How do taxpayers pay their tax when property incorporations go wrong?
1st May 2026
Posted in Articles by Andrew Marr
There has been lots of press around Property 118 (P118) over the last few years. Currently, if worst comes to the worst, P118 customers may end up having to pay capital gains tax on the gains triggered when they transferred a property business to a new company. They had been hoping to rely on TCGA 1992 section 162 incorporation relief, whereby any gains are not triggered immediately but are deferred into the base cost of the shares.
Example
Charles had a property portfolio worth £5m which he had acquired for £2m. In March 2023 he disposed of this portfolio to a new company in return for that company issuing him 100 £1 shares (in reality various other business assets would have been transferred to the company as well, but in the interests of keeping things simple let’s ignore that point). The key tax effects that Charles was hoping for were as follows:
1. The £3m capital gain that he would have made was not triggered and instead was deferred against the acquisition cost of the shares.
2. Therefore, although he ‘paid’ £5m for his shares by transferring the property to the company, for tax purposes he will be treated as having acquired his shares for £2m.
3. If he had sold his shares immediately after the incorporation, then he would have triggered a capital gain of £3m.
4. The company acquired the properties at £5m market value for tax purposes and so there would have been little tax to pay if any properties had been sold shortly after the incorporation.
HMRC can attack these kinds of incorporations on various grounds. The most common ones are because they argue that the business that has been transferred is not substantial enough or alternatively (as in the case of P118) they discover flaws in the drafting of trust deeds etc.
The point of this tax bite is not to discuss how section 162 works, but rather to suggest ways that taxpayers can get out of the pickle that they find themselves in if HMRC successfully argues that tax is due. In the above example, a successful HMRC enquiry will result in Charles having an unexpected tax bill of £720,000, in addition to interest which will have run on this since 31 January 2024. What can he do?
Capital reduction
Let’s consider what his company’s opening balance sheet looked like. This will have shown fixed assets of £5m, share capital of £100 and share premium of £4,999,900. If the company sells a property for £800,000 which was worth £760,000 at the time of the incorporation this would trigger £10,000 of corporation tax (£40,000 gain at 25%) and so the company would then have £790,000 of spare cash. It could then undergo a capital reduction whereby the share premium account is reduced by £790,000 and Charles receives £790,000. Here, the gain for Charles would be £790,000 – £790,000 (790/5000 x £5m) = £0. Therefore, no capital gains tax would be triggered. Remember that we are considering a ‘failed incorporation here’ and so the tax liability fell on Charles on incorporation which meant that there was no reduction to the £5m tax base cost of the shares.
This is probably the most tax-efficient way of extracting funds.
Forbes Dawson view
Depending on where the P118 cases go we may end up seeing quite a few transactions like this. They do not come without risks of their own, as HMRC may well seek to treat a portion of any capital reduction as subject to income tax to the extent that there are reserves in the company. This would be under transactions in securities legislation (‘TISL’). Hopefully, HMRC would be willing to grant clearances that they would not apply TISL in these circumstances, although there would be no guarantees. It would be very helpful if HMRC could make an exception to usual protocol and actually provide a practical mechanism for people like Charles to pay their tax if the worst comes to the worst, although I would not hold your breath on that one. Without such solutions, these landlords may have to simply sell up completely and liquidate their companies. There is nothing to stop shareholders extracting cash in this way for ‘successful incorporations’ but this is likely to trigger a capital gains tax liability due to the depressed tax base cost of the shares.
