Tuesday, January 17, 2006

Should I develop the plot or sell it?

Elizabeth asks:

Can anybody give me some advice please.

I have a semi-derelict property which I own with no mortgage. I have been offered £200,000 as it stands. I could spend £350,000 on it and develop it into three houses which would fetch in total £650,000 (as advised by estate agents), on which the profit may be £300K. Bearing in mind I can get £200,000 for it at the moment, is it worth doing? I will have to pay interest on the loan for 10 months for the build, plus I am not living there, so I will have to pay capital gains tax and also I believe that I am unable to reclaim my VAT. The build cost has been estimated by a timber frame specialist who is doing a full build for me, in your experience do these honestly run to budget?

Mark replies:

Firstly, one or two points require clarification. If the property is not your main residence, then the sale of it will be subject to tax, either capital gains tax or income tax, whether you develop it or not. It may be that in it’s existing state it doesn’t have any accrued capital gain — you may have inherited it recently, for instance — but the principle is the same. The only way you can avoid paying tax on any profits from the deal is if you choose to live in the completed house and thereby turn it into your main residence. As there are three houses, this looks problematic, unless you chose to develop it slowly over a period of years, moving from one house to the next to the last.

The other tax point concerns VAT. You don’t actually say whether “developing it into three houses” involves demolishing the existing structure and building three new ones (in which case you will be able to reclaim VAT) or converting the existing structure into three dwellings (in which case you wouldn’t be able to reclaim all the VAT but would normally be able to pay just 5%). The principle is that if you are creating a house for the first time, you can reclaim all the VAT involved in undertaking the work. If you are converting one house into many, then you pay a reduced amount of VAT (5%) but if you are extending or improving an existing home then you must pay VAT at the full rate.

Final point, you ask “Should I sell for £200,000 now or develop it with the hope of making £300,000 profit?” Let’s presume that the tax and VAT position is neutral — i.e. one route isn’t any more advantageous than the other — the question really boils down to the hassle factor. The answer is actually quite straightforward. The easy £200,000 is the sell now option: the extra £100,000 is in all likelihood not going to be quite as large as you imagine. You have already identified the cost of borrowing involved and the time taken to build the houses. But there will be many other costs, not least the cost of holding onto these finished properties before they are sold. You also cast doubt on your own build cost figure of £350,000 and ask if such figures “honestly run to budget.” My feeling is that your question is rhetorical. You KNOW that costs like this rarely if ever run to budget.

So whilst I am sure there is money to be made in undertaking the developing, it’s not easy money and that it’s probably best done by full time developers who have done it all before. Which, of course, may describe your good self, but I would hazard a guess that you aren’t, otherwise you wouldn’t be posing the questions in the first place.


Anonymous kurt said...

build the houses then get a £150,000 mortgage on each of them,
pay the the £350,000 build cost bank £100,000 less intrest on build loan,£100,000 is tax free cause its borrowed money, then rent the houses, average £200,000 house will rent for not less than £800.00 pcm ,at the moment the repayments on intrest only morgage
of £150,000 is about £600.00 per month, thats at worst £600.00
a month profit on rent which is
the only thing you will pay tax on.
and on top of that house prices
double on average every ten years.
so in ten years you can remorgage
again, bank at worst £400,000 or
at best £600,000 again tax free
cause its borrowed money and so on,
if you have children they can carry on the same .
you could also buy more houses
out of the equity and do the same
with those ,good pension
food for thought

9:13 pm  

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