The below is a quick overview of the key tax issues that landlords and property investors need to be aware of, from the desk of our partner Barry Chernoff.
As a landlord or property investor you must consider tax liabilities at the various phases of owning and renting a property, from purchasing, letting and on sale.
Allowable expenses for tax
HMRC considers any costs that are essential to performing your duties as a landlord or maintaining the property to be “allowable expenses”. By offsetting these expenses against your rental income it will reduce your potential tax liability.
Allowable expenses would include, among other things:
- Letting/Management fees
- Mortgage interest (see below for recent changes)
- Buildings insurance
- Professional/legal fees
- Travel costs to collect rent
However, please always be aware of what is deemed to be the distinction between a capital expense (generally building improvements) and a revenue expense.
Revenue expenses relate to the day-to-day running and maintenance of the property and can be offset in the year they fall against your rental income.
Capital expenditure is not a tax deductible expense against rental income, however, you may be able to offset these costs against any capital gains on the disposal of the property.
Reductions in Mortgage Interest Relief
Your income from investment property may be substantially affected by the reduction in tax relief available for finance charges.
From 6 April 2020 landlords affected will no longer be able to deduct any of their finance costs from their property income. This could potentially push you into a higher tax band and trigger losses of other benefits and allowances. It will also increase your tax bill as basic rate tax relief on finance charges will be given as a credit against your tax liability.
New measures will gradually restrict your tax relief to the basic rate of income tax.
|2017-18||Higher Rate Deductions restricted to 75%|
|2018-19||Higher Rate Deductions restricted to 50%|
|2019-20||Higher Rate Deductions restricted to 25%|
|2020-21||Higher Rate Deductions abolished 0%|
What this could mean – an example
Let’s say that your only income for 2015-16 was £120,000 from rents received before deductions for mortgage interest of £80,000.
Your income tax liability would have been £5,880.
Recalculated with the tax relief as it will be in 2020 your tax bill would increase to £25,043. Plus – your income would be calculated as being much higher from the same rents!
Capital Gains Tax
When it comes to selling your rental property you will probably be liable for capital gains tax on any gain made. Basic rate taxpayers pay capital gains tax at 18%, which increases to 28% for those paying tax at the higher rate. It is advisable to obtain specialist advice to potentially assist with minimising any potential liability.
There are a number of ways to reduce the capital gains tax (CGT) liability, one of which is to utilise the annual tax-free allowance that each individual is entitled to claim. The allowance is £11,100 in the 2016/17 tax year (£11,300 in 2017/18). Therefore no CGT will be chargeable on the first £11,100 of the gain (assuming this annual exemption has not already been used).
Like income tax, you can offset some expenses against the CGT bill:
- Solicitors and estate agent fees on the sale of the property;
- Initial legal costs and stamp duty on the purchase of the property;
- Capital expenditure such as major improvements as mentioned above
You do not pay CGT on your main residence, this is known as private residence relief. Also if you have, at some point, lived in the property which you have then rented out and sold there are further potential deductions that can be made against the gain to reduce the tax bill.
There are a number of other possible deductions from CGT and this is certainly an area we recommend you obtain professional advice, please see the contact details below in order to do this.
Should I run my buy-to-let business through a limited company?
There are clear advantages as companies are not affected by the reduction of tax relief for finance costs. If you can afford to retain profits in the company the only tax payable is corporation tax.
Potential downsides include increased costs to administer the company and exposure to personal tax and stamp duty. You would need to thoroughly examine the tax risks and strategies open to you.
Therefore before proceeding, we strongly recommend you take personal advice from us – we have specific experience in this area.
Additional Stamp Duty of 3%
Since April 2016 an additional Stamp Duty charge on additional residential properties is made. If you buy a second property on top of your main residence, then the charge will be payable. The only exception is if the property is replacing your main home.
|Band||Standard Rate||Adjusted Rate|
|Up to £125,000||0%||3%|
|£125,001 – £250,000||2%||5%|
|£250,001 – £925,000||5%||8%|
|£925,001 – £1.5m||10%||13%|
Replacement of Domestic Items Relief
The 10% ‘Wear and Tear Allowance’ on letting income was abolished on the 5th of April 2016. This has been replaced with a ‘Replacement of Domestic Items’ relief applied based on your renewal of furnishings for the tenants use.
All Landlords of residential property can now claim a deduction for expenditure on…
- Existing item provided for the tenants use.
- Replacements only, on a like for like basis.
- Initial expenditure is not included.
- No distinction is now drawn between furnished and unfurnished properties.
- movable furniture or furnishings, such as beds,
- fridges and freezers,
- carpets and floor coverings,
- crockery or cutlery.
Fixtures such as baths, fitted kitchen units and boilers, that are not normally removed by the owner when the property is sold are not included. This is because the replacement cost is already a deductible expense as a property repair.
There are a number of ways to plan ahead when it comes to potential future tax liabilities, both for the letting income received and any gain on a sale.