US/UK Tax Planning - Understanding Implications for Selling/Renting UK Flat?

Hi All,

Trying to do some tax planning when I decide to move back to the US.  Haven’t made that decision so it’s still hypothetical, but trying to understand what my tax burden would be with my UK flat, basically trying to understand if it’s better to sell or rent the flat.  Dates below are for illustrative purposes to better understand the tax burden.

Scenario one: 

- Hypothetically move back to the US July 2014
- Sell the flat for £530k July 2014, purchased June 2012 for £430k
-
Questions:
- Would I have to pay capital gains tax for the £100k profit?
- Assume I wouldn’t because I have lived in the flat, but if I did, I also put £30k in home improvement costs into it.  Pls confirm?

---------------------

Scenario two:

- Hypothetically Move back to the US July 2014, sell the flat in the future – let’s say hypothetically July 2016
- Rent the flat for £400/pw
- Assume, £1000 maint cost/pa, £40/pw estate agent cost

Questions:
- Assume I’d be able to deduct the maintenance / estate agent costs?
- When I come to sell the flat in July 2016, let’s assume the flat is worth £630k.  Would I have to pay capital gains tax on the £200k profit?  If so, will I pay the capital gains tax to the US or the UK?
- What are the impacts on the US vs. UK side of taxes?
- How long can I rent the flat out without being hit with capital gains tax on either the US or UK side?

Thanks in advance!

My tax advisor has warned me that if I buy a home, I will be subject to capital gains tax even if the home is my primary home (as it's foreigned owned).

So, yes, if you sell you will owe capital gains on the profits no matter if you sell now or years from now.

At least that's what I've been told.  Would love to know if there is a way around it.   

Kfdancer - you just might want to get a new tax adviser because this is simply untrue.

You get to claim the section 121 exemption if you meet the ownership and use tests. Their is no requirement for US situs.

Claiming section 121 also eliminates the usual 3.8% medicare tax on gains.

It does not eliminate the taxability of foreign currency gains on repaying foreign currency mortgages.

Kfdancer - you just might want to get a new tax adviser because this is simply untrue.

You get to claim the section 121 exemption if you meet the ownership and use tests. Their is no requirement for US situs.

Claiming section 121 also eliminates the usual 3.8% medicare tax on gains.

It does not eliminate the taxability of foreign currency gains on repaying foreign currency mortgages.

Thanks. What are the ownership and use tests?  Is there somewhere to get more info on this?

What do you mean does not eliminate taxing the foreign currency gains on repaying foreign currency mortgages?  If the £ gets stronger I would need to pay more taxes?

Kfdancer - you just might want to get a new tax adviser because this is simply untrue.

You get to claim the section 121 exemption if you meet the ownership and use tests. Their is no requirement for US situs.

Claiming section 121 also eliminates the usual 3.8% medicare tax on gains.

It does not eliminate the taxability of foreign currency gains on repaying foreign currency mortgages.

Woohoo!  Best news I've heard all day.  And yes, I am thrilled to be switching tax people this year...  I am not a fan of PWC's personal tax services.

Thanks. What are the ownership and use tests?  Is there somewhere to get more info on this?

What do you mean does not eliminate taxing the foreign currency gains on repaying foreign currency mortgages?  If the £ gets stronger I would need to pay more taxes?

When you sell, you take the date on which you bought the house and convert it into dollars at the rate of exchange on that date. Then you take the date you sell, you convert to dollars at the rate of exchange on the day you sell. That's your gain. So, if you buy at $1.50 and sell at $2, some of the tax you'll be paying will be attributable to the currency gain.  yes, you'd be paying more. Bad news is, you can't deduct if there's a loss, ie, buy at $2 and sell at $1.50.
As for the home improvements - get the irs booklet on 'selling your home'. What applies for a US house applies for a foreign house (primary residence). It'll explain about the 'basis'. Basically that's the taxable value after letting you deduct for various expenses including improvements. But there are detailed rules for this that you should read about. And you have to do the currency conversions for the date(s) you did the improvements.
If the house has been your primary residence for a certain period of time, you can exclude up to $250k of gain - again it's all explained and detailed and as I recall also has scenarios about, or provisions for, living in and then renting (I think that's what Guya is referring to when he says 'use').

That's all true but it does not relate to the gains on foreign currency mortgages. Here's the nub of the problem in nice round numbers:

You take out a loan for £1000 at time A and repay the £1000 at time B. Suppose at time A, the exchange rate is $2 to £1 so that you received $2000 but at time B, the exchange rate is $1.50 to £1 so you pay back $1500. You make a "profit" of $500 on which you are subject to US tax. Definitely crazy but apparently true.

So you all need to be making these calculations as you pay back your mortgage and filing appropriately. When you sell the house, it's a different computation.