United Kingdom

Do tax changes put paid to buy-to-let companies?

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Do tax changes put paid to buy-to-let companies?

Hundreds of thousands of UK landlords own their portfolios through limited companies to separate their investment properties from their personal assets and reduce their tax bills.

But with corporation tax rates going up from next April, what advice can letting agents give landlords to help them structure their buy-to-let investments and save money?

How we got here

In 2015 the government removed mortgage interest tax relief under Section 24 of the Finance Act 2015, meaning that private landlords could no longer deduct mortgage interest payments (and other finance costs like mortgage fees) from their rental income when working out how much tax they had to pay.

The tax relief was phased out from 2017 and stopped completely in 2021. Instead, landlords can now claim 20% of the mortgage interest they paid back as a tax credit. This means that landlords paying the basic rate of income tax are in the same position as before, but landlords in higher bands owe HMRC at least an extra 20p for every pound of mortgage interest they pay.

But the Section 24 changes only affected individual landlords. Buy-to-let companies could go on claiming mortgage interest as a business expense (and still do), reducing their taxable profit. At the time, landlords who used buy-to-let companies would also pay a flat 19% corporation tax on their rental income less business expenses, instead of 20% or more income tax. 

In response, tens of thousands of landlords set up their own companies to manage their buy-to-let properties more tax-efficiently. A report by Hamptons in January 2022 found that there are now more than 300,000 buy-to-let companies in the UK, twice as many as in 2017. Between them, these limited liability landlords are responsible for about 40% of all buy-to-let purchases.

What changed?

Corporation tax is going up from 19% to 25% from April 2023, pushing it above the basic rate of income tax but still well below the 40% higher rate. In the wake of the announcement, some landlords worried that they would end up paying more tax through their buy-to-let companies than they would as individual owners.

But to lessen the impact, the new corporation tax rate ‘tapers’, meaning most landlords won’t be affected. Companies with an annual profit of less than £50,000 will still pay the same 19% corporation tax as before, and the full 25% tax only kicks in on businesses making over £250,000 of annual profit. According to Hamptons, the average institutional landlord has around three investment properties – almost certainly not enough to have to worry about the full rate.

Landlords with small portfolios who pay the basic rate of income tax will pay about the same amount of tax whether they own their properties directly or through a company. The bigger difference is likely to be the admin: running a buy-to-let company means extra paperwork, like stricter accounting requirements (although as a letting agent running PayProp, you can massively reduce this admin by giving your landlords automated invoices built from live transaction data). Individuals also tend to get cheaper mortgage interest rates than companies do.

For landlords paying the higher rate of income tax, it’s still a straightforward choice. Even with a massive portfolio, they will still pay less tax by owning their properties through a limited company. In fact, the benefit of being able to claim your full mortgage interest payment as a business expense is only getting bigger as interest rates go up. 

Owning a property through a limited company can also have significant tax savings for higher rate taxpayer landlords choosing to sell. For properties owned personally, the landlord could face capital gains tax at 28% on any increase in the value of the property since it was purchased. By comparison, an institutional landlord would be taxed at corporation tax rates instead, namely 19-25%. 

Corporate landlords also have the option to sell shares in the company that owns the property instead of the property itself. Selling the company rather than the property means the next owner doesn’t have to pay Stamp Duty, allowing the original owner to charge more for the shares in the company than the property may be worth.

Has the corporation tax change made any difference at all?

Higher rate taxpayer landlords are still better off owning their properties through a company than as individuals, but those with large portfolios will have to pay more tax from April 2023. At a time when changes to mortgage interest tax relief, regulatory uncertainty and a tougher economic climate are already encouraging landlords to quit the sector, the corporation tax could be the last straw for some.

There are also some edge cases where the tax change could make a difference. Landlords who own large portfolios through a company while only earning a modest income (for example, while in retirement) may also now benefit from owning a property or two directly. So long as the rental income doesn’t take them too far out of the basic income tax band, they will save money compared to paying corporation tax without losing their mortgage interest tax credit. 

Then again, landlords looking to reduce the risk of running a rental portfolio may still wish to own their properties through a limited company to ensure they are better protected from any potential legal action. If the company is sued or goes bankrupt, losses are limited to its own assets, whereas an individual landlord could lose their home to pay debts or damages.

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