What is probate property?

In the context of the UK Capital Gains Tax (CGT), probate property is property owned by the estate of someone who has died. The gains of the estate on the disposal of estate assets — whether such disposals take place during the administration or by the beneficiaries after the transfer of the estate’s interest to them — are liable to CGT on the estate’s behalf or on that of the beneficiaries.

Probate property is property owned by the estate during the administration period. On the completion of the administration — usually on the transfer of the property to the beneficiaries — the transfer of the property from the estate to the beneficiaries is treated as a disposal in itself. Generally, it is not in practice for the estate to be the vehicle through which property is sold, and CGT applied; it is more common for the property to be sold by the estate or distributed to the beneficiaries and to cease to be held by the estate. However, those are simply two occasions when CGT can apply; CGT can apply to any disposal of property outside the normal course of business. The fact that the estate can be the seller of probate property often gives sellers a timing advantage: they can choose the date of the disposal within the time limits, but can also choose not to dispose. However, that choice usually lies with the beneficiary if the property is distributed.

2. When capital gains tax applies

Probate property is an estate asset disposed of by the personal representatives of a deceased person. Capital gains tax (CGT) is charged on the disposal of probate property if a gain arises, and the estate pays the charge. However, no CGT charge arises if neither the estate nor the beneficiaries of the deceased person's estate makes a capital gain. A personal representative’s estate also includes all the property of the deceased person that is treated as disposed of during the administration of the estate. Any capital gains arising on that disposal are counted in the estate.

The CGT chargeable when an estate disposes of probate property is broadly the same as that for any other asset. The considerations in determining when a gain arises, the amount of the gain, and when and how it is reported are the same. However, whilst acquiring a probate property may generate a notional gain, and the proceeds may be charged to tax when there is an estate disposal, some special rules are needed to cater for other situations. The laws dealing with probate property reflect the importance of the estate administration in determining the estate’s tax liability.

3. How capital gains tax is calculated

UK Capital Gains Tax is charged on a gain as opposed to on a disposal. Thus, although an estate will be liable to CGT on a disposal of probate property, savvy estate planners should work the gain (the difference between disposal proceeds and allowable costs) as low as they legally can.

For individuals taxed on the gain, the current rates are 18% or 28%, depending on the total size of their other taxable income in the tax year of disposal and whether a gain falls within their taxable range. The rates can and do change. There is no indexation for inflation of any gain made on probate property since April 2008 — because the property is valued at probate for tax purposes — except that a property qualifying for Business Asset Roll-Over Relief retains its original inflation factor at disposal.

When estimating the gain for estates, or when beneficiaries inherit property and then sell it themselves, there is no disposal for CGT purposes until the beneficiary succeeds the estate owner as vendor (Tradegap Ltd v H M Revenue & Customs [2010] UKFTT 252 (TC)). Thus, the vendor has only an estimated notional disposal of part of the inherited property at market value for the duration of the beneficiary's ownership, where the property is specified as a notional private residence for Lettings Relief. The notional disposal price counts as both proceeds and cost. The new deemed notional period during which the property was occupied as a private residence by the transferor also counts for Lettings Relief, but only since April 2020 and only where certain specific conditions are met.

When notional rent applies, it forms a business UK Capital Gains Tax chargeable asset but otherwise affects only the Hereinafter Rate for other CGT calculations. That Rate is scaled back for property at probate that must pay a US-tax equivalent — SDLT — on disposal within the estate, and can also be scaled back where the transfer occurs during periods of an estate's regular trading.

4. How to work out the gain

1. Work out the gain on the disposal of probate property in four steps.

1.1. Calculate the sale proceeds: These are the total proceeds from selling the property minus the selling costs (the costs of sale). If the property is given away or transferred for less than its market value, the proceeds are its market value at the date of the transfer or gift, less the selling costs.

1.2. Calculate the allowable costs of acquisitions: These are the costs of buying the property and certain other expenses, which add to the acquisition cost. The permissible costs are the purchase price, stamp duty land tax, solicitor and surveyor fees for the purchase, and the cost of improving the property. The costs of running the property during the estate are not allowable, except for qualifying notional rent (see section 7.1).

1.3. Work out the gain: Subtract the allowable costs from the sale proceeds. This is the gain figure, which any available reliefs or deductions may reduce. The net gain is the amount remaining after applying exemptions or other reliefs.

5. Exemptions and reliefs

Exemptions and reliefs apply when calculating Capital Gains Tax (CGT) on the estate’s property. In addition to the main residence relief on a deceased person’s only or primary residence, other specific reliefs may apply. If the property qualifies for other reliefs, such as letting relief when the property has been rented out, these will also reduce any CGT that arises on a sale.

Spouse or civil partner relief applies when there is no gain and no loss on transfer between spouses or civil partners who are living together. In these cases, the transfer does not affect the gain or loss calculation, but the property owner for CGT purposes may change. A notional disposal may also occur on the transfer of property on which no gain or loss is assessable. For example, the transfer of a property back to the wife at the time of divorce may be subject to a notional disposal.

6. Allowable costs and improvements

Probate CGT may be due when selling or otherwise disposing of property that comprised part of the deceased person's estate. Many of the costs that enable beneficiaries to reduce any tax exposure are similar to those allowed in a normal CGT computation. The most significant difference is that disbursements associated with the deceased's death are typically treated as estate administration costs, which reduce the estate and may save Inheritance Tax.

Costs that are allowable expenses for Capital Gains Tax purposes must relate to the sale or disposal of the asset, and not the acquisition of it. Thus, the purchase costs must include any fees and commissions paid on sale, as well as the costs of any repairs and modifications necessary to realise the sale.

The following costs are usually allowable when disposing of a property included within the estate:

- Death duties, other than Inheritance Tax. - The fee for obtaining probate or confirmation. - Fees paid to solicitors for administering the estate. - Costs incurred in establishing the title to property. - The cost of sale or lease of fixtures, unless already charged.

In addition, the following costs may be deducted if charged to the estate:

- Insurance of house contents for sale before distribution. - Normal upkeep and running expenses such as gas, electricity, water charges, ground rent, and repairs to the property, including garden and grounds, incurred by the executor if the asset was used as a primary residence immediately before death.

Where property has been improved in the two years before death, the costs of those improvements qualify, provided that they will add to the value of the property and will not be made good by the sale.

7. Notional AKS and stamp duty considerations

CGT may be affected by notional rent, which may apply if a property is let or used for another purpose before it's sold. The deemed rent can be calculated and deducted from the proceeds of sale. If the estate is liable for the resulting rent, the tax may be avoided or reduced.

Property in an estate that is sold or transferred to a beneficiary within the period of administration is exempt from stamp duty land tax. However, transactions during the administration may nevertheless be subject to the standard stamp duty land tax rules on any gain regarded as arising on the notional rent. CGT on the sale or transfer of property within the estate is calculated without regard to other tax consequences, but other taxes and reliefs may require consideration.

8. Reporting and payment timelines

The timing of reporting Capital Gains Tax (CGT) liability on the disposal of probate property depends on who is responsible for reporting it to HM Revenue and Customs (HMRC).

When an estate return is required and filed within nine months from the end of the month of death, gains are reported there. The estate then has until 31 January following the end of the tax year in which the death occurred to pay the tax. This December date is later than the standard 31 January deadline for other individuals.

If neither of those situations applies, gains exceeding the annual exempt amount must be reported to HMRC on a Capital Gains Tax report. The report is due within 30 days of disposal, and tax is payable within that time period. There is no longer a tax return or an SA108 page for reporting gains on the disposal of probate property; these gains are now reported on a Capital Gains Tax report. Losses and profits within the annual exempt amount are still reported on Self-Assessment Tax Returns and SA108 pages.

If the estate has appointed a representative, HMRC expects the representative to report any disposals within this time period. Estates without an appointed representative can still assign that role to someone; HMRC prefers that one person report disposals to avoid duplication and incomplete information. Failure to report a gain when due can be costly: a £100 penalty applies, as well as late payment interest and surcharges. Form SA908 and the SA900 estate return must not be duplicated. A Capital Gains Tax report must not be delayed.

9. Common mistakes to avoid

A common mistake is treating non-allowable estate costs as deductions against probate CGT. This includes both the costs of acquiring the asset being sold (for example, purchase costs and any capital tax grants) and the costs of sale that would not make the transaction commercially viable. Reliefs or exemptions that apply should not be missed, particularly the principal private residence relief, spouse or civil partner relief, and letting relief. Returns should not be delayed, and interest may apply on unpaid CGT. Furthermore, potential interactions with inheritance tax should be observed.

10. Conclusion

Probate property is affected by rules on Capital Gains Tax (CGT) when the estate transfers property to its beneficiaries. CGT may remain payable, even after the estate has closed. The estate makes the payment, or the beneficiaries share the liability.

CGT may be charged on the disposal of probate property in the following situations: any property not transferred by the estate (except money) at the date of death; any property transferred after the date of death; and any property held at the date of death and disposed of by the beneficiaries. The disposal of a primary residence may qualify for main residence relief.

CGT is charged on the gain arising on the disposal of the property by the estate or the beneficiaries (if the gain has not been charged on the estate). An individual may pay CGT at the introductory rate of 10% or the higher rate of 18% if their other taxable income plus the gain is more than the higher-rate threshold. The tax rates in Scotland may differ, with 15% applying to residential property.

A gain may be calculated separately from the actual disposal of the property, and the probate valuation date is essential for this purpose. The sale proceeds are determined first, followed by the allowable sale costs (including estate agent fees and legal costs), and any permissible acquisition costs. The gain is calculated next, along with the net gain after deducting the annual exempt amount.