Landlords will have started to feel the effect of the changes to the tax treatment of buy to let properties, which came into force from 6 April 2017. The two main areas of significant change have been the restriction of loan interest and the new property allowance.
Loan Interest Restrictions
For the tax year ended 5 April 2018, landlords can take a deduction for only 75% of the loan interest incurred in the tax year. This is reduced further each year by 25% until 6 April 2020 when no deduction will be given for loan interest payments.
Rather than eliminating any form of tax relief for the cost of the loan interest, HMRC now have a tax reducer system in place to take a deduction for the amount of the loan interest at basic rate (20%). This deduction is taken after your overall tax liability has been calculated. Therefore, you may now be considered a higher rate taxpayer, whereas before you were not, even though your circumstances remain unchanged.
For example, Mr Brown had a salary of £40,000 and gross rental income of £10,000 in 2017/18. He has loan interest of £5,000 and no other rental business expenses. Under the previous legislation, Mr Brown could relieve the full amount of £5,000, resulting in a net rental profit of £5,000. Using the rates and allowances for 2017/18, this would mean Mr Brown is still considered a basic rate taxpayer with taxable income of £45,000, resulting in an overall income tax liability of £6,700.
However, with the recent changes, only 75% of the interest could be deducted, increasing the taxable rental profit to £6,250, taking Mr Brown into the higher rate for income tax purposes. After taking his personal allowance into account Mr Brown would have an income tax liability of £7,200. A tax reducer of £250 (20% of £1,250) will then be deducted, resulting in an overall income tax liability of £6,950 for the year ended 5 April 2018. This is an increase of £250 in comparison to the previous legislation.
Assuming rates and allowances are unchanged, from 6 April 2020, Mr Brown would have an overall income tax liability of £7,700. This is an increase of £1,000 in comparison to previous legislation.
If you have large loan interest payments on your rental property, please do get in touch to discuss your options with the DRG tax team.
New Property Allowance
From 6 April 2017 a new property allowance of £1,000 is in place for UK and overseas buy to let properties. If your rental income is £1,000 or less, this allowance will remove the need for you to file a tax return if this is your only source of income or gains.
If your property rental income is in excess of £1,000, you can still benefit by taking a partial deduction for £1,000 rather than reducing the rental profit by the property business expenses incurred throughout the tax year. This can be beneficial where you incur very few expenses. The allowance can be assessed on a year-by-year basis to ensure we make full use of all allowances available to you.
If you would like to discuss these changes or any other property tax issues, please do get in touch with DRG's team of tax specialists. We would be delighted to hear from you.
DISCLAIMER: This information is for guidance only, and professional advice should be obtained before acting on any information contained herein. We will not accept any responsibility for loss to any person as a result of action taken or refrained from in consequence of the contents of this publication.
