2015 Budget slashes buy-to-let profits for UK investors
The changes are so complex that their true impact is only now being fully understood. Thousands of buy-to-let landlords, especially those with large mortgages on their properties, will see their earnings hit.
In effect, the Chancellor wants to tax landlords on their turnover rather than their profit, meaning that tax will be payable on non-existent income. Currently, landlords can claim tax relief on monthly interest repayments at their personal tax rate.
From 2020, the amount landlords can claim as relief will be set at the basic rate of tax – currently 20 per cent. However, the restriction will be phased in over four years, starting from April 2017.
A worked example
Let’s look at an example of how this could work in practice for a higher rate taxpayer with a taxable income of £50,000:
Current situation
Rental income: £20,000
Mortgage interest: £13,000 (65% of rental income)
The mortgage interest is deducted so tax is only due on the £7,000 difference, at a rate of 40%, giving you a tax bill of £2,800. £7,000 – £2,800 leaves you with a profit of £4,200.
Under new rules
Rental income: £20,000
Mortgage interest: £13,000 (65% of rental income)
Working out the tax is now slightly more complicated: 40% (your Income Tax rate) of £20,000 (your taxable income from the property) is £8,000, but the £13,000 mortgage interest qualifies for tax relief at 20%.
So subtract the tax relief: 20% of £13,000 is £2,600.
£8,000 – £2,600 leaves you with a tax bill of £5,400. (or 77.1% of your rental profit).
Coupled with the abolitions of the Wear-and-Tear allowance currently available to landlords and a potential rise in interest rates, the likely effect could be that rental income returns are completely wiped out!
What can you do to prepare?
There’s no need to panic. You have at least two years to prepare your finances and make sure you’re ready for the change but you need to understand the impact on you as soon a possible and therefore speak to your accountant.
You may be able to do one or more of these things to reduce the effect of the changes including incorporating into a company. However, tax can be incurred on the transfer to a company, both in terms of Stamp Duty and Capital Gains Tax, and further tax is paid on extracting the rental profits so this needs to be considered carefully.
There is no right or wrong answer and the likely solutions will depend on your own personal circumstances.
Exceed UK looks after many buy-to-let landlords and would be happy to discuss the impact on you. Contact +44 (0) 1784 439 955 or enquiries@exceeduk.co.uk