Posted: December 20, 2016
Article written by our Associate, Fiona Wilkes
As we turn to the final quarter of the 2016/17 tax year, many buy to let landlords are reviewing their affairs due to the restriction of tax relief on loan interest and finance costs being brought in from 6 April 2017.
Any higher rate tax relief on loan interest and finance costs, such as arrangement fees, will be restricted from 6 April 2017, with the restriction being phased in over 3 tax years.
Ultimately, in 2020/21, all finance costs will be disallowed, with the tax payer receiving a tax reducer equal to 20% of the expense instead, resulting in additional tax liability. This could lead to effective rates up to 67% for a previously 40% taxpayer. A highly geared landlord on a repayment mortgage could find themselves in an overall negative cashflow position.
By disallowing the costs, a previously basic rate taxpayer could find they become a higher rate taxpayer and are therefore affected by the restriction.
The move comes a year after the removal of the wear & tear allowance for furnished buy to lets and the increased stamp duty land tax surcharge of 3% on second properties.
Whilst these earlier two changes affect both individual landlords and companies, the restriction on loan interest does not apply to companies.
This has resulted in a number of taxpayers looking to move their properties into a limited company.
Normally capital gains tax would be due on a transfer of property into a company. This can be mitigated if a taxpayer incorporates a business into a company in exchange for shares, effectively rolling the capital gain into the cost of the shares.
The total assets of the business, other than cash, must be transferred into the company.
Not every buy to let landlord will be running a property business but, where the landlord can show that they undertake significant activities then they may be able to benefit from incorporation relief.
Where equity in the properties exceeds the capital gain to be rolled over, a taxpayer could increase the loan to release funds ahead of incorporation. Where the equity is lower than the capital gain then only part of this gain can be rolled over and a tax charge will be due on incorporation.
Whilst an individual may be able to mitigate capital gains tax on a transfer of properties, as the transfer is to a connected company, stamp duty land tax would be due on the market value. If a landlord is running a property business as part of a partnership then an exemption exists for stamp duty, provided the ownership of the company remains in the same proportion as that of the partnership.
There are many points to consider, from a review of the additional tax liability due in January 2019 to tax planning for incorporation of a business. If you have any questions please contact Burgess Hodgson to discuss this further.