Buy To Let
Pros and cons of using limited companies for buy to let
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YourMoney.comIn the summer Budget, Chancellor George Osborne announced that tax relief for wealthier landlords would be cut from April 2017.
Landlords can deduct their costs, including mortgage interest, from the income generated by the property before they pay tax which Osborne said gives them an advantage over other homebuyers.
Currently wealthier landlords receive tax relief at 40% and 45%. This tax relief will be restricted to 20% for all individuals by April 2020.
Setting up a limited company to purchase investment properties has been raised as one way to ease the burden of tax.
Here, a panel of experts discuss the benefits and drawbacks to setting up a limited company for buy-to-let purposes.
The mortgage implications by David Whittaker, managing director of Mortgages for Business
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George Osborne’s swing at buy-to-let borrowers is not as simple as some of the headlines suggest. As a result, there is not a simple catch-all solution for every landlord.
That said, the recent emphasis on limited companies is completely justified.
By operating as a limited company landlords can declare their mortgage interest payments as a business expense and, in so doing, avoid the new tax burden that has been heaped upon individual investors. This is unlikely to change. There is little chance of the Treasury fundamentally altering the rules on the taxation of business expenses for limited companies (including mortgage interest).
Yet despite the obvious benefits of incorporation for landlords, it may not be the best option for everyone.
To start with, setting up a limited company will incur a one-off cost (Stamp Duty Land Tax, legal and potentially Capital Gains Tax) in order to move existing properties into the company. Consequently, landlords will almost certainly want to get more detailed advice on their unique tax position before doing this since any possible tax savings will depend on an each landlord’s personal situation.
Secondly, there is the administrative chore of setting up a limited company, opening new bank accounts and dealing with HMRC. Finally, mortgages for limited companies can be more expensive than the equivalent deals for individuals.
In short, landlords will need advice, paperwork and a new mortgage. For some that might not add up, while for others it will pay off handsomely.
But the good news is three-fold. Fundamentals from the rental market are strong, mortgage rates as a whole have rarely been lower, and – perhaps most importantly – landlords have until 2017 before the changes to tax relief even start to come into effect.
The legal implications by Eddie Goldsmith, senior partner of Goldsmith Williams
As a result of the Chancellor’s recent changes reducing the tax relief of high income private landlords it’s been suggested that a number of these will change their business model and manage their properties through a limited company.
The legal transaction is essentially the same whether an individual or a company is purchasing the buy-to-let property but there are different considerations. Firstly greater due diligence is needed when acting for a limited company rather than individuals in property purchase.
Money laundering regulations incumbent upon solicitors necessitate an investigation of the individuals who are behind the limited company purchasing the property. In addition lenders often require personal guarantees from the individuals behind the limited companies. Perhaps most importantly any charge must be registered at Companies House within 21 days otherwise it may be unenforceable against the liquidators of the company.
Not all property solicitors will have the necessary expertise to handle limited company property purchases and so the borrower may have a more restricted choice of conveyancing solicitors to select from. However, with all these additional aspects to consider it does make sense to work with a specialist property solicitor who can ease the borrower through conveyancing with timely and proven processes and who is on the panel of the specialist buy-to-let lenders.
The tax implications by Adrian Benosiglio, real estate tax partner at Baker Tilly
George Osborne recently announced that an individual’s tax relief for mortgage interest on a buy-to-let residential property will be restricted to the basic rate of 20%. This measure will impact 40% and 45% taxpayers and will be phased in over 4 years from April 2017.
For example, Mr Jones (a 45% taxpayer) has a house with net rental income of £100,000 and mortgage interest of £90,000. Currently he would pay £4,500 income tax on profits of £10,000.
From April 2020, he’ll pay £27,000* income tax. This is calculated by applying his marginal rate of tax to his rental income (£100,000 x 45%) which gives a tax liability of £45,000 and offsetting this with tax relief claimed on the mortgage interest at the lower amount of 20% (90,000 x 20%) which would give tax relief of £18,000. This would leave Mr Jones with a tax bill of £27,000 (£45,000 less £18,000). The end result would be an overall annual loss after tax of £17,000, with insufficient cash flow to make repayments on his loan.
A company is not affected by these measures and therefore would receive full mortgage interest relief. Additionally, corporation tax is charged at 20% and is due to fall to 18% in 2020. Using the above example, a company would pay £2,000 currently and £1,800 from 2020; leaving sufficient funds to make repayments.
There are additional considerations for companies such as SDLT and Annual Tax on Enveloped Dwellings but, providing a company carries out a genuine rental business, relief should be available. The compliance burden, however, would be higher and tax on the sale of the property would need considering.
If Mr Jones’ property was within a company, and from 2020 it paid out its net profits of £8,200 as a dividend, his income tax liability could be £1,220, giving him £6,980 net of all taxes. A company would hence be preferable to his holding the property directly.
There is no one route fits all and a buy-to-let investor needs to take advice into which structure would be more appropriate for them.
The above is based on current and proposed rates at 4 August 2015.
* Tax liability is calculated in two parts, net income at the taxpayer’s marginal tax rate less interest expense at the basic rate.
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