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Do your sums before buying second home

A second home should be a place to relax, not an additional source of stress, warns Liz Willis.

Many people like the idea of a second home as a bolt-hole from the stresses of everyday life. Indeed, in the UK, there are more than 350,000 properties owned as second homes.

But a second home can also be a burden. So before buying, make sure you investigate the pros and cons.

If you need to raise some or all of the asking price by borrowing, you can apply for a mortgage or opt to release some of the equity in your main home. Most lenders will agree to either, subject of course to your income, outgoings and occupation status. If the property is for the sole use of your family and friends, you must demonstrate that the outgoings, including mortgages, on both homes are affordable.

Remember that when you sell a second residence, it is subject to capital gains tax (CGT). However, you have an annual CGT exemption (if not already used against other capital gains in that tax year) as well as CGT taper relief (a sliding scale related to length of ownership).

The annual CGT exemption for 2007/8 is £9,200, or £18,400 for a married couple or civil partners if the property is in both names. Any remaining gain will taxed at your top rate of income tax.

If your spouse or partner is a non- or low-earner, one possibility is to put the home solely in their name to reduce or avoid CGT liability.

If inheritance tax (IHT) is a worry, even before taking a second home into account, be sure to take professional advice on IHT avoidance.

If you buy with the intention of renting out the property part of the time for furnished holiday lets (FHL), the home is treated as a business asset rather than an investment. Special tax rules apply if certain criteria are met (see box right).

With an FHL property, lenders require a minimum 15 per cent deposit and you must show that the rental income is likely to be 130-150 per cent of annual mortgage costs.

Rental income
Profits from rental income are subject to your highest rate of income tax. However, with an FHL home, you can offset any losses against all your income - not just your property income.

If you expect to make a profit each year, and your spouse or civil partner pays tax at a lower rate, consider putting the property into their name.

As with self-employed GP earnings, you can claim capital allowances and set off expenses against tax. The latter include mortgage interest, furniture, agents' fees, accountancy, maintenance, repairs, council tax, and cleaning.

Some local authorities discount council tax when the property is unoccupied.

Unless you live close by, using an agent to advertise and manage the property can be worth the extra cost. Agents can also provide a list of the minimum facilities and furnishings required for a holiday property.

For example, does the property comply with disabled access requirements?

IHT does not apply to FHL properties and owning one for two or more years before selling means you can claim business asset relief from CGT. This will reduce any liability from a maximum 40 per cent to only 10 per cent - something that does not apply to an ordinary buy-to-let property rented out all year round.

An FHL property in a prime location will often be a better investment than buying to let.

Ms Willis is from the Medical Profession Advisory Division, St James's Place Partnership, 07900 654401, mailto: liz.willis@sjpp.co.uk

Planning for a second home
Do

  • Keep records for six years - for tax purposes.
  • Research the market and holiday season.
  • Maintain a high standard of decoration.

Don't

  • Buy a house with serious maintenance problems.
  • Leave it to family and friends to manage the lets.
  • Cut corners with contracts and other legal matters.

Furnished lets
To qualify for FHL tax rules, the property must be:

  • In the UK and let on a commercial basis.
  • Available for rent at least 140 days a year.
  • Rented out 70 days a year.
  • Not occupied by the same person for more than 31 days in a seven-month period.

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