Buy-to-let property investments
Whether you have a single property or large portfolio, with direct ownership the tax treatment is generally the same. The following are the main taxes that affect buy-to-lets.
Any rental income after most expenses will be charged to Income Tax at your marginal rate. With the rate of Income Tax as high as 45 per cent, you should aim to ensure that all personal allowances and lower rate bands of tax are used in full.
Any losses arising from the rented property have to be carried forward and offset against any future profits arising from your rental business and cannot be offset against other income.
Ownership structure is important. It is possible to own property jointly or in partnership with other family members. This means that income can be shared to minimise tax rates.
As a buy-to-let landlord, many of the expenses incurred in the course of letting your property are allowable for tax purposes. You are also able to deduct the costs incurred in purchasing replacement furnishings, including white goods, when calculating your taxable profit.
As part of an ongoing clampdown on the buy-to-let market, from 6 April 2017 relief for finance costs incurred on residential properties such as interest and mortgage costs, has been restricted to the basic rate of Income Tax of 20 per cent. The restriction was phased in over four years, with the full interest restriction taking effect from 6 April 2020.
These changes will not apply to furnished holiday lets, or where the property is owned by a company rather than an individual, and finance costs will be allowable in full.
The sale of a residential investment property is usually charged to Capital Gains Tax (CGT) at 18 or 28 per cent. CGT rates on the sale of assets were reduced to 10 or 20 per cent but these rates do not apply to residential property. Each person is entitled to an annual exemption, which for 2022/23 is £12,300.
Qualifying for Business Asset Disposal Relief (formerly known as Entrepreneurs’ Relief) by making the property a business asset can secure a lower 10 per cent rate of tax on a capital gain. This usually only applies to furnished holiday lets, or very large property portfolios. HMRC has to be satisfied that you are genuinely running a trading business rather than simply collecting rents for this to apply.
Following rules introduced with effect from 6 April 2020 it is now necessary to report capital gains, and pay any tax due, made on residential property within 30 days of any property sale completing. For residential property sales completing on or after 27 October 2021, the deadline for submission and payment has been extended to 60 days following completion.
Inheritance Tax (IHT) reliefs on investment property are limited. However, there are some simple steps which may help reduce the tax burden. IHT is charged on assets in your estate at 40 per cent over and above the nil rate band, currently £325,000. This band has not kept pace with inflation or the increase in property prices, so many people find that there are hefty tax bills arising on death.
An additional nil rate band of £175,000 was phased in from April 2017. This only applies to properties that have been your main residence at some point and which are left to one or more direct descendants on death.
One way of reducing IHT is minimising the value of property in your estate. To work properly, not only does this mean gifting the capital asset, but also the entitlement to any income generated. Any gift of property you make will fall out of your estate for IHT purposes provided you survive for seven years from the date of the gift. Reduced rates can apply from four years.
It is important to note that CGT charges can arise to the donor on the gift, other than on gifts between spouses and civil partners.
Landlord tax on furnished holiday lets
Furnished holiday lets, can be treated as business assets and attract some preferential tax reliefs. The property must meet specific criteria in order to qualify. Essentially they must be let on a commercial basis, for example the property must be:
- available for letting for at least 210 days of the year
- actually let for at least 105 days
Continuous periods of over 31 days are excluded.
Most of the Income Tax benefits have been removed from furnished holiday lettings in recent years, and they are now charged to income tax in much the same way as other rental property. As mentioned above, the loan interest relief restrictions do not apply for furnished holiday let businesses.
Capital Gains Tax and Inheritance Tax
Significant CGT and IHT savings can be made if the furnished holiday let conditions are met. The property could qualify as a business asset for Business Asset Disposal Relief (formerly Entrepreneurs’ Relief), meaning any capital gain on sale would be taxed at a reduced rate of 10 per cent, rather than 28 per cent.
Qualifying as a business asset also has benefits for IHT. Business assets may qualify for 100 per cent Business Relief (formerly known as Business Property Relief or BPR) which means that no liability to IHT arises on the property. This also applies to lifetime gifts of these assets—the property could be settled on a discretionary trust to be protected for future generations with no charge to IHT.
The income could then be used as a tax efficient way of paying grandchildren’s school fees. The transfer can generate a charge to CGT, but in these circumstances, any gain can be held over until the eventual sale.
It should be noted that it has become more difficult for holiday letting businesses to qualify for Business Relief. HMRC is paying closer attention to the services that are provided to establish whether a genuine business is being run and several cases have lost in the courts. The more additional facilities and services that can be provided; over and above those which would be expected of a landlord, the better the chances of a successful claim.
Ownership structure of your property investments
There are various ways to structure ownership of your property investments to mitigate your tax liability. The main ones are:
- direct ownership
- joint venture
- limited company
The tax position for direct ownership, joint ventures and partnerships is very similar. In each case, profits are taxed at your marginal rate and capital gains charged on sale. The difference with a partnership is that there is the opportunity to utilise the personal allowances and lower rate bands of all partners, who can be other family members.
Holding property within a limited company can help to save tax as the rate of corporation tax is currently 19 per cent. From 1 April 2023, the corporation tax rate is expected to increase to 25 percent—the rate will remain at 19 per cent for companies with profits not exceeding £50,000, with marginal relief available on profits between £50,000 and £250,000.
Whether this is beneficial largely depends on whether the income needs to then be drawn out of the company. If this is the case, there is likely to be a double tax charge, removing the saving.
As with partnerships, it is possible to bring other lower earning family members in as shareholders. These arrangements are commonly known as family investment companies. Provided the shareholdings are structured correctly, dividends can be paid to utilise the dividend allowance and lower rate tax bands of the shareholders and extract profits efficiently.
This can often assist families with the funding of university fees, or first homes for young adult children. There can also be significant IHT savings as the value of property or capital invested in the company is passed to other family members when they become shareholders in the company.
A double tax charge can also arise when properties are sold, as the gain is charged within the company and then tax may be due on the distribution to shareholders. This type of structure is not always beneficial for those requiring an income stream which would be taxed at higher rates or with the prospect of an impending sale.
Company ownership can be advantageous for the most part where it is not necessary to extract all the profits. If profits and gains are to be retained for investment, or to be protected for future generations, then they can be an extremely tax efficient way of owning property. This also depends on whether the property owned is a higher value residential property (see below).
This guide covers everything you need to know about how much Stamp Duty or Land Tax you could have to pay on your next home.
Higher value residential property
Annual charges apply on high value residential property, owned by a non-natural person, which includes companies. These charges, which apply to properties valued at over £500,000, start at a rate of £3,800 per year in 2022/23 and are intended to encourage investors to de-envelope and bring the property back into the ordinary SDLT regime.
To discourage enveloping further, the rate of SDLT for properties worth over £500,000 bought by a non-natural person was set at 15 per cent. Many exemptions are available against these additional charges including those properties let out commercially but the exemptions must be claimed.
The Annual Tax on Enveloped Dwellings (ATED) rates from 1 April 2022 to 31 March 2023 are outlined below.
|Residential property value||2022/23|
|£500,000 –£1 million||£3,800|
|£1 – £2 million||£7,700|
|£2 – £5 million||£26,050|
|£5 – £10 million||£60,900|
|£10 – £20 million||£122,250|
|Above £20 million||£244,750|
To better understand your tax position and what options are available to you, or for further information on how we can help you make the most of your property investments, contact Mark Stemp, Partner, Private Clients at Crowe: [email protected] or visit our website.
The Let Property Campaign gives landlords the opportunity to bring their tax affairs up to date and to get the best possible terms to pay the tax owed. HMRC also offer an online training course and webinars to help landlords with their tax requirements.
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