As we return from our holidays and the post-holiday blues settle in, we turn our minds to next year's break. In a number of cases, thoughts turn to more than next year's holiday, instead, considering a holiday for life. For some of us the dream of owning a property abroad seems very attractive and more and more of us Brits now aspire to owning a holiday home abroad.
The plan is to spend time in an idyllic retreat and then pass the property to the children to enjoy for years to come and while the dream of a retreat in the sun is understandable, one has to carefully consider the legal and tax implications of making such a significant purchase.
For UK residents, the purchase of a second home is likely to be in France, Spain or Italy, although we have come across clients with properties elsewhere such as in Cyprus and in the US and what is often overlooked is that a property abroad, is unlikely to covered by your Scottish Will. As such, your executors will struggle to administer the property abroad.
What must be borne in mind is that the law in most of the countries in mainland Europe is very different from the law in Scotland. Most of the countries mentioned have a very different code which dictates who will inherit your estate, to what extent and when. This concept is commonly known as "forced heirship" and contrasts significantly with the law in Scotland which allows you to leave your heritable property to whomever you wish. When purchasing a property, make sure you get expert advice. Enlist a local lawyer who specialises in buying property in that area and make sure you understand what can often be complex rules on ownership and succession in relation to a property abroad.
Another major difference is the process by which inheritance tax is paid. In the UK, inheritance tax is payable by the estate of the deceased before the estate is distributed. In a Civil Court jurisdiction however the inheritance tax is payable by the recipient of the gift, which is a significant departure from the UK system.
Good practice dictates that an individual owning a holiday home abroad should make a Will in that country and be aware of the process which will have to be followed on their death and also be aware of the tax implications of the transfer of the property to beneficiaries.
There have been some moves towards harmonising Wills across the EU and the EU Succession Regulation will come into force in August 2015. Member states will recognise a European Certificate of Heirship (the equivalent of a Grant Probate/Confirmation) and people with property in more than one jurisdiction will be able to choose the law of the country they wish to apply. Presently however, partly because of the differences in the succession law and in the application of the inheritance tax, the UK has opted out of the Regulation.
While it is sensible to consider what happens to your holiday home on your death it is imperative to be aware of the lifetime tax implications of owning a second home. As a UK resident, you are liable to income tax on all of your income regardless of where it arises. If you rent out your holiday home you will be subject to UK income tax on the rental income. As the holiday home is not your main residence you will be subject to UK capital gains tax on any profit made when the property is later sold or transferred. You may also be liable to pay income tax and capital gains tax in the country where the property is situated and while there is likely to be some element of double taxation relief, it is recommended that local taxes are considered before purchasing a holiday home.
For those who have a portfolio of rental properties, bear in mind that income from property outside the UK does not form part of your UK property business for tax purposes. As such any profits or losses cannot be pooled with profits or losses from your UK rental properties.
Finally, bear in mind some of the other practicalities of owning a property abroad. Experience shows that many people who have purchased a holiday home abroad are not spending as much time there as they hoped. They may be reluctant to rent out the property wishing to leave it available for friends and family, but they then realise they are having to finance mortgage payments, maintenance costs, foreign taxes, etc. without the property generating any income to offset these.
A final word of caution is to bear in mind that at some point, you may wish to sell the property and while there are bargains to be had at the moment, the market is saturated and you may not be able to sell in the timescale you need or for the amount you would like.