An understanding of the difference between legal and beneficial ownership is crucial to an understanding of both the taxation and non-taxation issues associated with ownership of property, i.e. real property (e.g. house/flat) and personal property (e.g. paintings; jewellery; motor cars). It is probably with respect to real property, however, that the distinction most often arises and is of most importance.
For tax (and indeed most) purposes it is beneficial ownership that is the more important. To a great extent legal ownership represents mere nominal or paper ownership whereas beneficial ownership represents real ownership.
It is often the case that an individual has both legal and beneficial ownership of property. Thus, for example, I may purchase a house for cash. Having purchased the house I alone have legal and beneficial ownership of the house. At Land Registry, the legal title will be shown as being held in my name; as beneficial owner I have the right to reside in the property; to sell it; to let it out; to gift it; etc.
Children and mortgages
If I need a mortgage to purchase a property the building society will require that I own the legal title. If my son wants to purchase a property but has insufficient income to support the amount of the mortgage needed, but I have sufficient income, then the building society will lend the monies but only if my son and I are shown as joint legal owners; this is quite common in practice as many sons/daughters in today’s climate are not capable of borrowing on their own recognisance. The building society is not interested in who has beneficial ownership of the property.
In the above circumstances the question arises as to who does have beneficial ownership of the property. As I am only helping my son to obtain the mortgage then it is he who should own the beneficial interest. To achieve this, my son and I, as legal owners, need only execute a simple declaration of trust under which we agree that we hold our legal title as to 100% beneficially for my son. This has the effect that on any sale of the property any capital gain for capital gains tax (CGT) purposes belongs to my son; assuming that he lives in it no CGT charge will actually arise. If, however, under the declaration of trust we had each taken a 50% (say) beneficial interest then on any sale I would be exposed to a CGT liability on any gain attributable to my 50% beneficial share (as I will not have lived in the property as my main home); a not particularly desirable result.
Buy to let
If instead of living in the property my son decided to rent it out then any rental income would belong to him and be subject to income tax on his part as the owner of 100% of the beneficial interest.
Now it may be that my son and I wish to go into the buy to let business together. We therefore (as above) execute a declaration of trust but this time declare that the legal title is held beneficially as to 50% each (not 100% and 0% as above) which means that we are each entitled to 50% of the rental income and each subject to income tax thereon.
Off to university
Another common scenario is that of a son/daughter off to university and mum/dad thinks it would be a good idea to buy a flat close to the university for their son/daughter to live in whilst at the university.
If mum/dad owns both the legal and beneficial interests then on any future sale any capital gain will be subject to CGT on their part. If they own the legal title but execute a declaration of trust giving the son/daughter 100% of the beneficial interest then as the son/daughter will have lived in the property no CGT will arise on any future sale; however, the sale proceeds will also belong to the son/daughter not mum/dad. Mum/dad will also have made a gift of the property for inheritance tax (IHT) purposes although in practice this may not actually precipitate any IHT charge; the gift is the transfer of the beneficial interest from mum/dad to son/daughter.
Death and ownership
On death it is the individual(s) who possess the beneficial interest(s) who has power to dispose of the property.
Thus, for example, where I hold both legal and beneficial ownership the property may be left by me in my will.
If my son and I hold the legal title for my son as to 100% beneficially then my son has the right to leave the property in his will; if my son and I hold the legal title for my son and I as to each 50% beneficially then my son and I each have the right to leave our respective 50% in each of our wills (assuming we hold the beneficial interests as tenants in common).
Ensure that even where it is clear who possesses the legal title to a property that the beneficial interests of the relevant individuals are explicitly documented.