Owning a buy-to-let property has been a popular way for investors to boost their finances, but private landlords need to be aware of the rules governing this type of investment so they don’t fall foul of the taxman.
In April 2017, the government introduced Section 24 of the Finance (No. 2) Act 2015 – also known as the ‘tenant tax’ – which made some types of property investment less profitable than they were previously. The changes were designed to come into force in stages, some of which have already been implemented.
Mortgage interest relief
Charlie Reading, chartered financial planner at wealth management and investment specialist Efficient Portfolio, says one of the most significant changes relates to the restriction on mortgage interest relief, which allowed landlords to offset mortgage interest payments against any rental income.
“This relief is being phased out and was reduced in 2017 to 75%,” explains Reading. “For the 2018/19 tax year, the restriction was set at 50%. Those on an interest-only mortgage are probably braced for an impact on their income anyway, but it’s best to know where you are.”
He says this phased approach is likely to see many landlords knocked into the higher-rate taxpayer bracket; therefore, he recommends checking where you stand financially and tax-wise at the moment “to avoid any nasty shocks when sorting out your tax return from now on”.
Rick Gannon, housing investor and author of property investment book, House Arrest, agrees. He says: “Historically, there’s been a major tax advantage if you have a buy-to-let mortgage. Those with BTL properties previously only needed to declare rental income after they’d paid their mortgage, which ultimately cuts a tax bill by potentially thousands of pounds.
“But since April 2017, the way landlords have had to declare their rental income has started to change, meaning most will see their tax bills rise significantly.”
Gannon warns that from April 2020, landlords will no longer be able to deduct their mortgage costs from their rental income. All the rental income earned will be taxable, and landlords will instead receive a 20% tax credit for their mortgage interest, which can go against their final tax bill.
Higher tax bills
Indeed, Alexandra Morris, MD of online letting agent Makeurmove, explains that these changes essentially mean mortgage, loan and overdraft interest costs will not be considered when calculating taxable rental income, which will result in many landlords paying more tax on their property income.
“When Makeurmove conducted research last year, we found that 40% of landlords were planning to increase rents to cover their costs as a result of the impending tenant fees ban, loss of mortgage interest tax relief and regulatory changes causing financial pressure,” says Morris. The Tenant Fees Bill comes into effect on 1 June 2019 for all tenancies signed on or after that date. It will lower the security deposit cap and only permit landlords and agents to charge tenants for fees associated with changes or early terminations of tenancies as requested by the tenant, utilities and council tax, and payments arising from a default by the tenant.
Broker Holly Andrews says one option for landlords, especially for those paying top-rate tax, is to sell properties and repurchase in cheaper areas, possibly doing so through a company in order to avoid what could be extortionate tax bills.
“For those in the basic rate tax bracket, you can consider trying to get a lower mortgage rate or potentially increasing rent,” she suggests.
If you do sell up, there are other tax considerations to bear in mind. Chris Barwick, tax manager at Sheards, warns that capital gains tax is payable on the increase in value of the property when you sell it.
“From this you can deduct any purchase or selling costs, such as estate agent’s or solicitor’s fees, as well as the cost for any major repairs or renovations that affect the value of the property,” he says. “Various reliefs are available if this was a home you once lived in, although these are changing, so if you are considering selling, it may be worthwhile doing that sooner rather than later.”
Seek specialist advice
When it comes to getting your accounting paperwork right, it may be beneficial to obtain specialist advice to ensure you are paying exactly what is necessary in terms of tax.
Property developer Ross Dougan says it’s vital to remember that every landlord or second property owner’s circumstances are completely different and will therefore need to be assessed on their own merits.
“Never do your own property tax returns, or work with a generalist accountant,” Dougan says. “Having a property specialist accountant, who is up to date with all the latest changes in the property industry, is essential.
“Also, make sure your selected accountant is experienced in the different possible property investment structures, such as personal name, joint names, limited companies, other company structures and pension structures. This knowledge needs to be combined with an understanding of their client’s tax rate and circumstance.”
On this note, it's worth bearing in mind the government’s drive to make it easier for individuals and businesses to get their tax payments correct and keep on top of their affairs under its Making Tax Digital (MTD) initiative, which was rolled out on 1 April 2019.
Marc Trup, MD and founder of property management platform Arthur Online, says, “Making Tax Digital (MTD) affects all businesses that are VAT-registered and have a taxable turnover greater than £85,000. Landlords should definitely consider forming limited companies. Using integrated software platforms will allow landlords to both efficiently manage their properties and keep in line with MTD.”
Another potential cost private landlords have to consider is whether their properties are in line with energy regulations that came into force in April 2018.
As Gannon warns, “These mean that all new tenancies or renewed contracts must carry at least an ‘E’ rating on the Energy Performance Certificate (EPC). This regulation will roll out across all tenancies in the next two years, with fines of up to £4,000 for non-compliance.”