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December 2015

Current tax regime on Buy to Lets

Buy-to-let property owners will need to familiarise themselves with the updated tax rules.

Removal of wear and tear allowance

The popular "Wear and tear" allowance, which allows 10% of rental income to be deducted from rental profits, is set to be abolished. Under the current rules no evidence of spending is required, only a calculation at the year end. Going forward, from April 2016 onwards tax relief will be available on the actual costs of replacing furniture, which in most cases will affect the tax payable on furnished lettings.

Reduction mortgage interest relief

A further change may also have more significant impact for property investors as there will be a change to mortgage interest tax relief.

Instead of being able to deduct the full amount of loan interest, owners will get tax relief at the basic rate of tax of 20% only. This change in legislation will affect higher rate tax payers, and a handful of basic rate tax payers that may get pushed into higher rate tax in the process.

This only applies to income tax so limited companies will be exempt from any changes.

It would be our recommendation that Buy-to-let property landlords start planning for the change now although the new proposed system will not be fully effective until April 2020, it starts to be phased-in from April 2017.

What can you do?

The proposed changes could be significant for a higher-rate tax payer and in some cases, the tax payable in 2020 will be 150% of what it is now.

There are a number of options for consideration:

  • Do nothing: accept the increased liability and rely upon capital growth for your profit
  • Increase rents: many landlords are making, or planning to make, adjustments to their rent price to cover the loss of profits from additional tax.
  • Repay the loan: property holders without a mortgage are unaffected by the changes, so an option is to find funds to repay the remaining mortgage.
  • Sell the property: and look to reinvest elsewhere
  • Invest differently: If you want to continue to invest in the property sector you could consider:
  1. Investing in commercial property (where the new rules do not apply);
  2. Investing via a company, taking care of stamp duty and capital gains tax
  3. Investing jointly with others in debt-free residential property; or
  4. Investing in a managed residential property fund
  5. Sell the whole or part of your interest in the buy-to-let property to a company, which you control, on terms that the company takes on the whole of the borrowing.

Each of these options has its own tax consequences and there will be wider commercial issues to consider as well.

Every case is likely to be slightly different, but among other things you may need to consider the impact of:

  • Capital Gains Tax both now and when the property is sold in the future
  • Stamp Duty Land Tax
  • Dividend Tax
  • Inheritance Tax

 

Although no immediate action is required it would beneficial to start thinking about and planning for the change now.