Tax Tips for Landlords
This is guide so you have some basic understanding. You must obtain advice from a qualified Accountant before acting or implementing any of the points below.
If you’re renting out your property and you’re unsure about your tax obligations, we’ve put together some of the key facts to help you. Rules on paying tax when renting out your property can be quite complicated.
Paying Income Tax
When you start renting out property, you must tell HM Revenue and Customs (HMRC) as you may have to pay Income Tax. If you don’t, you could be charged a penalty. If you owe tax from previous years, then it’s best to contact HMRC directly. If you do, the .Gov.UK website states that they may consider your case more favourably.
Any profit you make from renting out a property is part of your income, and as such, is subject to Income Tax. The amount of tax you pay on this is subject to your total taxable income. If you pay the basic rate of tax then you’ll pay 20%, while if you’re a higher rate taxpayer, you’ll pay 40%, and if you’re in the additional rate bracket you’ll pay 45%. It’s also worth noting that as of 6 April 2016, you may pay a different rate of Income Tax to the rest of the UK if you live in Scotland.
If you’re eligible, you may also be able to claim Income Tax reliefs, which means that you either pay less tax to account for the money you’ve spent on specific items or get your tax repaid. Sometimes you get these tax reliefs automatically, but there are others you must apply for to be eligible.
In order to calculate your costs, it may be worthwhile setting up a separate account for your rental income. This way, it will stop your various revenue streams from becoming confused, and it may also be easier for you to work out your profit, expenses, and other forms of income. It’s vitally important to remember that only profits from renting your property are liable for income tax and that to calculate your profits, you’ll have to deduct “allowable expenses” first.
Calculating “allowable expenses”
As you calculate your expenses, you need to know the difference between revenue and capital expenses.
Revenue = revenue expenses relate to the day-to-day running and maintenance of the property and can be offset against an income tax bill.
Capital expenses = expenses that’ll increase the value of the property such as renovations. These can’t be deducted from your income tax bill, but you may be able to offset them against Capital Gains Tax.
Any costs that are deemed to be essential to you performing your duties as a landlord can be offset against your rental income, significantly reducing your tax liability. Allowable expenses are things you need to spend money on as part of the day to day running of the property, including:
- Accountancy expenses (incurred in preparing rental business accounts but not for preparing personal tax returns).
- Advertising costs of attracting new tenants.
- Charge for inventories.
- Costs of rent collection.
- Council Tax while the property is vacant and available for letting.
- Ground rent.
- Insurance against loss of rents.
- Insurance claim fees.
- Insurance on buildings and contents.
- Mortgage interest charges. As such you can deduct any funds used to pay the mortgage interest charged by your lender. The capital repayment element of your mortgage is not deductible (further conditions apply).
- Interest paid on loans to build or improve premises (further conditions apply).
- Legal and professional fees (any fees incurred in the day to day management of your rental property can be deducted. Such fees include; the cost of preparing leases and inventories, collecting rent, preparing your tax return for the rental property and letting agent charges).
- Letting agent fees.
- Agreement fees for leases of less than a year.
- Maintenance charges made by freeholders, or superior leaseholders, of leasehold property.
- Maintenance contracts (for example gas servicing).
- Marketing expenditure incurred during advertising the rental property and attracting new tenants.
- Provision of services (for example gas, electricity, hot water).
- Rental warranty and legal expenses insurance.
- Replacing windows.
- Repairs which are not significant improvements to the property, including: damp and rot treatment; mending broken windows, doors, furniture, cookers, lifts etc; painting and decorating; replacing roof slates, flashing and gutters; repainting; and stone cleaning.
- Revenue costs of travelling between different properties solely for the purposes of the rental business are an allowable deduction in computing rental business profits.
- Water rates.
If you’re a landlord who’s letting a furnished property, then you can also claim 10% of the net rent as what’s known as a ‘wear and tear allowance’. This can be used on any furnishings that you provide to your tenants. For this, the net rent is the amount of rent that you receive, less any costs that your tenant would usually pay such as council tax.
However, in the 2015 summer budget, the Chancellor of the Exchequer, George Osborne announced a slight change to the legislation on “allowable expenses”. Landlords can currently deduct 10% of the rent charged for “acceptable wear and tear”, even if no actual improvements have been made. However, from April 2016, landlords will only be able to deduct expenses they actually incur.
Tax breaks for landlords changed in 2015 summer budget
In the summer 2015 budget, George Osborne announced that tax breaks for buy-to-let landlords would be curbed in order to “create a more level playing field between those buying a home to let and those buying a home to live in”.
As a result of these changes, the amount of tax landlords can reclaim as relief will be capped at the basic rate of tax over the course of a four year period beginning in 2017. This will be the case regardless of whether the landlord is paying the lower or upper rate of tax, meaning that the amount of tax relief that landlords in the top tax brackets receive on their mortgage interest payments will be slashed.
As such, relief for finance costs will be restricted to the basic rate of Income Tax as of 6 April 2017. These financing costs include mortgage interest, interest on loans to buy furnishings and fees incurred when taking out or repaying mortgages or loans.
As a result Landlords will no longer be able to deduct all of their costs to arrive at their property profits. Instead, they will receive a basic rate reduction from their Income Tax liability. The scheme will be gradually introduced, meaning that:
- In 2017-2018, the deduction from property income (as is currently allowed) will be restricted to 75% of finance costs. The remaining 25% is available as basic rate tax reduction.
- In 2018-2019, this will change to 50% finance costs deduction and 50% given as a basic tax reduction.
- In 2019-2020, this will change again to 25% finance costs deduction and 75% given as a basic rate tax deduction.
- From 2020-2021, all financing costs incurred by a landlord will be given as a basic rate tax deduction.
Overall, it’s hoped that these changes will help make the tax system fairer and ensure that landlords with higher incomes no longer receive the most generous tax treatment. The gradual introduction of the changes over four years from April 2017 should theoretically help landlords adjust.
Calculating your profits
If you’re looking to work out your net profit for your lettings as a single business then you must:
- Add together all of your rental income from all of your properties
- Add together all of your allowable expenses
- Take away the expenses from the income
If you’re making a loss
If you’re making a loss on your rental properties then you’ll need to deduct any losses from profits and enter the figure on your Self-Assessment form, remembering that your losses can be offset against future profits (by carrying it over to a later year) or against profits from other properties in your property portfolio.
Remember to keep your paperwork
- It is recommended that you retain the following information and documents relating to the rental property:
- All contracts relating to the purchase, sale or lease of the property.
- Details of any properties you have put into trust or transferred to others.
- Any evidence of significant gains or losses.
- Records of all mortgage accounts detailing the interest and capital repayment elements of each payment.
- Bills and invoices displaying payment records for any costs relating to the purchase, repair, improvement, or sale of the property.
- Any evidence proving when you may have lived in your rental property e.g. tenancy agreements proving commencement dates.