Date Published 28 September 2015
There has been a lot in the news about how the tax changes for buy-to-let property, announced in George Osborne's summer budget, will affect property investors. Tax efficiency is an attractive part of buy-to-let investment so let's have a look at the changes and what this means for landlords.
Wear and Tear Allowance
Currently you can deduct a wear and tear allowance from your rental income. If your property is furnished then you are able to deduct 10% of the rental income from your taxable profits.
The Government is now in a consultation period to look at this tax allowance. I suspect that it will be removed and, as they are indicating, replaced with deductions based on the cost of replacement furnishings. This will prevent many landlords from claiming the allowance when their property is not furnished; in reality, HMRC have little way of checking the accuracy of a claim for allowance unless they inspect individual residences, which is unlikely, and so one can understand what they are trying to achieve.
The consultation runs until 9 October. You can contribute and find out more following this link:
Interest Tax Relief
The greatest change for landlords is the removal of the top rate of tax relief against mortgage interest. This will be phased in between 2017/18 to 2020/21 and will see a maximum tax relief of 20% against mortgage interest payments. Currently a landlord can offset the mortgage interest payments against tax at their highest tax rate, or up to 45%. This makes buy-to-let an extremely attractive proposition and can encourage gearing up, or borrowing more, to take on more property.
The phasing of the tax change is as follows:
- in 2017-18 the deduction from property income (as currently allowed) will be restricted to 75% of finance costs, with remaining 25% available as a basic rate tax reduction;
- in 2018-19, 50% finance costs deduction and 50% given as a basic rate tax reduction;
- in 2019-20, 25% finance costs deduction and 75% given as a basic rate tax reduction;
- from 2020-21, and beyond, all financing costs incurred by a landlord will be given as a basic rate tax reduction.
What does this mean for the housing market?
This could make property less attractive for landlords, especially those that are highly geared and relying on capital growth, and could see property stock released onto the market, thus restraining house price inflation. On the other hand, landlords make up between 15 and 19% of the property market (depending on which statistic you read) and so this could reduce demand for new build property and discourage supply, thus further exacerbating the chronic property shortage that the UK suffers.
This is a good time for landlords to reassess their situation. Reducing the competition for one and two bed houses will benefit first time buyers, who have had little to cheer about in recent years, bar the Help to Buy scheme that has arguably encouraged reckless levels of debt against inflated property values, and the knock on effect could be to reduce demand for rental properties, suppressing prices, and reducing the return. I have been mindful to look at my portfolio and analyse the effect of a drop in income and increase in costs and would encourage you to do the same. If this isn't your area of expertise, talk to a tax or financial/mortgage adviser. If you have a large portfolio, then forming a company may help, whereas with a small portfolio this could potentially leave you no better off, so now is the time to talk to the professionals and plan accordingly. It would be prudent to ask yourself if there are other ways to improve your return; can you reduce your estate agent fees, are you taking advantage of the current tax allowances and should you look at your cost of financing? Throughout history, those that are the least prepared suffer the most.
Paul Davies BSc (Hons), Cert Cii, Cert Cii (MP), Cert SMP
Sales and Marketing Director, @HOME Estates