The real estate: what taxes are payable by individuals

Real estate buy and sale

For most owners of real estate selling their property is not an everyday transaction. On the contrary, it is usually a very important decision that requires a number of actions that are rarely encountered in everyday life, and therefore a wide range of emotions are often experienced during this process. Even from the perspective of the time taken, it is usually by no means a short or straightforward process. The property itself has to be valued, a motivated buyer has to be found, the legal side of the transaction has to be sorted out, and, very importantly, the state has to pay fees and quite possibly taxes.

Please note that the purpose of this article is to address the relevant tax considerations for real estate transactions directly to individuals who are not engaged in an economic activity related to real estate. That is to say, people who own one or more immovable property which is used by the owner for his/her own purposes, such as day-to-day living or spending summers there, as well as for other purposes which are not considered to be business activities.

To underline the main point, for individuals in Latvia, tax is payable on the sale of a property if the property is sold for a higher price than it was purchased (or otherwise acquired), taking into account the investment made in the property. The tax payable is personal income tax (“PIT”) on capital gains. Read below about how the tax is calculated, how it is paid, the exemptions and other important details to know when planning the sale of a property you own. If you would like to know about the taxation of transactions between legal persons, please see here.

Determining the income subject to PIT

 The Latvian Personal Income Tax Act (hereinafter – PIT Act) states that income (profit) from the sale of immovable property is calculated as a capital gain and taxed at 20%.

Capital gains is determined according to the following formula:

Sales value of real estate – Acquisition value of real estate- Total investment in real estate

It is important to note that expenditure on investments in real estate needs to be supported by transaction documents such as delivery notes, invoices, cheques and payment orders in order to be eligible to be included in a capital gains calculation. In the past, the practice of the State Revenue Service (hereinafter- SRS) was indeed to recognise only expenditures for which invoices, delivery notes and supporting documents for payment were available. However, current case law provides that if the taxable person is able to provide reliable evidence of the expenditure, for example, estimates, photographs, valuations, and alternative documents may also be considered evidence of the expenditure. Such evidence must, inter alia, specify the amount for which the investment has been made and confirm that the payment has actually been made, otherwise, there is a strong likelihood that the tax authorities will not allow the expenditure to be included in the calculation of capital gains.

In practice, there are often cases where the seller does not know the value of the property he is selling because he did not buy it, but, for example, received it as a gift or inheritance. In such cases, where the owner of the real estate does not have information and supporting documents on the acquisition value of the real estate available to calculate the income from the sale of the real estate, the acquisition value of the real estate is determined as follows:

• Real estate was acquired before 31 December 2000 and the individual does not have documents available to prove the value of the property. In this case, the acquisition value shall be the cadastral value of the property in the year of disposal, adjusted by the consumer price index for the last 10 years preceding the disposal of the property. However, if after 31 December 2000, the cadastral value of the property as at 1 January of the year of acquisition of the property by gift or inheritance shall be considered as its acquisition value.
• The value of inherited or gifted real estate shall be determined on the basis of the value indicated in the mass of inheritance or in the gift agreement, which shall not exceed the disposal value of the real estate. If the value of the real estate is not specified in the inheritance mass or the gift agreement, the cadastral value of the immovable property in the year of disposal shall be taken as the value of the real estate, depending on the period in which it was acquired.
• Created real estate, If the real estate was created with the aim of occupation and it was created as from 1 January 2001 and no documentation is available on the expenditure relating to the real estate, the acquisition value shall be the cadastral value of the real estate in the year in which it was put into use.
• In the event that the property is divided into several Real Estate’s and sold separately, the acquisition value shall be determined from the total acquisition value of the property according to the area of each separated property. When selling this type of property, the cost of the separation of the property may be included in the acquisition value.
• For real estate acquired on the basis of a restoration of ownership, the acquisition value is the current cadastral value of the property.
• If the real estate is invested in exchange for shares, the income is determined as the difference between the nominal value of the shares acquired in exchange and the residual value of the real estate.
• In a property swap, as in a sale, income is determined by deducting the acquisition value of the property from its disposal value, taking into account any premium received. The price of the real estate bought in an exchange transaction is deemed to be the value specified in the exchange contract. If the exchange contract does not specify the value of the property exchanged, it has to be determined on the basis of the current cadastral value of the property in the year in which the exchange takes place.

Among other things, we would like to clarify that a person who has made a sale of real estate may reduce the taxable income (capital gain) by including in the buy value the expenses related to the acquisition, such as stamp duties paid, commissions, etc.

Given that most persons are forced to buy their real estate through an external financier, it is important to note that the acquisition value of the real estate also includes interest paid on the loan used to acquire the real estate, if documentary evidence allows the relationship between the loan and the real estate buy to be identified.

Exemptions

If certain conditions are met, income from the sale of real estate is not taxed, even though capital gains are generated. In particular, the provisions of the Latvian PIT Act provide that income (capital gains) is not subject to income tax in the following cases:

• If the natural person sells a property that has been owned for at least 5 years and has been the natural person’s declared place of residence for at least 12 months in a five-year period. If the property has been inherited by contractual, legal or testamentary succession, bound by marriage or kinship up to the third degree, the date on which it is registered in the Land Register shall be taken as the date of ownership of the property by the taxpayer;
  1. a natural person residing in Latvia who has been residing outside Latvia for more than 6 months and has notified the relevant authority of his/her residence abroad. If the person has been declared in the property for at least 12 months in any period of five years prior to the conclusion of the alienation agreement, the income from the alienation of the property is not taxable;
• If the relevant real estate is registered in the Land Register as the sole real estate of the natural person and the income is reinvested in a functionally similar immovable property within 12 months after the alienation of the immovable property or before the alienation of the immovable property. However, if only part of the income received is invested in a functionally similar property, the tax is reduced proportionally by the part of the income that was invested in the new functionally similar property;
• Income from the alienation of immovable property which has been owned by a natural person (from the date of registration of the immovable property in the Land Register) for more than 5 years and has been the sole immovable property of the natural person for the last 60 months until the date of alienation of the immovable property shall not be subject to tax.
• Income arising in connection with the division of property in the event of divorce, if it has been the declared residence of both spouses until the date of conclusion of the contract of alienation.

Based on our experience, as far as the ownership of real estate is concerned, some apartment buildings in Latvia are not divided into separate apartment properties. Thus, the entire apartment building has one cadastral number, designation and the land register shows all apartments as a single property. In such cases, the provisions explaining the provisions of the personal income tax specifically provide that when disposing of a multi-apartment property owned by a person for more than 5 years, the part where the person has been declared for at least 12 months is not taxed. Although the legal provisions do not specifically provide for an analogous limitation of the exemption for exemption 3), based on the principle of legal analogy, we also consider that apartment buildings should similarly be exempted when a person’s only real estate owned for more than 5 years is sold.

Please note that the application of the above exemptions is assessed by the SRS on the basis of the information available to it in the Land Register. Therefore, it is vital to register the ownership rights in the Land Register in due time.

Tax point

The determination of the date on which income is earned is important for the correct calculation of tax. The date of receipt of income in transactions involving the sale of real estate is the date on which the taxpayer receives cash or other consideration from the sale of the RE. The date of conclusion of the contract or the date on which the title is registered in the Land Register has no bearing on the date of receipt of income.

However, if the income from the disposal of the immovable property is received in several periods, the expenses related to the acquisition of the immovable property shall be included in the calculation of the taxable income from the disposal of the immovable property in proportion to the share of the proceeds. For example, if for the acquisition of a property, the parties have agreed that payment will be made in 2 instalments, 1 in this year and the other in the following year, then the tax is payable twice and on each occasion, the expenditure may be applied in proportion to the actual proceeds in calculating the capital gain.

Tax filing and paying your tax for real estate

If a capital gain is generated from the sale of immovable property, individuals are required to submit a capital gains return to the SRS based on the amount of income earned in the quarter (or year).

In case the total income of a natural person, resident in Latvia, exceeds EUR 1 000, the declaration must be submitted quarterly by the 15th day of the quarter following the quarter in which the taxpayer received the capital gains income.

However, in the case of income not exceeding EUR 1 000, the return must be submitted by 15 January of the following year.

The tax return must be submitted to the electronic declaration system of the SRS. If the income from the sale of immovable property is not taxable, no return is required, but if the income exceeds EUR 10 000, it must be declared as tax-free income in the annual income tax return.

It is possible to update the return within three years after the statutory deadline if no tax audit has been opened or carried out in respect of the taxes and tax periods concerned.

The amount of the tax assessed must be paid into the single tax account no later than the 23rd of the month in which the return is submitted. Failure to comply with the deadline shall be subject to a late payment penalty of 0,05 % of the outstanding amount for each day of late payment.

Tax aspects for non-residents selling real estate

According to the provisions of the PIT Act, a foreign taxpayer (non-resident) as a natural person is taxed on income from the sale of immovable property if it is income from immovable property in Latvia. It applies regardless of the period during which the real estate was owned by the non-resident, except for residents of EU Member States or countries of the European Economic Area. Non-residents, are subject to a 20% rate on capital gains income from the sale of property.

It is important to note that if the non-resident is a resident of a country with which Latvia is bound by a tax treaty (treaty on double taxation and prevention of tax evasion) and its provisions provide for different tax treatment, the non-resident has the right to apply the tax treaty treatment. However, as a matter of practice, income from the sale of real estate in Latvia will almost certainly be taxable in Latvia.

If a non-resident derives income from the sale of real estate to a natural person who is not an economic activity performer, the non-resident shall calculate and submit to the SRS a return on income from the capital by the 15th day of the month following the month in which the income was derived, just like a resident.

In situations where the real estate is acquired by – Latvian registered entrepreneurs, cooperative societies, permanent establishments of non-residents (foreign entrepreneurs), etc. – residents who are registered as economic activity performers, the current regulation provides for the possibility of withholding tax from the non-resident’s income from the disposal of capital assets at the rate of 3%. However, the provisions of the PIT Act provide that even in such a case the non-resident is entitled to apply the standard procedure for determining capital gains, subject to a 20% tax, if he/she concludes that this is more advantageous for him/her. Explaining in more detail, it should be clarified that if the payer of the income, who is obliged to withhold tax at the time of payment, applies withholding tax but the tax payable on the capital gain is less than the tax paid, the non-resident is entitled to file an annual income tax return and recover the tax withheld.

Proceeds from the disposal of personal property

Another important nuance in real estate transactions is the sale of personal property. In Latvia, the sale of personal property (furniture, household appliances, etc.) by individuals is not subject to tax on the proceeds, unless it corresponds to one of the following activities:

• Transactions are carried out on a regular and systematic basis, reaching 3 or more transactions per year or 5 or more transactions over a three-year period;
• The income generated is more than EUR 14 229, excluding income from the sale of personal property;
• The number of items in the property indicates the existence of an economic activity with a view to obtaining remuneration;
• The economic nature of the activity or the amount of the personal property indicates a systematic activity with a view to obtaining remuneration.

Often in practice, personal belongings are included in the price of the real estate, but it is always possible to structure the transaction so that personal belongings are sold separately from the real estate. This allows the seller to reduce capital gains and pay less tax.

An individual is obliged to declare tax-free income by submitting an annual income tax return if it exceeds EUR 10 000.

Land Book duty

It should not be forgotten that in Latvia land registry fees are payable for the registration of property rights and other rights in the Land Register. In particular, when purchasing real estate, it is a mandatory requirement under the Latvian Real Estate Tax Law to register your ownership rights in the Land Register. Relevant legislation stipulates that for registration of property rights natural persons must pay a state fee of 1.5% of the transaction amount. Since 1 January 2022, the maximum amount of the fee for a natural person to secure the right of ownership is EUR 50 000, if:

• Acquired by contract or gift;
• in the event of an auction of the property on the basis of a court decision.

Rates for securing ownership of real estate may vary from case to case:

• For the registration of ownership rights in the Land Register for persons up to the third degree of kinship, an interest rate of 0.5% of the value of the property is applied for each real estate;
• For the disposal of immovable property on the basis of a donation agreement -3%;
• For persons who have acquired the immovable property using the state assistance for the purchase or construction of the property, the state fee is 0.5% if the value of the property does not exceed EUR 100 000 and EUR 500+1.5% if the value of the property exceeds EUR 100 000,

Conclusions on real estate buy and sale in Latvia

In summary, we would like to clarify that the application of the personal income tax to income from the disposal of immovable property, or capital gains, is not a topic where there is confusion or a lack of literature. There are a number of rulings of the Supreme Court of Latvia as well as a large number of publications. Moreover, the legislative framework itself is relatively clear and compact. And yet, from time to time, questions arise which require in-depth analysis.

In addition, we note that transactions with real estate can be very diverse in nature and legal aspects, and the nuances of how the tax payable is calculated or the tax exemption applied vary from situation to situation, so it is vital to familiarise oneself with and understand the statutory requirements and nuances before undertaking a RE alienation transaction. Also, in practice, there are situations for which the provisions of the law do not provide a clear answer, so it is possible for each person to obtain tax ruling from the SRS on their rights in a particular situation. The binding ruling would not only provide answers to the taxpayer’s situation, but also work as an additional security. In other words, if the addressee of the ruling, or the person to whom the ruling is given, has acted in accordance with the ruling issued, then the administrative act subsequently issued by the authority relating to the matter on which the advice was given cannot be more unfavourable to the addressee – this follows from the Law on Administrative Procedure regarding the legal consequences of the advice for the authority. Thus, a tax ruling issued by the SRS is binding on the SRS itself regardless of the functions performed by the SRS inspector, including the tax auditor. It should be remembered that the SRS’s ruling is binding only on the addressee.

Among other things, the SRS has developed a methodological material which not only describes the requirements set out in the legal provisions, but also discusses various examples. The guidance material can be found here: https://www.vid.gov.lv/sites/default/files/1metodiskais_m_iin_no_nekustama_ipasuma_atsavinasanas_ienakuma_1-1_0504.pdf

In any case, we remind you that individuals should regularly keep track of their tax payments, as they are responsible for declaring and paying their taxes correctly, and a misunderstanding of tax regulations or certain legal provisions is often the reason why the SRS launches inspections, which can result in hefty fines, late payment penalties and headaches.