350,000.
Is it possible that commercial property is set to become the new preferred investment option and a competitor for residential buy-to-let? When compared to the transactional cost of purchasing a residential property, in particular above £250,000, the taxation of commercial property deals is significantly less expensive. For someone holding a buy-to-let portfolio of flats costing around £250,000 each, it may well be worth considering broadening the portfolio to include a commercial property investment.
By way of contrast, for the purchase of a terraced house worth £500,000, the new tax will be £27,300. For a high street shop or office costing the same £500,000, the new LBTT will cost £11,250 – a difference of just over £16000. On smaller commercial premises costing up to £150,000 there will no LBTT to pay. The equivalent zero threshold for residential is £135,000.
For a small business park or development site costing £5 million, the tax take will be £215,250. The tax on a single residential development costing the same amount will be £587,300.
If the proposed LBTT changes result in a shift in investment from residential to commercial property investment at the smaller private investment level, we could see a revival in demand for small shops, offices and commercial premises. This recovery could provide a welcome boost to economic activity and employment.
The point at which LBTT matches SDLT on commercial transactions in terms of tax paid is £1,950,000 – under each regime the cost is £78,000. LBTT increases the tax by £5,000 per £1m beyond the equivalent level of SDLT, contrasting £45,000 for LBTT against £40,000 per £1m for SDLT and is thus more expensive than SDLT. This will have a negative impact on the valuation of commercial property beyond this level in Scotland when contrasting with England, though in our view there are already regional variations depending on market sentiment in valuing properties throughout the UK and LBTT will just become another factor to be considered.
For a private investor with significant funds, commercial property could now become a much more attractive proposition at the lower levels.
l David Thomson is head of real estate at commercial law firm McClure Naismith