Landlord tax advice
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Landlord tax changes are amongst the top concerns for landlords in 2017, yet many remain unaware about how the changes will impact them. Some landlords will be unaffected by the changes, for example, if you own your property outright. Take time now to understand whether you will be affected and review your long term strategies for tax planning. 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.
What is changing?
Until April 2017 landlords have been able to deduct a number of expenses as business costs from their turnover before declaring their taxable income. Once the changes are fully phased in, by 2021, landlords will no longer be able to deduct finance-related costs from their turnover but will be taxed on their income, which will push many into the higher tax bracket. In addition, landlords are likely to be affected by a rise in stamp duty for property investors, the abolishment of the wear and tear allowance and changes to capital gains tax.
Buy-to-let tax relief on mortgage interest payments
Mortgage interest payments are a significant expense that landlords have been able to deduct as a business cost. The reduction of buy-to-let tax relief on mortgage interest payments is likely to have the greatest impact on landlords looking to deduct expenses from their turnover. Up to now, investors in buy to let have been able to claim tax relief on their mortgage interest payments at their marginal rate of tax.
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 2021 this system will be replaced and all landlords will pay tax on the full amount less tax relief fixed at 20 per cent. 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.
How severe could the impact be?
The Nationwide Building Society published estimated figures to show how a typical landlord’s profits might be hit. Someone with a £150,000 buy-to-let mortgage on a property worth £200,000 with a monthly rent of £800 would currently have a net profit of around £2,160 a year. Under the new system, the net profit will plunge to £960. The higher the interest you pay, the more you will be affected.
How are the changes going to be introduced?
The landlord tax changes will be phased in over the next four tax years, starting from April 2017, as follows:
2017/18 tax year – Landlords can claim 75% of allowable expenses, and will receive relief at the basic rate (20%) on the remaining 25%;
2018/19 tax year – Landlords can claim 50% of allowable expenses and will receive relief at the basic rate (20%) on the remaining 50%
2019/20 tax year – Landlords can claim 25% of allowable expenses and will receive relief at the basic rate (20%) on the remaining 75%
2020/21 tax year – the switch will be complete, with the only tax relief being the basic rate of 20% on your allowable expenses.
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Rise in stamp duty April 2016
A stamp duty surcharge of three percentage points for landlords purchasing buy-to-let (or anyone buying a second home) was introduced in England and Wales in April 2016.
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, not the initial costs.
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
Although the basic rate of capital gains tax dropped to 10 per cent in 2016, this does not apply to investors in property. Landlords will continue to incur a 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.
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.
Top tips from Brand Ambassador and Landlord Action founder, Paul Shamplina – what can you do to mitigate the damage?
Faced with all these tax liabilities, proper tax planning now will pay dividends in the future. If you are an existing landlord this is a good time to revisit your tax affairs, check whether your circumstances have changed and give your portfolio a thorough MOT.
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:
- Switching to shorter-term fixed rate deals to get lower rates of interest, although these mortgages carry more risk.
- 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. A drawback is that your mortgage options will narrow as fewer providers will lend to a company.
- 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).
- Make sure you seek advice from an accountant that specialises in Buy to Let. Moreover, getting the right landlord insurance will help you managing your finances by reducing potential risks.
Download your free copy of our tax guide for landlords