Tax Changes

In 2015 former Chancellor George Osborne announced plans that would mean landlords will have to pay tax on turnover, rather than on the difference between rental income and mortgage interest. He reasoned that increasing taxation on the income from buy-to-let would discourage landlords from buying up more properties, thus enabling first time buyers to get a foot on the property ladder. The rationale also followed that shifting the tax burden to landlords would encourage institutional investors like build to rent, which could play a crucial role in solving the housing crisis, improving the quality of housing and financing more development.

So, what are the main changes that landlords need to be aware of and is there anything they can do to protect themselves?

Buy-to-let tax relief on mortgage interest payments

47% of landlords who took part in the aforementioned poll said that the reduction of buy-to-let tax relief on mortgage interest payments is their biggest concern. Up to now, people buying to let have been able to claim tax relief on their mortgage interest payments at their marginal rate of tax. So a basic rate taxpayer would get 20 per cent tax relief, but those at a higher rate would receive 40 per cent while top rate taxpayers could claim 45 per cent. Between 2017 and 2020 this system will be replaced and all landlords will pay tax on the full amount less tax relief fixed at 20 per cent.

The changes to tax relief will be phased in from April this year, so by 2020 landlords will be taxed on their income, which could push some into a higher rate tax bracket. Mortgaged landlords paying 40 or 45 percent tax and some basic-rate taxpayers too, will be paying much more in tax as the changes are rolled out. Eddie Hooker, CEO of Hamilton Fraser’s Total Landlord Insurance, estimates that about half a million landlords will be affected in this way.

What can you do to mitigate the damage?

Many landlords will remain unaffected by the changes, as evidenced by a poll of landlords conducted by the Council of Mortgage Lenders, which found that half owned their properties outright.

However, if you think you will be affected, we advise that you engage the services of a tax expert who is fully versed in property tax laws to help you plan your tax affairs. The short-term cost is likely to be offset by long-term gain.

Hiking your rents up to compensate is unlikely to work as most tenants are already paying as much as they can afford. Other things you could try include:

  1. Switching to shorter-term fixed rate deals to get lower rates of interest, although these mortgages carry more risk.
  2. Placing your property portfolio in a limited company structure. You would then pay corporation tax (which is lower) rather than income tax on your profits. Full mortgage interest relief is still available for property within a limited company structure. About 100,000 more landlords are going down this route now than they were a year ago. A drawback is that your mortgage options will narrow as fewer providers will lend to a company.
  3. 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).

The treasury has inevitably come under pressure from landlords to make a U-turn on these changes, but it is estimated that the government will earn £665 million in the tax years 2020-21 from this, a significant economic gain, so the sooner you identify the impact on your personal tax liabilities, the better.

Rise in stamp duty April 2016

Reeling from Chancellor George Osborne’s announcement to cut mortgage interest tax relief in the July 2015 summer budget, the subsequent announcement of a stamp duty surcharge of three percentage points for landlords purchasing buy-to-let was both unexpected and unwelcome. There was an inevitable surge in completions before the surcharge came into force in April 2016.

Currently, there is no stamp duty to pay on £125,000. Buyers who are going to live in the property then pay:

  • 2 percent on the portion of sales price between £125,001 and £250,000
  • 5 per cent between £250,001 and £925,000
  • 10 per cent between £925,001 and £1.5m
  • 12 per cent on anything above £1.5m.

The rates for landlords (and anyone buying a second home) are now 3 per cent on the portion of the property up to £125,000, then 5 per cent, 8 per cent, 13 per cent and 15 per cent respectively for the price tiers.

This recent rise in stamp duty combined with the impending reduction in tax relief on mortgage interest payments means that many landlords are having to pay significantly more to acquire property whilst also experiencing a substantial loss of income on their rents.

Abolishment of wear and tear allowance

Wear and tear allowance was replaced by a new system from April 2016. The past wear and tear allowance allowed landlords to deduct broadly 10 per cent of their rental income in calculating taxable profit to allow for wear and tear. This allowance has now been replaced by a system allowing landlords of residential property to deduct only the actual costs incurred on replacing furnishings in the tax year i.e. the cost of replacing the furnishings but not the initial costs
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It is more important than ever to make rigorous inventory controls and systems, to ensure claims will stand up to HMRC scrutiny. As the new system came into force in April 2016, it will affect the 2016/17 tax year, of which tax returns can be completed from 6th April 2017 up until the tax deadline of 31st January 2018.

Changes to capital gains tax

Buy-to-let landlords have also been denied a tax break on their property profits as Chancellor Osborne excluded them from a big capital gains cut. George Osborne announced in last year’s budget that he is significantly cutting the rate of tax paid on capital gains, but not for investors who are selling property. Although the basic rate of capital gains tax dropped to 10 per cent in 2016, landlords will continue to be stung with a hefty 28 per cent capital gains tax bill when they sell up if they are in the higher tax band, or 18 per cent if they are in the basic income band.

In addition, sellers currently have up to 21 months to pay this when they sell a property but from 1 April 2019 this will be reduced to within 30 days. The idea was to encourage landlords to free up their portfolios. But what is actually happening is that landlords are selling to other landlords.

Faced with all these tax liabilities, proper tax planning is going to be worth its weight in gold. If you are an existing landlord now would be a good time to revisit your tax affairs, check whether your circumstances have changed and give your portfolio a thorough MOT.

If you would like to chat through any of the issues raised in this article please feel free to contact Lee Bilbrough – lee@hayfieldrobinson.co.uk – who will be more than happy to help and/or point you in the right direction for more specific tax advice.

Category : News