Now is the time to review your property portfolio - Mortgage Interest Tax Relief is being withdrawn.
New mortgage interest changes are being phased in over the next couple of years and with mortgage interest tax relief steadily falling year on year, now is an opportune time to review your property portfolio.
Historically buy to let mortgages have been a favourite of those building a rental property portfolio; with big tax advantages manifesting in only having to declare the rental income after mortgage costs and other expenses had been deducted.
From 2020 landlords will be unable to deduct the costs of the mortgage interest and other finance charges from the rental income when calculating the taxable profit. Instead the tax relief for finance costs will be restricted to 20%.
This will cause a significant impact on a landlord’s income levels, and the payment of tax on the rental profit before the deduction of finance costs will force some into a higher tax bracket, moving them from a basic rate tax payer to a higher or additional-rate taxpayer.
Further complications will then arise if the mortgage interest then exceeds 75% of the net rental profit. This will cause the buy to let business to show a negative cash flow and the higher tax bill will need to be funded by other taxed income or capital.
It is therefore key that property portfolios are now reviewed and there are several choices available to minimise the additional tax obligations.
The first change to consider is to reduce and consolidate any borrowing by disposing of some properties. For many this will not be appropriate and there are other avenues available especially for larger portfolios. These include transferring the property business into a family partnership or setting up a limited company.
Importantly, the tax relief amendment will only impact private landlords. Therefore by creating a business that owns the rental properties, landlords will still be able to declare rental income after deducting the mortgage. However, every property portfolio is unique and any changes may have complex tax implications, so it is essential to ensure that any changes made will impact with a positive tax outcome.
Transferring to a Limited Company
The main attraction for incorporation is that the mortgage interest is fully tax deductible for a company.
With the current rate of corporation tax at 19% and due to fall to 17% from 1 April 2020, this makes a more favourable option than previously. However there is a potential for capital gains tax (CGT) and Stamp Duty Land Tax (SDLT) in respect of the transfer.
Careful consideration should be made to ensure that from all tax perspectives there will be a benefit from taking this option. But, depending on the scale and operation of the property investment incorporation, tax relief may be available and the capital gains tax can be deferred.
Mitigating the Stamp Duty Land Tax (SDLT)
Using a family partnership structure can be a good alternative. It will not escape the restriction of the finance costs, as this will need to be in place for some time before it is incorporated as a limited company, but it can be a solution for the Stamp Duty Land Tax and capital Gains Tax when the property business is transferred from a partnership to a limited company.