With 18.7% of dwellings in England being occupied by private renters in 2020, and a 6.6% rise in average rental price for a new tenancy in 2021, the demand for buy-to-let properties from investors has never been higher. So, what has caused thousands of investors to suddenly transfer their entire property portfolios into a limited company?
Section 24 Relief
George Osborne first announced the changes to tax relief during the summer budget of 2015. The Section 24 tax changes were put in place to restrict tax relief for finance costs incurred by private landlords on residential properties. The rate of tax relief was gradually tapered from April 2017 up until April 2021.
As a result of this change, private buy-to-let landlords are no longer able to deduct finance costs from the tax due on rental income, and instead the only relief that they can obtain on rental income from a Buy-To-Let property is the basic rate of income tax (20%). Finance costs are comprised of mortgage interest, interest on loans used to purchase furnishings, and fees incurred when taking out or repaying mortgages/loans.
This would have no bearing on a private buy-to-let landlord who is a basic rate taxpayer, as they would be paying income tax at a rate of 20% and receiving a tax credit of 20% on the finance costs, meaning that no additional tax would be due. However, if they were a higher rate taxpayer then they would be paying 40% income tax on your rental income, but only receiving a 20% tax relief on the finance. This means that each pound of interest paid would attract at least an extra 20p in tax.
For example, if your finance costs amounted to £5,000 a year and you were a basic rate taxpayer, you would effectively be paying £1,000 worth of tax on this figure, but also in return you would be allowed a 20% relief that also equates to £1,000. If you were a higher-rate taxpayer then you would be taxed 40% on this amount, which is £2,000, but only be able to obtain 20% of relief- £1,000 meaning you would effectively be a further £1,000 out of pocket.
Limited companies that hold residential properties are currently still able to claim finance costs as allowable expenses meaning that they get full 100% relief. Meaning that if your finance costs were £5,000 in a year, you would be able to deduct these costs as expenses and only be taxed on your profits. This key difference in tax relief between holding properties in your personal name compared to in a limited companies has led to many private investors transferring their portfolios into a limited company.
A private individual’s property income would be taxed as part of their overall personal income, meaning that individuals who earn £50,000 a year and above would be taxed at a rate of 40% on their property income, whilst those who earn over £150,000 per year would be taxed at a rate of 45%.
Limited Companies do not pay tax on income, and instead pay corporation tax on profits, at a rate of 19%. This is less than half the amount of tax that a high-rate taxpayer would pay on property income if the property was held in their sole name.
How do these changes affect your tax bill?
You are a high-rate taxpayer: 40%
Your Property Value: £200,000
Your Mortgage Amount: £150,000
Your Annual Rental Income: £10,000
Mortgage Interest Rate: 3.49%
Property held in private name
Property held in an LTD company
|Mortgage Interest Cost||£200k x 0.349 = £6,980||£200k x 0.349 = £6,980|
|Mortgage Interest Relief||20% of £6,980
|Taxable Profit Calculation||£10,000 x 40%
|£10,000 – £6,980 relief
|Tax Due||£4,000 – £1,396 (relief)
|£3,020 x 19% corporation tax
|Net Profit||rental income (£10,000) – mortgage costs (£6,980)-personal income tax (£2,604)||rental income (£10,000) – mortgage costs (£6,980)-corporation tax (£573.80)
|£416 profit||£2,446.20 profit|
|Net Profit Across 5 Identical Buy-To-Let Properties||£2,080 profit||£12,231 profit|
Companies are charged on their profits; hence reliefs are taken off first. Whereas for personal income you would be taxed upon the initial rental income of £20,000 and then deduct your 20% relief on interest costs afterwards.
From the above example, holding your property under a limited company instead of under your personal name would earn you over £2000 more profit on the same property. Once this figure is multiplied across multiple properties held under a portfolio, the difference in profits can be tens of thousands of pounds per year, hence why so many investors are looking to transfer their portfolios into limited companies.
When transferring a property from a private name into a limited company, you do need to consider any potential SDLT and Capital Gains Tax that may arise, and we suggest that you speak to your tax advisor in the first instance.
How can we help?
Our Commercial Property experts at Hegarty’s can help assist you with transferring your property portfolios into a limited company, as well as purchasing new properties under a limited company. We can help you set up your company, liaise with your lender(s) and deal with all of the Land Registry and Companies House formalities including registering the property(s) at the Land Registry and registering the charge(s) at Companies House.