This article is written to assist TX-RUS students with taxation issues related to purchases and sales of residential and other personal property as per B4(b), B5(e), (f) and (g) of the TX-RUS syllabus and study guide.
1.1. What is the housing deduction? Which properties qualify for it? What are the limits on its usage?
Tax residents of Russia have the right to reduce their income subject to the base rates of 13% or 15% (qualified income), by the amounts spent on the new construction or the purchase of new residential property (housing deduction).
According to Article 220 of the Russian Tax Code:
The maximum deduction amount is 2,000,000 RR plus interest actually paid in the current year on loan(s) from Russian banks and corporate entities to finance the purchase (construction) of qualified residential property.
The amount of total deductible interest on the above loan(s) is limited to 3,000,000 RR and interest can only be claimed on one residential property (at the taxpayer’s own choice).
Note: Both the above mentioned limits (ie 2,000,000 RR and 3,000,000 RR) will be provided in the tax tables in the exam.
If the taxpayer claims a housing deduction of an amount less than 2,000,000 RR, they can use the remaining deduction portion on another residential property acquisition or construction.
If a taxpayer does not have enough taxable income in the current year to use the housing deduction in full, the unused amount is carried forward to subsequent years until fully utilised.
Example 1
In the current year Artem, a Russian tax resident, purchased an apartment for 4,700,000 RR. Artem has never used the housing deduction before.
He financed this acquisition through a mortgage loan received from a Russian bank. Interest paid on the loan in the current year was 80,000 RR.
Artem’s taxable income qualifying for the housing deduction was 700,000 RR.
The maximum available housing deduction amount is: 2,000,000 RR + 80,000 RR of interest paid on the mortgage loan. (The difference between the apartment’s actual purchase cost of 4,700,000 RR and 2,000,000 RR cannot be further used for tax purposes).
However, since Artem’s qualified taxable income before the deduction in the current year only amounted to 700,000 RR, the actual housing deduction is limited to this amount, and the unused part of the deduction of 1,380,000 RR (2,080,000 RR – 700,000 RR) is carried forward to the next year, and further on until fully utilised.
Moreover, if next year and beyond Artem continues to pay interest on the loan, then this additional interest will reduce his taxable income (which qualifies for housing deduction) until the interest payments stop accruing (within the total limit of 3,000,000 RR).
If Artem had bought an apartment for 1,500,000 RR (not for 4,700,000 RR as stated above), then he would have had the right to use the unused remaining amount of 500,000 RR (2,000,000 RR – 1,500,000 RR) again when purchasing or constructing another residential property.
Please note that Artem would no longer be able to deduct any interest on possible loan(s) taken to finance his next property acquisition(s).
Example 2
Oleg, a Russian tax resident, bought an apartment for 5,000,000 RR in May of the current year. Oleg had never used the housing deduction before.
In order to partially finance this deal, on 31 March of the same year he received a mortgage loan from a Russian bank in the amount of 3,000,000 RR.
Annual interest rate on the loan is at 12%. Loan interest is paid on a quarterly basis starting 1 July (ie on this date the interest accrued for April–June is paid).
Oleg's income qualified for the housing deduction was 620,000 RR.
Housing deduction calculation
The main amount of the deduction is limited to 2,000,000 RR.
Interest paid on loan is equal to 180,493 RR.
Calculation of interest:
3,000,000 * (30 days in April + 31 days in May + 30 days in June + 31 days in July + 31 days in August + 30 days in September)/365 * 12% = 3 000,000 * 183 days/365 days * 12% = 180,493 RR
Please note, that interest for the 4th quarter is not counted as it is paid in the following year.
The total maximum housing deduction: 2,180,493 RR.
The amount which can actually be used in the current year is 620,000 RR (housing deduction cannot exceed qualified taxable income).
Housing deduction for carry forward to the next year: 1,560,493 RR. (2,180,493 – 620,000).
Any interest paid in the future on this mortgage loan will further increase the amount of the deduction up to 3,000,000 RR (the limit on interest deduction).
1.2. What can potentially be added to the housing deduction on the purchase or construction of residential property?
If the purchase of housing is made on the secondary market (ie the house or apartment purchased is not brand new), then the housing deduction (subject to the above restrictions) is provided only for the purchase cost of the property. Payments to agents are ignored for tax purposes.
If an apartment is purchased in a new residential property requiring completion works, or the house is being built by the taxpayer himself (or purchased at the uncompleted construction stage), then the housing deduction (subject to the previously stated restrictions) can be increased by the completion costs.
* All completion costs are available for deductions if the respective purchase contract clearly states that the residential property is not completed.
The deduction in respect of the land cost is given after registration of title to the residential house constructed on this plot of land (within the limits already discussed).
1.3. How do taxpayers get the housing deduction?
The housing deduction can be provided:
Example 3
Let us return to Artem from Example 1. Artem has two options for obtaining a property deduction when purchasing a new apartment.
Option 1: Wait until the end of the current year and in the next year submit a declaration to the tax authorities along with a package of documents confirming the purchase of the apartment and payment of interest on the loan. Tax refunds will be issued by the tax office.
Artem can also use a simplified procedure for obtaining a housing deduction through filing an electronic application for deduction in the official tax reporting system.
Option 2: Immediately after purchasing and registering property rights, Artem can submit a housing deduction notification to the tax authorities, which subsequently will be submitted to the accounting department.
This second option is more beneficial to Artem, since he will receive a refund of all taxes withheld from his income at his place of work since the beginning of the current year and no new PIT will be withheld (up to the amount, shown in the notification).
If the residential property is purchased by a married couple the deduction can be claimed by each spouse within the limit of 2,000,000 RR, irrespective of which spouse paid for the purchase and which spouse gets the property rights to the property. All property purchased by spouses from common income or savings during their marriage constitutes a joint property right (unless a different split of those property rights is stated in their marriage contract).
Example 4 (in the format of an exam question)
All data below relates to the current year.
Igor and Irina are spouses. They are tax residents of Russia and they both work as programmers for the same employer, OOO Crown, and receive an annual salary of 3,200,000 RR each.
The couple purchased a newly built apartment for their family for 3,000,000 RR. The couple have never used the property deduction in respect of a residential property purchase.
According to the purchase agreement the apartment required internal completion works.
The spending on completion works in the current year included:
The services were confirmed by appropriate documents, but documents in respect of materials were lost.
Igor managed to get notification from the tax office for the housing deduction of 2,000,000 RR and submitted them to OOO Crown.
Irina decided to claim the remaining portion of housing deduction through her personal income tax return.
Required:
Calculate the personal income tax (PIT) liabilities of Igor and Irina for the current year and state the amounts withheld by their employer, OOO Crown, and the amounts reported in their PIT return.
Answer:
Irina’s unused amount of property deduction of 800,000 RR (2,000,000 available less 1,000,000 and 200,000 used in the current year) can be carried forward by Irina for future years.
1.4. Is there imputed interest on loans to buy residential property?
Generally, there will be no imputed interest on loans received to buy residential property.
However, imputed interest may arise in case if both of the conditions below are simultaneously met:
Threshold interest rates for personal income tax purposes will be provided in the tax tables in the exam:
*Note: The CB refinancing rate is equal to CB key rate
Imputed income is calculated as the difference between the actual interest rate and the threshold interest rates shown in the table.
Imputed interest is calculated by on the last day of each month (irrespective of payment terms).
Imputed interest is subject to 35% tax rate.
Example 5 (in the format of an exam question)
Igor receives a mortgage loan from his employer of 1,500,000 RR on 1 July in the current year at an interest rate of 4%, payable by the third day after the month end. Igor has already claimed the property deduction in its full amount on earlier property acquisition.
Notional Central Bank refinancing and key rates:
1 May to 30 September: 7%
1 October to 31 December: 5%
Required:
Calculate the personal income tax (PIT) resulting from the imputed interest on this loan; briefly stating why imputed interest arises.
Answer
Imputed interest will arise for the following two reasons:
Imputed interest calculation
2.1. Who pays the tax?
The first thing to remember about property sales is that income from property sales is not taxed at source (ie no PIT withholding on property sales is performed at source). This means that when selling any property, a Russian tax resident will receive the full sales amount, which generally has to be declared in their tax declaration by 30 April of the following year. PIT is due for payment by 15 July of the following year.
Example 6
Olga's annual gross salary at work is 600,000 RR.
In the current year, Olga also sold an apartment with a taxable gain of 400,000 RR. (Personal deductions are ignored for simplicity).
OIga’s tax liability calculation:
2.2. How is personal property classified for PIT purposes?
When selling personal property, it is necessary to determine which group it belongs to for taxation purposes:
(Please note, that although the Tax Code of the Russian Federation does not formally operate with the concepts of the first and second group of property, these groups are introduced in this article to facilitate your understanding of this complex material).
2.3. What is a property holding period and why it is important for tax?
It is crucially important to establish the length of period during which the property was owned by a taxpayer (the holding period).
If the holding period is five years or more, then no taxable income arises on sale, as a property deduction is provided in the amount of proceeds from the sale.
The five-year rule is applicable for:
There are also some important exceptions to the five-year rule, which will be explained later in the section 2.6. of this article.
Example 7
In the current year, Vadim sold his apartment for 5,000,000 RR. The apartment was purchased six years ago for 1,500,000 RR.
The correct presentation of your answer follows:
As for other types of property (movable property of the second group like cars), the minimum holding period for tax-free sale is three years.
2.4. Property deductions on sales of personal property
If the property holding period is less than the relevant five or three years, the taxpayer will have to choose one of the two available options for property deductions:
The above deduction limits will be provided in the tax tables in the exam.
Important!
Example 8
In the current year, Vova sold:
First property group (apartment)
This is more beneficial for Vova to choose a deduction in the amount of the purchase price of the apartment of 1,100,000 RR (2,200,000 * 50%), since it is larger than the fixed deduction – 500,000 RR (1,000,000 * 50%).
Second property group (car and garage)
Since at the time of sale the car had been owned by Vova for more than three years, the tax deduction will be equal to gross income received.
Holding period for the garage is less than five years, thus, sale is taxable. The garage purchase cost was 150,000 RR. It is less than the fixed deduction for this group of property (250,000 RR), so it is better to use 250,000 roubles as a deduction.
Final calculation
2.5. How is the sales income determined for PIT purposes?
Generally, income for tax purposes will be recognised as gross sales revenue. No agents’ commissions or similar costs can be deducted. For example, if Anton sells his car for 450,000 RR and pays 50,000 RR as commission to a trader, then his taxable income (before deductions) will be 450,000 RR, ie commission is ignored.
A special rule is established for real estate objects only.
The Tax Code states that taxable sales income cannot be less than 70% of the cadastral value of the sold real estate object. This value is defined as of 1 January of the year in which the sale takes place.
Example 9
In the current year, Vova Ponchikov sold:
The cadastral value of an apartment as at 1 January of the current year was 5,000,000 RR.
Income subject to tax (before deduction) is 3,500,000 RR.
It is the maximum of two amounts:
2.6. What additional special rules exist with regard to the five-year immovable property holding period for tax-free sales?
In some cases the five-year holding period may be reduced to three years.
There are three exceptions to the five-year rule which may be tested in the exam:
The old residence sold will be considered as the only one, even if at the time of its sale there is already a second (new) home purchased no earlier than 90 days before the date of sale of the old home. For example, if Anton buys a new apartment in January, and sells his only old apartment in March, then a three-year holding period can be used.
If the old residence is a house, then the three-year period also applies to the land on which it stands.
Example 10 (in the format of an exam question)
All data relates to the current year.
Marina sold a room for 3,000,000 RR. Room’s purchase cost was 2,200,000. Ownership term is three and a half years. The room, which was sold, was her only residential property at the time of the sale.
She also sold a movable garage for 300,000 RR. Marina purchased the garage four years ago for 120,000 RR.
Finally, she sold a plot of agricultural land for 1,200,000 RR. Its cadastral value as at 1 January was 2,000,000 RR. The plot of land was received as a gift from her brother two years ago.
Required:
Calculate the personal income tax (PIT) of Marina resulting from the above sales.
Answer:
3.1. Sales of property received as an inheritance.
Inheritance income is generally exempt from PIT. The few exceptions to this rule will not be tested in the exam.
If a taxpayer receives property as inheritance and subsequently sells it, he may deduct the property purchase cost, incurred by the person from whom this property was received.
The above-mentioned costs must be proven by documentary evidence.
Complex cases when housing deduction was previously claimed on the inherited property will not be tested in the exam.
3.2. Sales of property received as a gift.
Any gifts received from close relatives are exempt from PIT.
If a taxpayer receives property as a gift from a close relative and subsequently sells it, he may deduct property purchase cost, incurred by the person from whom this property was received.
The above-mentioned costs must have documentary proof.
The holding period for tax free sales in this case is three years.
Gifts received which are not from close relatives are subject to PIT if the property received requires state registration. In the case of immovable property PIT is assessed on the cadastral value of the property received.
If an individual subsequently sells such a gift, he may deduct the cadastral value on which PIT was paid.
The holding period for tax free sales in this case is five years.
Written by a member of the TX-RUS examining team