The Next Move for Residential Landlords
If you are a buy-to-let landlord, you must be feeling the Government has got it in for you! The Chancellor’s Autumn Statement added an extra 3% stamp duty to the cost of acquiring a property, removed the 10% wear & tear allowance and levied an additional 8% rate of CGT on gains arising from residential property. In addition, in the 2015 summer Budget it was announced that from April 2017 interest charges on property borrowing are to be restricted in calculating taxable rental profit. We highlighted the announcements in our summer Budget landlord special with a follow-up in October 2015. Since the announcement regarding the restriction of interest relief, we have had the Government petitioned by the National Association of Landlords, a failed legal action headed up by Cherie Blair and the Brexit vote delayed HMRC guidance and we now know there is no relaxation of the rules from the initial announcement. As the 6 April 2017, deadline approaches, we thought we should remind you how the restriction will work and its impact, as it is an all or nothing test, which could impact basic rate taxpayers.
Summary of key points:
- Only impacts residential property;
- The change is being phased in over three years;
- All finance costs (not just loan interest) will no longer be an allowable expense when calculating your taxable rental profits. For example, incidental costs of obtaining finance, such as fees and commissions, legal expenses for negotiating drafting loan agreements or valuation fees required to provide security for a loan;
- It impacts all individual landlords, not limited companies;
- The adjustment will give you a basic rate tax deduction after the rental profits have been taxed;
- This deduction will be up to 20% of the finance cost.
The measure is likely to impact all taxpayers who incur finance costs who report rental business, under Self-Assessment and not just higher rate taxpayers.
Who is affected?
The new rules only apply to individuals with a residential property businesses. They do not apply to companies that own residential property.
Other exemptions:
- Commercial property;
- Furnished holiday let businesses;
- Business that buy and sell land and property as a trading business;
- Property development businesses.
How does the restriction work?
Compared to now, where the interest cost is a 100% deduction in calculating your rental profits, from April (although phased in see below), you will only be able to claim 20% of the mortgage costs as a tax reducer (i.e. reducing the tax liability on rental profits).
The change is to be phased in over the next four years, per the timetable below.
Year % of costs deducted from profits % of costs available as a basic rate deduction
2017/18 75% 25%
2018/19 50% 50%
2019/20 25% 75%
2020/21 – 100%
A simple example to show the impact of the changes for a higher rate tax payer, who has one rental property earning an annual income of £15,000 and mortgage interest of £3,000 per annum.
| Tax Year | 2017 | 2018 | 2019 | 2020 | 2021 |
| 25% | 50% | 75% | 100% | ||
| £ | £ | £ | £ | £ | |
| Rental Income | 15,000 | 15,000 | 15,000 | 15,000 | 15,000 |
| Mortgage Interest | -3,000 | 3,000 | 3,000 | 3,000 | 3,000 |
| Mortgage Interest restriction | 750 | 1,500 | 2,250 | 3,000 | |
| Total profit on which tax is payable | 12,000 | 12,750 | 13,500 | 14,250 | 15,000 |
| Tax @ 40% | 4,800 | 5,100 | 5,400 | 5,700 | 6,000 |
| Tax deducted (20% of disallowed interest) | 150 | 300 | 450 | 600 | |
| TOTAL TAX PAYABLE | 4,800 | 4,950 | 5,100 | 5,250 | 5,400 |
Additional cost for a higher rate landlord by 2021 is £600 per annum
Complications for basic rate taxpayers
A basic rate tax payer on the face of it will not pay any more tax under the new rules, but that’s not the whole story. The new rules change the way income is calculated for the restriction to apply. Income is now before the deduction of any mortgage interest.
If you are currently a basic rate taxpayer, you may find that you are become higher rate taxpayer, once the finance costs are disallowed in your rental accounts. Your tax liability depends on your other income and the amount of finance costs that are added back. If you do become a higher rate taxpayer after arriving at your rental profits, you will lose higher rate tax relief on your finance costs.
For basic rate taxpayers this could have some significant impact:
- Paying income tax at 40%, as opposed to 20%
- Capital gains are taxed at 20% (28% for residential property) instead of 10% (18% for residential property).
- Impacts tax credit claims.
- If you or your partner claim child benefit and the change increases your income above £50,000, child benefit can be clawed back under the Higher Income Child Benefit Charge (HICBC).
Planning Consideration/options:
- If you are a basic rate taxpayer, impacted by the change you may be able to reduce your taxable income if you make pension contributions or Gift Aid donations. This could be made after the tax year and carried back.
- Switch to shorter-term fixed rate deals to get lower rates of interest, although these mortgages carry more risk.
- Place your property portfolio in a limited company structure. You would then pay corporation tax (which is lower) rather than income tax on your profits. We highlighted this planning in our October 2015 article, however this needs to be thought through, the change manages the interest restriction, it can however create other complications. Please call us if you wish to consider this option.
- For married couples or civil partnerships, if your spouse pays a lower rate of tax, you could transfer ownership of one or more properties to them (taking care this does not lift them into a higher tax band).
Harbour Key Limited
NOVEMBER 2016
+44 (0) 1452 713277
