plan4cgt - Primary residence misconceptions

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On this page - Misconceptions re: primary residences, (no particular order)

 

 

Misconceptions – Primary residences

One should always bear in mind that tax planning, or in this case minimising CGT, is often a secondary consideration. For example, the fact that post-valuation date improvements could significantly affect the base cost as determined on a time-apportionment basis should not ordinarily affect your lifestyle decision to build a boma, pub, braai and jacuzzi.

What follows is a list of misconceptions derived from questions asked, newspaper reports, websites and our own research into Capital Gains Tax. They are geared towards primary residences but many apply to other areas of CGT.

I am safe for now because I will not make a million gain on the property! Not so! There are apportionments of the gain into the elements that qualify for the exclusion and those that do not. We are not merely referring to the size of the land either!

It is the R1million exclusion that is apportioned! It is the gain/loss that is apportioned between, let us say, that portion of the residence that qualifies as the primary residence element and that that does not.

I can subdivide my property and sell that subdivided portion and the exclusion will still apply! It will not apply to the subdivided portion unless cetain conditions are met.

There is no point in valuing the land in excess of two hectares, as it doesn’t qualify for the exclusion! This is not necessarily the case! In fact, this is all the more reason to have a valuation performed!

I can do the valuation myself! Given the fact that the onus of proof in virtually any tax matter is on the taxpayer, you have to question the integrity and accuracy of a valuation that you yourself perform, unless you are trained in this field.

The time I have lived in my house prior to CGT counts as part of my period of ordinary residence! It might count towards substantiating the "ordinary residence” concept. The time you owned the property prior to 1 October 2001 also counts towards your time-apportionment base cost. However, the pre-October 2001 period counts nothing towards the period of ordinary residence for the purposes of calculating the ‘period apportionment’.

CGT does not apply to my offshore property! If you are a resident CGT applies to your worldwide assets, but for a residence to qualify for the exclusion, you or your spouse have to be ordinarily resident in that house. Pretty difficult to substantiate this one!

Only one residence may be a primary residence at any one time! As a general rule, yes! There is a specific exception. We believe there are more.

If I emigrate there is a deemed disposal of my residence! No, there is no deemed disposal of your fixed property and certain indirect interests in fixed property.

If I am absent from my residence it means I will lose my ordinary residence status! Not necessarily, it depends on your intention really! Are you ordinarily resident there in your own mind and can you justify this? Also, where is your spouse ordinarily resident? See how the period apportionment works and the exception to the usage apportionment.

I have to live in the house to qualify for the primary residence exclusion!  Not necessarily! There are specific exceptions and what if your spouse lives or has lived there! The time that you or your spouse have lived there also counts.

I have to be living in my house at the time I sell it in order to qualify for the exclusion! No, the time period that you or your spouse have been ordinarily resident in the house is what matters, (no regard is had to the period prior to CGT in this instance). The period of ordinary residence in the residence as the main residence after 1 October 2001, (or from the date of the acquisition of your interest in the residence, if acquired later, is what counts. See the first example of the period apportionment.

I first rented my residence and then bought it. The rental period is counted into the time for the purposes of calculating the period apportionment! No it isn’t! The rental arrangement is a separate interest that may or may not be capable of disposal.

If my spouse and I jointly hold an interest in the residence the exclusion amounts to R1 million each! The exclusion applies on a per residence basis and not a per person basis; the maximum exclusion will be limited to R500 000 each if the joint ownership is on an equal basis. The same result arises if married in community of property.

The R1million exclusion is a once in a lifetime exclusion! No it is a on a per residence basis. You could even get two exclusions in one tax year should you be so lucky. (It would be asking for trouble!).

If I get divorced and my spouse gets my residence I can be subjected to CGT! This is unlikely to happen, it should normally be transferred to your spouse at the base cost. But what if she is a non -resident!

If my spouse and I get separated and I move out of my house, I will lose my ordinary residence status! It is possible, but is not always the case! Remember you were at one time ordinarily resident - that counts for something.

If either my spouse or I carry on a trade from home, that portion of the residence used for trade purposes will not qualify for the primary residence exclusion! This is not necessarily the case, but the reason is not too evident!

I do not carry on a trade from home because I am employed! Employment is encompassed by the trade concept, so if you have a home office, that portion of the house may not qualify as domestic use.

I get an income tax deduction for home-related expenses, therefore I am prepared to take the knock on CGT! You have to do the numbers, especially if the residence is getting to the point that it is being used mainly for purposes other than domestic purposes.

I have heard that one of the principles relating to the concept of ordinary residence is that it is the place you would return to after your wanderings, I’m OK with this! There have been a few judicial decisions surrounding ordinary residence in relation to the country of residence; don’t be surprised if the courts take a different angle!

I will put one property in my spouse’s name and the other in my own! This can work, but in unusual circumstances only! It is taking tax planning to the extreme.

I am going to leave the property to my child via a testamentary trust, that way the CGT liability is taken care of when I die and that is where it will end! Perhaps not! There are some strange things that can happen with trusts.

The following points are rather technical in that they relate to quirks pertaining to base cost.

It is advisable to have my property valued! It all depends on your circumstances. For example, for any property that is or is likely to be subdivided or where the land is greater than two hectares, it would be advisable to have your property valued. There are instances where the time-apportioned base cost will produce a more favourable result – for this you have to do the sums.

If you cannot substantiate the pre-valuation date costs a valuation should be obtained. This is a tax trap.

It is possible to derive a capital gain on a pre-valuation date asset, despite the fact that an economic loss, (running expenditure aside), has been made. The circumstances are most unusual and unlikely in the case of residential property.

If the value of my property is less than the purchase price paid and the cost of other improvements made up to 1 October, I can still get taxed because the selling price may be more than the valuation! No gain should ordinarily arise in this instance if you have made an economic loss, because the base cost provisions should limit any gain to zero. Our comments above apply equally here – it would be most unusual to end up with a gain.

My valuation should be as high as possible! If unrealistically high the valuation can be challenged.

It is possible to derive a capital loss on a pre-valuation date asset, despite the fact that an economic profit was made. This can only happen if the valuation is lower than the eventual proceeds

Once I have a valuation done I am stuck with it! Not at all! You can generally, but not always, still opt for time-apportionment in the tax year that you sell the residence if that method yields a more favourable result. However, in certain economic loss-making circumstances, having had a valuation performed could mean that you are stuck with it.

I should make improvements to the property after CGT! It all depends on your circumstances. There is a way to optimize the base cost for improvements done prior to CGT. Furthermore, improvements made after CGT, believe it or not, can detrimentally affect your 1 October 2001 time-apportioned base cost value. Don’t let CGT upset fundamental lifestyle decisions!

If improvements made after CGT can detrimentally affect the time-apportionment base cost, I should call the improvements “repairs”. From a tax perspective there is fine line between improvements and repairs. There have been a significant number of tax cases on this! As a general rule, as far as residences go, (whether primary residences or not), ‘improvements’ would be more beneficial.