Since George Osborne announced that he would be reducing eligible interest relief on Buy to Let properties from 6 April 2017, some landlords believe they can mitigate the loss of tax relief by creating an incorporated company for buy to let purposes.
Buy to let property has been a popular investment. In the past five years, the number of players in this market has soared. Since last July, a building society reported a 200% increase in mortgages from companies set up specifically to take advantage of the new tax rules in buy to let.
But setting up a company in order to enter the buy to let market might also lead to some potentially heavy future tax bills, especially after the property has been sold. First, there are the costs of creating the new company. An existing buy to let investor who decides to transfer properties into a corporate ownership structure, will need to meet legal fees, stamp duty (possibly) and administration fees. Once the company is set up, there is the admin burden of filing annual company tax returns and sets of accounts.
But perhaps more importantly, especially for top rate tax payers with six figure incomes, the tax implications of such a move must be considered.
For those lucky enough to be earning over £150,000 a year, the effective tax rate could become £49.86 on every additional £100 of incremental profits earned in 2017/18.
The new property company will have to pay corporation tax of 19% from 1 April 2017 (therefore also interest relief at 19%) and shareholders will also face a tax on dividends at either a rate of 7.5%, 32.5% or 38.1% above the first £5,000 depending on their income (based on 2017 rates). Top earners could easily see around half the firm’s profit being swallowed up in tax. You should not forget that gains arising on future sales will also be taxed in the company and then be taxed again when withdrawn. Not particularly much comfort when the property portfolio is held for capital appreciation and half the gains are lost in tax!
On top of this, it is highly unlikely that low interest rates will last forever. So for those thinking of financing the purchase of other properties through bank debt, they must run the numbers against the likelihood of higher costs of that debt.
We are therefore advising investors considering incorporating a firm for buy for let purposes to do so with their eyes fully open, and to look at alternative options, some of which may well be much more tax efficient.
Stamp Duty Land Tax
Following the controversial restrictions to mortgage interest relief announced in the Summer Budget, from April 2016 Stamp Duty Land Tax rates have increased on the purchase of “additional residential properties” including second homes.
The increase in SDLT will apply equally to individual and corporate investors. The Chancellor said there will be reliefs for certain property developers, but the detail is as yet unknown.
Further, it was announced that a payment on account of capital gains tax due in the sale of residential property will be due 30 days after completion. This change will be effective from April 2019 and brings the payment date in line with that which applies to non-residents who suffer the new NonResident CGT. The message here is that it is essential that the tax position must be part of the sale process rather than an after thought.
For more information please contact Tom Penman, Tax Partner on 028 90323466.