At the end of 2012, the First Tier Tribunal heard a case (Ellis and Another v HMRC) concerning whether or not a cottage was in fact the ‘main residence’ of Mrs Ellis and her late husband.
The facts were that they bought the cottage in March 1999, and let it out until 31 August 2004. The Ellises then moved in on 1 October 2004, and lived there until the property was sold on 13 April 2005. Shortly after moving in to the cottage the Ellises (who also owned another residence) sent an election under TCGA 1992, s 222 (5) to HMRC, which nominated the cottage as their main residence.
Main residence election
This piece of legislation allows a taxpayer who has two residences to choose which is to be regarded as his ‘main residence’ for tax purposes. It is this ‘main residence’ that benefits from the exemption from CGT on sale, on the gain apportioned to the time during which the property was the main residence, and in every case, for the last three years before the sale.
In other words, by living in the cottage for just over six months, (and presumably during much of that time the place was on the market) Mr and Mrs Ellis were able to get exemption on 3/6 of the gain on the sale – and any remaining gain would have been eligible for the ‘letting deduction’ of up to £40,000 each, because when not their main residence, the property had been let.
HMRC’s doomed argument
HMRC argued that their stay in the cottage was so short that it could not qualify as their ‘main residence’. HMRC lost, because as the Tribunal pointed out, the legislation allows the taxpayer to elect which residence is to be regarded as his ‘main residence’, and HMRC cannot second-guess this choice.
The Ellises won their case because of the breathtaking incompetence displayed by HMRC in their conduct of the case. HMRC conceded without an argument that the Ellises had used the cottage as a ‘residence’, and concentrated on a futile attempt to argue that nevertheless ‘as a matter of fact and degree’ it was not the main residence.
HMRC should have argued that a six month period spent in a house that was already on the market was insufficient to qualify it as a ‘residence’ at all, and on the basis of previous cases they would have had a good chance of winning that argument. By accepting that the property was a ‘residence’ they shot themselves in both feet, because, as the Tribunal pointed out, “It follows that, in our judgement, given that the respondents (HMRC) concede that the property was a residence used by the taxpayers, the appeals must succeed because an election was made”. Reading between the lines, the Tribunal might have made a different decision if the argument had been about ‘residence’ rather than ‘main residence’.
A word of warning
Some commentators have welcomed this case as a victory for the taxpayer, but we should be very cautious in using this case as a justification for saying that all a ‘buy to let’ landlord has to do is move into a property six months before selling it, and make a section 222 election, in order to enjoy the benefit of some exemption from CGT and of the £40,000 letting deduction.
The Ellises did not win this case – HMRC lost it by failing to read the legislation properly and arguing a point they could not win, having tied their own hands behind their back by conceding the property was a ‘residence’.