The great British buy to let market has been a mainstay of middle class wealth for decades. It has been a safe haven for excess funds; an easy to understand, accessible, liquid asset class which has seen thousands build up a valuable portfolio and in most cases generate additional income. Safer than equities, more accessible than pensions, everyone’s a winner with a fruitful customer base for mortgage lenders, brokers, letting agents, trades and cleaning companies (not to mention IKEA).
However, for many, this gravy train is coming to a shuddering, earth shattering crash. In George Osborne’s 2015 budget he announced Restricting Finance Cost Relief, in an attempt to level the playing field between first time buyers and investors. This meant that, over a staggered period between 2017/18 and 2020/21, higher rate tax payers can no longer claim mortgage interest as a tax deductible expense. Add to this the additional stamp duty charge on second homes and the post-tax benefits of buy-to-let are being radically diminished.
“For many, the Buy to Let gravy train is coming to a shuddering, earth shattering crash”
“This is two year old news”, you may be thinking, and it is indeed, however, we are now hurtling towards the end of the first tax year in which this legislation will have a real life financial impact on landlords and we have seen that, as is human nature, many landlords have adopted the ever popular head-in-sand response to the measure, hoping it would go away, or failing to do the sums to assess the impact on their own situation. We have even seen many higher rate taxpayers continue to take on leveraged residential property investments, safe in the knowledge that they will be paying 40% tax on most of the rental income.
The impact on individuals is dependent on their own income situation and on their debt / equity ratio. Cash investors will see no impact at all while those at maximum gearing will feel the pain the worst. Even basic rate tax payers close to the higher rate threshold could find themselves unwittingly upgraded to the poisoned chalice of only-just-higher-rate taxpayer when the mortgage finance tax relief is withdrawn.
To illustrate the point with a simplified extreme example, a higher rate tax payer who currently lets out a property for £24,000 per year, with mortgage interest of £18,000 per year and other costs of £3,000 per year, leaving a taxable profit of £3,000 and tax of £1,200 leaving £1,800 in her pocket, could soon find herself in a situation where she has a taxable profit of £21,000 instead of £3,000, tax of £8,400, and cash loss of £5,400. i.e. it will be costing her £5,400 per year to own and rent-out the property. This is before considering higher rate capital gains tax implications on any sale proceeds.
The younger generation are keener to shift their assets into limited companies.
As advisors to a number of individual landlords and property companies, we have been discussing the subject with clients on a daily basis over the past couple of years. Only now are we seeing real action taking place, mostly in the form of “run away”…. We have noticed two distinct courses of action; those at a more advanced stage of life are looking at options such as selling up, paying the capital gains tax and transferring money into pensions, and at the same time looking at inheritance options, while the younger generation are keener to shift their assets into limited companies.
Transferring mortgaged properties to a limited company has many complications and costs which in many cases in the past have outweighed the tax advantages, however, lenders appear to be bringing their products more in line with non-commercial products in terms of costs and conditions. We have assisted many clients with this transition from a tax planning and funding perspective and foresee a large move in this direction over the coming years.
There are many options available and what is right for one person may not be right for another, so it is important to do the maths and understand the tax.
Whatever course of action you take, it is important to receive professional advice for both tax and financial planning and to make decisions in the context of general wealth planning.
Get in touch for more information.
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