The private residence relief legislation broadly states (at TCGA 1992, s 222(1)) that the relief applies to a gain on the disposal of, or of an interest in, all or part of a dwelling house which is, or was at any time in the individual’s period of ownership, his or her only or main residence.
The relief also applies to land for the individual’s own occupation or enjoyment with the residence as its garden and grounds, up to a permitted area. The ‘permitted area’ is 0.5 of a hectare, or possibly more if a larger area of land is required for the reasonable enjoyment of the residence, having regard to its size and character (s 222(3)).
Thus the primary limits to private residence relief are essentially the size of the garden or grounds, and also the extent to which the residence, or any land attached to it, has not been used as the individual’s only or main residence. But what happens if, for example, someone sells his private residence together with some adjoining land which was not part of its garden or grounds; how are the sale proceeds apportioned for the purposes of working out the amount of private residence relief on the house?
Unfortunately, the tax legislation does not offer very much assistance. TCGA 1992, s 222 (i.e. the basic private residence relief rule) simply provides (at sub-s 10) that apportionment of consideration shall be made wherever required. In addition, TCGA 1992, s 52, which is a supplemental provision on the computation of capital gains, states (at sub-s 4) that any necessary apportionment should generally be on a ‘just and reasonable’ basis.
That sounds straightforward enough. But what does a ‘just and reasonable’ apportionment look like in practice? A recent Upper Tribunal hearing in the Lands Chamber considered this issue, in the context of a dispute about the amount of private residence relief available on the disposal of a house and adjoining land.
Just and reasonable
In that case (Oates v Revenue & Customs  UKUT 409 (LC)), the taxpayers sold a house together with adjoining commercial land and buildings. A planning application had been made, and was subsequently allowed, for the demolition of all the buildings on the whole site, including the house, and the construction of 28 new houses.
The sale proceeds amounted to £725,000. The house was eligible for private residence relief, but not the land. The taxpayers apportioned the sale proceeds as to £325,000 for the house, and £400,000 for the land. However, HMRC took a different view, and attributed only £170,000 to the house and £555,000 to the land. Perhaps unsurprisingly given that the taxpayers and HMRC were so far apart in their apportionments, the taxpayers appealed, and the appeal was heard by the Upper Tribunal in the Lands Chamber.
The taxpayers submitted a report to the tribunal from a firm of valuers, which confirmed the taxpayer’s valuation of £325,000 for the house. Unfortunately, the tribunal pointed out that the report was exceedingly brief, and was incompatible with its requirements. The tribunal therefore refused to attach any weight to it as evidence.
By contrast, HMRC’s case was presented by a barrister, and HMRC called an expert witness, a senior valuer of the Valuation Office Agency. He put forward three different approaches to apportioning the sale proceeds between the private residence and the other land and buildings. His conclusion was that the approach which supported the highest value of the house was to compare its value with other similar properties nearby.
On that basis, the expert valuer arrived at a valuation for the house of £170,000. He then considered that the difference between the total sale proceeds of £725,000 and the house valuation of £170,000 represented the development value of the site. His opinion was therefore that it was ‘just and reasonable’ to apportion the sale price as to £170,000 as the market value of the house, and £555,000 for the value of the land and buildings.
The tribunal accepted the evidence of HMRC’s expert witness regarding comparable transactions involving other properties, and adopted the expert’s market valuation of £170,000 for the house. However, the tribunal considered that the apportionment of £170,000 for the house and £555,000 for the land was incorrect. The judge said that it was wrong to take the ‘existing use value’ of the house (i.e. its value ignoring development potential) and deduct it from the selling price to arrive at the value of the other land and buildings.
The tribunal looked at guidance in the Valuation Office Agency’s Capital Gains and Other Taxes manual (at para 8.61 ‘Interpretation of ‘Just and Reasonable Method’). The guidance indicates that it is necessary to find the value of each part (i.e. the house and land). If the total of those separate parts do not reach the whole, it would be necessary to allow for what the manual refers to as ‘marriage value’. This requires a formula to make the necessary apportionment. That formula is included in the manual, as follows:
Open market value or sale price to be apportioned x
Constituent value of part/Sum of constituent value of all parts
The tribunal applied this formula, and effectively worked backwards from the figure of £325,000 suggested by the taxpayers as being the apportioned value for the house. The tribunal also adopted the accepted market value for the house of £170,000. This indicated a value for the land in the order of £209,210. The calculation is as follows:
£725,000 x (£170000/(£209,210 + £170,000)) = £325,000
Thus for the amount apportioned to the house to be less than the taxpayers’ valuation of £325,000, the value of the land would have needed to exceed around £209,210.
The expert witness for HMRC did not provide evidence of the market value of the land ignoring development value. The tribunal therefore had to consider what the likely value of the land would be. It concluded that the so-called ‘existing use’ value of the land could not have been more than £209,210 at the date of disposal. Adopting the formula in the VOA manual, the taxpayers’ appeal therefore succeeded, because the figure to be apportioned to the house could not be less than the £325,000 claimed by the taxpayers to be its value. The taxpayers’ appeal was allowed.
Points to note
There are two interesting points to note from the Oates case. First, the tribunal judge criticised the guidance in the VOA’s Capital Gains and Other Taxes manual. In particular, the judge said that the formula mentioned earlier was “less than satisfactory”. Referring to ‘marriage value’ (i.e. where the total of the separate parts is less than the whole value), the judge said:
“In a conventional marriage value calculation, the concept that each party cannot realise their share in the development value of their combined interests without co-operating is normally reflected in the marriage value being split equally between the parties” (emphasis added).
The tribunal judge said that if that basis was adopted, the appeal would have been even more likely to succeed, because if the marriage value was split equally between the two portions, it would result in the ‘existing use’ value of the land having to exceed around £245,000, rather than £209,210. The tribunal judge’s comments and approach underlines the point that guidance such as in the HMRC and VOA manuals are generally non-statutory, and therefore not legally binding.
The other point to note is that the taxpayers in the Oates case did not appear at the tribunal hearing, and were not represented either. In addition, the professional valuation they obtained was too brief for the tribunal to accept. As mentioned, by contrast HMRC were represented by a barrister, and they also used an expert witness. However, the taxpayers still won the case, against all the odds. Of course, their approach is not to be recommended. At a minimum, a detailed valuation report by a suitably qualified expert will normally be the order of the day.