Navigating Landlord Taxes

What do property investors need to know about landlord taxes?

As a landlord, the promise of steady rental income comes with the intricate web of tax obligations.

Thirlmere Deacon asked the key questions of Sampson Fielding accountants, exploring all matters relating to tax for landlords, the implications, structures, allowances and the latest changes.

Here’s what you need to know:

Taxes for Properties Held Personally

As a landlord with personally held rental properties, the importance of understanding and managing these taxes cannot be overstressed.

  1. Income Tax on Rental Income: Every penny earned as rental income from properties owned personally falls under the purview of income tax. It’s essential to consider that this isn’t just about the rent collected; other payments like those for lease cancellations or even insurance payouts can be included. The tax rate you’re charged will align with your overall income tax band, making it crucial to accurately report rental profits within your Self-Assessment tax return.
  2. Capital Gains Tax (CGT): When it’s time to divest from a property, CGT awaits on the other side of that transaction. This tax applies to the gains made from the sale of a property that isn’t your main home. CGT isn’t a one-size-fits-all; it meticulously considers the duration of property ownership, the size of the gain, and your tax bracket, potentially eating into your profit. Planning for CGT involves understanding reliefs and exemptions that might mitigate the tax bite. Learn more about Capital Gains Tax.
  3. National Insurance: While not universally applicable, National Insurance may become a factor if you’re operating your rental activities as a business, which typically means consistently working in a manner that is deemed to be running a property business. If the income from your rentals crosses a certain threshold, you might need to pay National Insurance Contributions, adding another layer to your tax responsibilities.
Landlord Taxes

How Rental Income Is Taxed

Rental income taxation has specific thresholds and conditions:

  • For individuals, the first £1,000 of rental income is tax-free, known as the property allowance.
  • Net profit or loss is calculated by subtracting allowable expenses from your total rental income.

Allowable Expenses

Legitimate deductions from rental income before taxation include:

  • Estate and legal fees (subject to conditions)
  • Accountancy fees
  • Insurance for buildings and contents
  • Maintenance and repairs (not improvements)
  • Utility bills, rent, ground rent, service charges, and Council Tax
  • Property upkeep such as cleaning or gardening
  • Marketing and communication costs directly related to letting

Capital expenditures are excluded, but tax relief may be claimed for replacing domestic items like appliances and furniture.

Mortgage Interest and Finance Costs

Since April 2020, a new tax relief system has been in place for individual landlords regarding mortgage interest and finance costs. The ability to deduct these costs as an expense has been removed. Instead, landlords receive a tax credit, calculated at the basic tax rate of 20%, on the lower of three elements:

  1. Finance Costs: The actual costs not deducted from rental income within the tax year, including any costs carried forward from previous years.
  2. Property Business Profits: The profits from your property business in the tax year, after any losses brought forward have been applied.
  3. Adjusted Total Income: Your total income, minus any losses and reliefs, and not counting savings and dividends income, over your personal allowance.

This shift from a deduction to a basic rate tax credit has a profound impact, especially for higher-rate taxpayers, and underscores the importance of understanding these changes for effective tax management.

Record-keeping is a fundamentally important element; Landlords must maintain meticulous records and receipts to substantiate claims.

Recent Tax Law Changes for Landlords

In the Autumn Statement 2023, landlords faced a pivotal shift in the taxation landscape, with two significant changes in National Insurance contributions and a crucial alteration to how mortgage finance costs are treated.

The statement announced the complete removal of Class 2 National Insurance. This was a fixed weekly charge for self-employed individuals but will no longer impact landlords. More prominently for those with higher earnings, there’s been a reduction to 8% for Class 4 contributions, which are paid as a percentage of profits within certain thresholds. These changes could lead to potential savings for landlords, making tax planning even more essential.

National Insurance Contributions for Landlords

Landlords might be subject to certain National Insurance if their profits exceed certain limits, with rates and conditions varying each tax year.

  1. If you’re self-employed and your profits are £12,570 or more a year, you usually pay Class 4 National Insurance rates.
  2. Rates for tax year 2023 to 2024
    1. Class 2 £3.45 a week
    2. Class 4 9% on profits between £12,570 and £50,270
    3. 2% on profits over £50,270
  3. Rates for tax year 2024 to 2025
    1. Class 2 Abolished
    2. Class 4 8% on profits between £12,570 and £50,270
    3. 2% on profits over £50,270

Taxes for Properties Within a Limited Company

For landlords who own their rental properties through a limited company, the tax implications differ significantly from personal ownership. Here’s an overview with professional insights:

  1. Corporation Tax: Profits generated by the company from rental income are subject to Corporation Tax. It is imperative to understand that this tax is charged on the company’s profits after allowable business expenses have been deducted, including maintenance costs, management fees, and interest on business loans. This is only applicable if the property is held within a limited company.
  2. Capital Gains Implications: When a limited company sells a property, the gain made is not subjected to Capital Gains Tax (CGT) as it would be for individual owners. Instead, the profit from the sale is incorporated into the company’s overall profits and taxed at the Corporation Tax rate. This may offer a lower tax rate compared to CGT for individual landlords.

Understanding Capital Gains Tax

Capital Gains Tax (CGT) in the UK is a tax on the profit when you sell (or dispose of) an asset that has increased in value. It’s the gain you make that’s taxed, not the amount of money you receive.

Key facts about CGT:

  • For landlords, CGP is most commonly applicable at the point of disposing of a non-primary residence property at a profit.
  • There is a 60-day window post-sale to report and pay CGT.
  • CGT rates vary based on your income bracket and the basic rate threshold.
  • There is an annual exempt amount serves as a tax-free allowance against CGT, the threshold amount varies depending on ownership structure.

It’s important to note that figures and rules can change with new budgets and tax years, so it’s advisable to check the most current information or consult a tax professional for specific advice.

Reliefs and Exemptions

Several reliefs, like Private Residence Relief and Business Asset Disposal Relief, can significantly reduce CGT liabilities, provided specific criteria are met.

Private Residence Relief (PRR)

In the realm of property taxation, Private Residence Relief (PPR) stands out as a beacon of relief for homeowners. This relief exempts you from paying Capital Gains Tax (CGT) on the sale of your property, provided certain criteria are meticulously met.

To qualify, the property must be your sole residence, having been occupied as your main home throughout your period of ownership. Renting out a portion of your home doesn’t necessarily disqualify you, except if it’s let out as a separate dwelling. Similarly, the use of your home for business purposes is permissible as long as no part is exclusively for business.

The total area, including all buildings, must be under 5,000 square metres—ensuring the relief is targeted at residential, not commercial, property sizes. Importantly, the intention behind the property purchase matters; it must not be primarily for profit gain.

Adhering to these conditions, PPR automatically applies, potentially bringing your CGT bill down to zero. However, any deviation from these conditions might necessitate a partial tax payment.

Tax for Landlords

This guide serves as a starting point for understanding landlord tax obligations. Well-executed tax management can significantly affect your return on investment.

Whether you hold properties personally or through a corporate structure, understanding the tax implications is paramount to maintaining a profitable investment portfolio.

From income tax on the rent you collect and the Capital Gains Tax when you decide to sell, to the nuances of National Insurance and how recent changes in tax laws may impact your bottom line – the knowledgeable team at Sampson Fielding can assist with all matters relating to landlord taxation.

Get in touch with Sampson Fielding.

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