CAN YOU CLAIM MORTGAGE INTEREST ON RENTAL PROPERTIES 2024?
Tom Condon
February 20th 2024
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The tax landscape for landlords and property investors in the UK has undergone considerable changes, notably in the way mortgage interest rental property tax relief is administered.
The transition from direct deduction of mortgage interest from rental income to a more nuanced system that grants a 20% tax credit represents a pivotal shift in tax policy. This evolution has far-reaching implications for the profitability and financial management of rental properties.
In this article, we aim to navigate through the intricacies of these recent tax changes, elucidating the available reliefs and exemptions that remain accessible to property investors.
Additionally, we will guide you on accurately reporting your tax returns in light of these alterations.
Beyond compliance, understanding how to optimise your tax position is crucial; thus, we will also delve into strategic financial planning, focusing on how much profit is realistic and achievable from rental properties in the current tax climate.
Whether you’re a seasoned landlord or new to the property investment scene, this article is designed to equip you with the knowledge to navigate the changing tides of property taxation effectively.
In the context of rental properties, mortgage interest rental property refers to the cost you pay to borrow money from a lender to purchase the property you intend to rent out. It’s essentially the interest rate charges on the mortgage loan amount.
While the way mortgage interest is treated for tax purposes has changes in the UK, understanding it’s basic function remains important:
Previously to 2020, landlords could directly deduct the full amount of mortgage interest rental property from their rental income before calculating their tax liability. Currently, this deduction is no longer allowed. Instead landlords receive a 20% tax credit on a limited portion of their expenses, which may include a portion of the mortgage interest paid.
What is Buy To Let mortgage interest on a rental property?
Buy To Let mortgages are specifically designed for financing rental properties and usually have higher interest rates compared to standard residential mortgages. There are stricter eligibility requirements as lenders assess the potential rental income and risk involved.
Some Buy To Let mortgages are interest only, which means you only pay the interest each month and not the capital amount. This can improve cash flow but requires the full loan amount to be repaid at the end of the term.
Claiming mortgage interest on rental properties in the UK has seen significant changes, with the current approach limiting the tax relief landlords can claim. Now, instead of deducting the entire mortgage interest rental property amount directly from rental income before tax is calculated, landlords are entitled to a 20% tax credit.
This relief is calculated on the lower of three amounts: the total finance costs (which encompasses all interest payments on loans for the rental property), the property’s net profit before finance costs (essentially the rental income minus all allowable expenses except for finance costs), or the adjusted total income for the tax year, which includes adjustments for certain items.
To claim this 20% tax credit, landlords must diligently keep records of all rental income and expenses, including mortgage interest payments. Those with rental income exceeding their Personal Allowance are required to register for Self Assessment and complete a tax return.
During this process, landlords should report their gross rental income and deduct allowable expenses, factoring in the 20% tax credit on mortgage interest, to accurately determine their tax liability.
CAN I CLAIM TAX RELIEF ON MORTGAGE INTEREST?
While direct tax relief on mortgage interest for residential properties has been phased out, you are still eligible for a 20% tax credit. This credit is calculated based on the lower of three amounts:
- Your total finance costs: Which includes all interest payments on loans for the property.
- The net profit of the property before accounting for finance costs: Your rental income minus all allowable expenses except for finance costs.
- Your adjusted total income for the tax year.
However, the situation differs when it comes to non-residential properties. For these types of properties, you are permitted to deduct the entire amount of mortgage interest rental property directly as an expense.
This deduction is made before the calculation of your taxable rental profit, offering a more straightforward method of reducing your tax liability for non-residential property investments.
What are the allowable expenses for rental properties in the UK?
Maximising your deductions can significantly reduce your tax liability on rental income and is a key strategy for minimising the tax owed on rental income. Below is an essential guide to distinguishing between allowable and on-allowable expenses:
Allowable expenses
There are costs directly associated with the upkeep and operation of your rental property, which can be deducted from your rental income prior to tax calculation:
Fees paid to agents for tenant recruitment and property management.
Fees charged by management entities or freeholders for the upkeep of communal areas or facilities.
Premiums for building and contents insurance covering various risks.
Costs incurred in maintaining the property’s condition, excluding any improvements.
Costs for travel essential to managing the property, such as inspections or overseeing repairs.
Professional fees for the preparation of tax returns or management of the property’s finances.
Costs borne by the landlord during periods when the property is vacant.
Non-allowable expenses
Certain expenditures cannot be deducted from rental income for tax purposes:
Costs related to property enhancements that increase its market value, e.g. building extensions or major renovations.
Any spending not directly linked to the property’s maintenance or operation, such as personal use furniture.
The principal portion of mortgage payments is excluded from deductible expenses.
For costs shared between persona and rental use, only the portion attributable to rental activities is deductible.
Distinguishing between allowable and non-allowable expenses is important for accurate and compliant tax reporting.
Where do I put mortgage interest on self assessment?
When completing your Self Assessment tax return in the UK, it’s important to accurately report the mortgage interest from your rental property.
Here’s how to do it:
Property pages section
- Navigate to the section titled either ‘Property’ or ‘Residential property’ on your tax return.
- Within this section, locate the box marked ‘Residential property finance costs.’
- Input the total mortgage interest paid over the rental property during the tax year.
Key points to note
- This is only applicable to residential rental properties.
- For non-residential properties, you’re allowed to fully deduct mortgage interest rental property as an expense which should be reported in a different section of your tax return.
- The 20% tax credit for mortgage interest does not need to be manually entered; it is automatically calculated from the details you provide.
The UK tax system offers various reliefs and allowances to ease the tax burden on individuals and businesses. One such example is the 20% tax credit system, designed to provide tax relief for specific types of income, primarily savings interest and dividends received by individuals.
How does the 20% Tax Credit System work?
The 20% tax credit system is designed to apply to specific sources of income like savings interest from accounts like Individual Savings Accounts (ISAs) and dividends received from shares held in companies.
For basic rate taxpayers, whose total income falls within the basic rate tax band, this tax credit essentially covers the tax liability for their savings and dividend income, meaning no additional tax is required on these earnings.
However, individuals whose income exceeds the basic rate threshold may still face additional tax obligations on their savings and dividends. The good news for them is that the 20% tax credit they’ve already received is taken into account, thereby reducing the total tax owed. On the other hand, non-taxpayers or those whose total income is below the Personal Allowance, are eligible to claim back the 20% tax that was deducted from their savings interest.
There are important exemptions to note within this system, particularly concerning limited companies and furnished holiday lets (FHLs).
For limited companies, dividends paid out to shareholders do not qualify for the 20% tax credit. Instead, these dividends are subject to a separate dividend allowance, with any amount over this allowance taxed according to the shareholder’s tax band.
Moreover, the profits that limited companies earn are subject to Corporation Tax, not the 20% tax credit system, and only after this tax can the remaining profits be distributed as dividends.
For FHLs, to qualify, a property must be furnished and located in the UK or the EEA, meeting certain criteria for availability and occupancy. The profits from FHLs bypass the 20% tax credit system altogether, being treated as earned income and thus liable for Income Tax.
Nonetheless, Furnished Holiday Let owners are entitled to various tax benefits, including Capital Gains Tax reliefs and allowances for allowable expenses, providing a somewhat compensatory framework for the lack of a 20% tax credit.
What is the 20% Tax Credit System for property?
The 20% tax credit system applies to specific types of income, including savings interest and dividends. While not directly relevant to rental income, it’s important to be aware of its limitations in the context of property investment.
Limited applicability for property investors:
- Rental income: The 20% tax credit system does not apply to rental income. Profits from rental properties are treated as earned income and subject to Income Tax at your marginal tax rate.
- Dividend income: If you hold shares in companies owning rental properties, any dividends received might be eligible for the 20% tax credit, depending on the specific structure. However, this applies only to the dividend portion, not the underlying rental income.
Key points for landlords:
- Focus on allowable expenses: Instead of relying on the 20% tax credit, property investors should focus on maximising allowable expenses they can deduct from their rental income. Examples include repairs, maintenance, agent fees and interest on buy-to-let mortgages (up to certain limits).
- Seek professional advice: Consulting a qualified tax advisor is recommended to ensure you’re claiming all eligible deductions and optimising your tax position within the legal framework.
Why is the 20% Tax Credit System bad news for landlords?
The introduction of the 20% tax credit system in the UK has sparked a mix of reactions among landlords, many of whom view the changes as a step backward from the previous method of directly deducting mortgage interest from rental income.
Below, we delve into the reasons behind this sentiment and the implications for property investors.
Before: Landlords enjoyed the benefit of deducting the entire amount of mortgage interest directly from their rental income, effectively lowering their taxable income and, by extension, their tax bill.
Now: The shift to a 20% tax credit, applicable only to a fraction of total finance costs (including mortgage interest), has scaled back the tax relief available. This recalibration often results in a heavier tax burden for landlords, marking a significant departure from the prior, more favourable tax treatment.
The process for calculating the 20% tax credit introduces a layer of complexity unseen in the straightforward approach of direct deductions. Landlords must now navigate through a maze of criteria, including the property’s net profit, the landlord’s adjusted total income, and the comprehensive finance costs, to accurately ascertain their tax obligations.
This complexity necessitates meticulous record-keeping and, in many cases, the assistance of tax professionals, adding to the administrative burden on landlords.
The reformulation of tax relief into a 20% tax credit means a higher taxable income for many landlords, squeezing profit margins. This financial pinch is particularly acute for those operating on slender margins or contending with escalating expenses in property upkeep and management.
The revised tax treatment has cast a shadow over the allure of buy-to-let investments for a segment of landlords, particularly those who leaned heavily on the tax advantages previously afforded.
The prospect of diminished returns may deter prospective investors from entering the market, potentially influencing the availability and dynamics of rental housing stock.
While the immediate response to these changes has been largely critical among landlords, it’s crucial to acknowledge the broader context:
- The government’s rationale for the overhaul was to temper what was perceived as disproportionately generous tax relief for landlords, which, according to some viewpoints, contributed to escalating housing costs.
- Despite the scaling back of benefits, the 20% tax credit system retains a measure of tax relief for property investors. The actual impact of these changes varies widely, contingent on individual financial circumstances, the nature of the investment property, and associated mortgage costs.
Yes, owning a mortgage on your UK property does not exempt you from paying tax on your rental income. The presence of a mortgage has no direct impact on the tax liability for the income generated from your property.
Here’s a closer look at how taxation on rental income operates:
- Taxable rental income: The rent collected from your property is deemed taxable income and must be reported to HMRC.
- Mortgage interest rental property deductions: The full amount of mortgage interest can no longer be deducted from your rental income before tax is computed.
- 20% Tax Credit on certain expenses: You are eligible for a 20% tax credit, which is applied to the lesser of your total finance costs, property net before finance costs and your adjusted total income.
While direct deduction of mortgage interest from your rental income for tax purposes is no longer possible, the 20% tax credit offers a measure of financial relief.
Choosing the right financing method for acquiring a Buy To Let property –whether it’s through bridging finance or a traditional mortgage hinges on your financial situation, investment strategy and the specifics of the property deal at hand.
Here we have a detailed analysis of both options, highlighting their advantages and challenges to help you make a well-informed decision:
The pros and cons of Bridging Finance
Advantages:
Bridging loans are known for their rapid processing times, often available within days or weeks, making them perfect for urgent purchases, such as auction properties or snagging a deal in a competitive market.
These loans offer leniency in eligibility, beneficial for dealing with unconventional properties or situations that require swift renovation before long-term financing can be secured.
Bridging finance allows you to tailor your exit strategy, whether that involves refinancing with a buy-to-let mortgage later on or selling the property for profit.
Disadvantages:
The convenience of bridging finance comes at a price, with higher interest rates that can eat into your investment returns.
Designed as a temporary solution, bridging loans necessitate a solid plan for repayment or refinancing within a brief period, typically under a year.
A clear exit strategy is essential; failing to secure long-term financing or a buyer in time can lead to financial strain.
The pros and cons of Buy To Let Mortgages
Advantages:
Mortgages typically offer lower interest rates, translating into more affordable borrowing costs and the potential for better returns on your investment.
With repayment terms extending up to 25 years or more, mortgages provide a stable financial foundation for your investment.
Securing a mortgage means predictable monthly payments, aiding in long-term budgeting and financial planning.
Disadvantages:
The mortgage application process is more time-consuming, requiring thorough financial checks and property appraisals.
Lenders impose rigorous criteria for buy-to-let mortgages, including proof of income and a property’s rental income potential.
Once a mortgage is in place, there’s limited room for adjusting terms or strategizing an exit without incurring additional costs.
Challenges:
The mortgage application process is more time-consuming, requiring thorough financial checks and property appraisals.
Lenders impose rigorous criteria for buy-to-let mortgages, including proof of income and a property’s rental income potential.
Once a mortgage is in place, there’s limited room for adjusting terms or strategizing an exit without incurring additional costs.
The mortgage application process is more time-consuming, requiring thorough financial checks and property appraisals.
Lenders impose rigorous criteria for buy-to-let mortgages, including proof of income and a property’s rental income potential.
Once a mortgage is in place, there’s limited room for adjusting terms or strategizing an exit without incurring additional costs.
Experienced investors with clear plans might find bridging finance suitable, while newcomers might benefit from the predictability and safety of a mortgage. For properties needing immediate renovation, bridging finance can provide the quick capital required, allowing time to enhance the property’s value before securing a mortgage.
The choice between bridging finance and a mortgage may also depend on market conditions; a fast-paced market favours the quick action bridging loans allow, whereas a slower market might make the cost benefits of a mortgage more appealing.
Why should you consider Bridging finance when purchasing a Buy To Let property?
Considering bridging finance for the acquisition of a Buy To Let property presents numerous advantages for property investors and landlords, particularly those looking to capitalise on time-sensitive opportunities or navigate competitive markets efficiently.
As a property sourcing company, we predominantly engage with cash buyers and investors utilising bridging finance, recognising the distinct benefits this approach offers to both our operations and our clients’ investment outcomes.
Accelerated property transactions
Bridging finance significantly outpaces traditional mortgage processes in terms of speed, providing a swift route to property acquisition. While obtaining a mortgage might extend over several weeks or months due to exhaustive lender checks and approvals, bridging loans facilitate rapid turnaround times.
This expedited process is invaluable in scenarios where time is of the essence, such as auction purchases or when a property comes to the market under unique, competitive conditions.
By enabling quicker transactions, bridging finance allows us to promptly secure properties, offering our investors the advantage of being first in line for high-potential investments and, consequently, the opportunity to realise higher returns.
Risk reduction and transaction certainty
One of the critical challenges in property transactions is the risk of deal collapse due to financing delays or failures. Traditional mortgages, with their inherent uncertainties and potential for lengthy processing times, can introduce significant risk into a transaction.
Bridging finance, by contrast, provides a level of transaction certainty that is highly attractive to both property sourcing companies and investors. By working with investors who have pre-arranged financing or readily available cash, we can significantly mitigate the risk of deals falling through.
This not only ensures a smoother, more reliable transaction process but also minimises the time and resources our investors need to commit before seeing returns on their investments.
Benefits to property investors and landlords
- Speed of Acquisition: Investors can quickly close on properties, making them competitive buyers in hot markets.
- Higher Profit Potential: Fast access to properties, particularly those sold at auction or requiring quick sales, can lead to better purchase prices and higher potential profits.
- Efficiency and Reliability: The efficiency of bridging finance reduces the waiting period and uncertainty associated with mortgage approvals, streamlining the investment process.
- Flexibility in Property Choice: Investors are not limited to properties that meet the strict lending criteria of traditional mortgages, opening up a broader range of investment opportunities, including fixer-uppers and non-standard properties.
Determining the ideal profit margin for a rental property in the UK is complicated, as it hinges on a multitude of variables, making it challenging to pinpoint a universal figure. The profitability of a rental property is subject to various elements, each contributing to the overall financial outcome of the investment.
Key factors that impact profitability include the location of the property, which directly affects rental yields – the profit as a percentage of the property’s value. Usually areas with higher property values may yield lower rental returns.
The type of property, whether it’s a house, apartment, or specialised accommodation like student lets. Also dictates the potential rental income and associated costs.
Financial considerations such as mortgage rates, maintenance and repair expenses, as well as management fees if a letting agent is involved, play significant roles in determining net profit. Additionally a thorough understanding of taxation, including how to navigate the 20% tax credit on mortgage interest rental property, is essential for maximising profit.
When it comes to benchmarks, national averages suggest that a rental yield of 4-5% is considered respectable for many landlords, though this figure can vary widely depending on the location and property type. Some areas may offer higher yields, but these can come with increased risks or demand more sophisticated management strategies.
What are the average rental yields by region in the UK 2024?
Here’s an overview of the lowest, highest and average rental yields for properties in each region of the UK as of February 2024:
Region | Lowest Yield (%) | Highest Yield (%) | Average Yield (%) |
|---|---|---|---|
| Scotland | 5.80 | 8.52 | 7.32 |
| North East | 4.80 | 8.50 | 5.18 |
| North West | 4.50 | 8.41 | 6.52 |
| Yorkshire & the Humber | 4.20 | 7.20 | 5.84 |
| East Midlands | 4.10 | 7.06 | 6.23 |
| West Midlands | 4.00 | 6.80 | 5.41 |
| East of England | 3.80 | 6.13 | 5.17 |
| London | 3.50 | 6.24 | 4.92 |
| South East | 3.20 | 6.00 | 5.17 |
| Northern Ireland | 2.80 | 6.50 | 6.24 |
Tom Condon
February 20th 2024
Share this post
Start your property portfolio today!
CAN YOU CLAIM MORTGAGE INTEREST ON RENTAL PROPERTIES 2024?
The tax landscape for landlords and property investors in the UK has undergone considerable changes, notably in the way mortgage interest rental property tax relief is administered.
The transition from direct deduction of mortgage interest from rental income to a more nuanced system that grants a 20% tax credit represents a pivotal shift in tax policy. This evolution has far-reaching implications for the profitability and financial management of rental properties.
In this article, we aim to navigate through the intricacies of these recent tax changes, elucidating the available reliefs and exemptions that remain accessible to property investors.
Additionally, we will guide you on accurately reporting your tax returns in light of these alterations.
Beyond compliance, understanding how to optimise your tax position is crucial; thus, we will also delve into strategic financial planning, focusing on how much profit is realistic and achievable from rental properties in the current tax climate.
Whether you’re a seasoned landlord or new to the property investment scene, this article is designed to equip you with the knowledge to navigate the changing tides of property taxation effectively.
WHAT IS MORTGAGE INTEREST ON A RENTAL PROPERTY?
In the context of rental properties, mortgage interest rental property refers to the cost you pay to borrow money from a lender to purchase the property you intend to rent out. It’s essentially the interest rate charges on the mortgage loan amount.
While the way mortgage interest is treated for tax purposes has changes in the UK, understanding it’s basic function remains important:
Previously to 2020, landlords could directly deduct the full amount of mortgage interest rental property from their rental income before calculating their tax liability. Currently, this deduction is no longer allowed. Instead landlords receive a 20% tax credit on a limited portion of their expenses, which may include a portion of the mortgage interest paid.
What is Buy To Let mortgage interest on a rental property?
Buy To Let mortgages are specifically designed for financing rental properties and usually have higher interest rates compared to standard residential mortgages. There are stricter eligibility requirements as lenders assess the potential rental income and risk involved.
Some Buy To Let mortgages are interest only, which means you only pay the interest each month and not the capital amount. This can improve cash flow but requires the full loan amount to be repaid at the end of the term.
HOW TO CLAIM THE MORTGAGE INTEREST ON A RENTAL PROPERTY?
Claiming mortgage interest on rental properties in the UK has seen significant changes, with the current approach limiting the tax relief landlords can claim. Now, instead of deducting the entire mortgage interest rental property amount directly from rental income before tax is calculated, landlords are entitled to a 20% tax credit.
This relief is calculated on the lower of three amounts: the total finance costs (which encompasses all interest payments on loans for the rental property), the property’s net profit before finance costs (essentially the rental income minus all allowable expenses except for finance costs), or the adjusted total income for the tax year, which includes adjustments for certain items.
To claim this 20% tax credit, landlords must diligently keep records of all rental income and expenses, including mortgage interest payments. Those with rental income exceeding their Personal Allowance are required to register for Self Assessment and complete a tax return.
During this process, landlords should report their gross rental income and deduct allowable expenses, factoring in the 20% tax credit on mortgage interest, to accurately determine their tax liability.
CAN I CLAIM TAX RELIEF ON MORTGAGE INTEREST?
While direct tax relief on mortgage interest for residential properties has been phased out, you are still eligible for a 20% tax credit. This credit is calculated based on the lower of three amounts:
- Your total finance costs: Which includes all interest payments on loans for the property.
- The net profit of the property before accounting for finance costs: Your rental income minus all allowable expenses except for finance costs.
- Your adjusted total income for the tax year.
However, the situation differs when it comes to non-residential properties. For these types of properties, you are permitted to deduct the entire amount of mortgage interest rental property directly as an expense.
This deduction is made before the calculation of your taxable rental profit, offering a more straightforward method of reducing your tax liability for non-residential property investments.
What are the allowable expenses for rental properties in the UK?
Maximising your deductions can significantly reduce your tax liability on rental income and is a key strategy for minimising the tax owed on rental income. Below is an essential guide to distinguishing between allowable and on-allowable expenses:
Allowable expenses
There are costs directly associated with the upkeep and operation of your rental property, which can be deducted from your rental income prior to tax calculation:
Fees paid to agents for tenant recruitment and property management.
Fees charged by management entities or freeholders for the upkeep of communal areas or facilities.
Premiums for building and contents insurance covering various risks.
Costs incurred in maintaining the property’s condition, excluding any improvements.
Costs for travel essential to managing the property, such as inspections or overseeing repairs.
Professional fees for the preparation of tax returns or management of the property’s finances.
Costs borne by the landlord during periods when the property is vacant.
Non-allowable expenses
Certain expenditures cannot be deducted from rental income for tax purposes:
Costs related to property enhancements that increase its market value, e.g. building extensions or major renovations.
Any spending not directly linked to the property’s maintenance or operation, such as personal use furniture.
The principal portion of mortgage payments is excluded from deductible expenses.
For costs shared between persona and rental use, only the portion attributable to rental activities is deductible.
Distinguishing between allowable and non-allowable expenses is important for accurate and compliant tax reporting.
Where do I put mortgage interest on self assessment?
When completing your Self Assessment tax return in the UK, it’s important to accurately report the mortgage interest from your rental property.
Here’s how to do it:
Property pages section
- Navigate to the section titled either ‘Property’ or ‘Residential property’ on your tax return.
- Within this section, locate the box marked ‘Residential property finance costs.’
- Input the total mortgage interest paid over the rental property during the tax year.
Key points to note
- This is only applicable to residential rental properties.
- For non-residential properties, you’re allowed to fully deduct mortgage interest rental property as an expense which should be reported in a different section of your tax return.
- The 20% tax credit for mortgage interest does not need to be manually entered; it is automatically calculated from the details you provide.
WHAT IS THE 20% TAX CREDIT SYSTEM?
The UK tax system offers various reliefs and allowances to ease the tax burden on individuals and businesses. One such example is the 20% tax credit system, designed to provide tax relief for specific types of income, primarily savings interest and dividends received by individuals.
How does the 20% Tax Credit System work?
The 20% tax credit system is designed to apply to specific sources of income like savings interest from accounts like Individual Savings Accounts (ISAs) and dividends received from shares held in companies.
For basic rate taxpayers, whose total income falls within the basic rate tax band, this tax credit essentially covers the tax liability for their savings and dividend income, meaning no additional tax is required on these earnings.
However, individuals whose income exceeds the basic rate threshold may still face additional tax obligations on their savings and dividends. The good news for them is that the 20% tax credit they’ve already received is taken into account, thereby reducing the total tax owed. On the other hand, non-taxpayers or those whose total income is below the Personal Allowance, are eligible to claim back the 20% tax that was deducted from their savings interest.
There are important exemptions to note within this system, particularly concerning limited companies and furnished holiday lets (FHLs).
For limited companies, dividends paid out to shareholders do not qualify for the 20% tax credit. Instead, these dividends are subject to a separate dividend allowance, with any amount over this allowance taxed according to the shareholder’s tax band.
Moreover, the profits that limited companies earn are subject to Corporation Tax, not the 20% tax credit system, and only after this tax can the remaining profits be distributed as dividends.
For FHLs, to qualify, a property must be furnished and located in the UK or the EEA, meeting certain criteria for availability and occupancy. The profits from FHLs bypass the 20% tax credit system altogether, being treated as earned income and thus liable for Income Tax.
Nonetheless, Furnished Holiday Let owners are entitled to various tax benefits, including Capital Gains Tax reliefs and allowances for allowable expenses, providing a somewhat compensatory framework for the lack of a 20% tax credit.
What is the 20% Tax Credit System for property?
The 20% tax credit system applies to specific types of income, including savings interest and dividends. While not directly relevant to rental income, it’s important to be aware of its limitations in the context of property investment.
Limited applicability for property investors:
- Rental income: The 20% tax credit system does not apply to rental income. Profits from rental properties are treated as earned income and subject to Income Tax at your marginal tax rate.
- Dividend income: If you hold shares in companies owning rental properties, any dividends received might be eligible for the 20% tax credit, depending on the specific structure. However, this applies only to the dividend portion, not the underlying rental income.
Key points for landlords:
- Focus on allowable expenses: Instead of relying on the 20% tax credit, property investors should focus on maximising allowable expenses they can deduct from their rental income. Examples include repairs, maintenance, agent fees and interest on buy-to-let mortgages (up to certain limits).
- Seek professional advice: Consulting a qualified tax advisor is recommended to ensure you’re claiming all eligible deductions and optimising your tax position within the legal framework.
Why is the 20% Tax Credit System bad news for landlords?
The introduction of the 20% tax credit system in the UK has sparked a mix of reactions among landlords, many of whom view the changes as a step backward from the previous method of directly deducting mortgage interest from rental income.
Below, we delve into the reasons behind this sentiment and the implications for property investors.
Before: Landlords enjoyed the benefit of deducting the entire amount of mortgage interest directly from their rental income, effectively lowering their taxable income and, by extension, their tax bill.
Now: The shift to a 20% tax credit, applicable only to a fraction of total finance costs (including mortgage interest), has scaled back the tax relief available. This recalibration often results in a heavier tax burden for landlords, marking a significant departure from the prior, more favourable tax treatment.
The process for calculating the 20% tax credit introduces a layer of complexity unseen in the straightforward approach of direct deductions. Landlords must now navigate through a maze of criteria, including the property’s net profit, the landlord’s adjusted total income, and the comprehensive finance costs, to accurately ascertain their tax obligations.
This complexity necessitates meticulous record-keeping and, in many cases, the assistance of tax professionals, adding to the administrative burden on landlords.
The reformulation of tax relief into a 20% tax credit means a higher taxable income for many landlords, squeezing profit margins. This financial pinch is particularly acute for those operating on slender margins or contending with escalating expenses in property upkeep and management.
The revised tax treatment has cast a shadow over the allure of buy-to-let investments for a segment of landlords, particularly those who leaned heavily on the tax advantages previously afforded.
The prospect of diminished returns may deter prospective investors from entering the market, potentially influencing the availability and dynamics of rental housing stock.
While the immediate response to these changes has been largely critical among landlords, it’s crucial to acknowledge the broader context:
- The government’s rationale for the overhaul was to temper what was perceived as disproportionately generous tax relief for landlords, which, according to some viewpoints, contributed to escalating housing costs.
- Despite the scaling back of benefits, the 20% tax credit system retains a measure of tax relief for property investors. The actual impact of these changes varies widely, contingent on individual financial circumstances, the nature of the investment property, and associated mortgage costs.
DO I HAVE TO PAY TAX ON RENTAL INCOME IF I HAVE A MORTGAGE?
Yes, owning a mortgage on your UK property does not exempt you from paying tax on your rental income. The presence of a mortgage has no direct impact on the tax liability for the income generated from your property.
Here’s a closer look at how taxation on rental income operates:
- Taxable rental income: The rent collected from your property is deemed taxable income and must be reported to HMRC.
- Mortgage interest rental property deductions: The full amount of mortgage interest can no longer be deducted from your rental income before tax is computed.
- 20% Tax Credit on certain expenses: You are eligible for a 20% tax credit, which is applied to the lesser of your total finance costs, property net before finance costs and your adjusted total income.
While direct deduction of mortgage interest from your rental income for tax purposes is no longer possible, the 20% tax credit offers a measure of financial relief.
IS IT BETTER TO HAVE BRIDGING FINANCE OR A MORTGAGE WHEN BUYING BUY TO LET?
Choosing the right financing method for acquiring a Buy To Let property –whether it’s through bridging finance or a traditional mortgage hinges on your financial situation, investment strategy and the specifics of the property deal at hand.
Here we have a detailed analysis of both options, highlighting their advantages and challenges to help you make a well-informed decision:
The pros and cons of Bridging Finance
Advantages:
Bridging loans are known for their rapid processing times, often available within days or weeks, making them perfect for urgent purchases, such as auction properties or snagging a deal in a competitive market.
These loans offer leniency in eligibility, beneficial for dealing with unconventional properties or situations that require swift renovation before long-term financing can be secured.
Bridging finance allows you to tailor your exit strategy, whether that involves refinancing with a buy-to-let mortgage later on or selling the property for profit.
Disadvantages:
The convenience of bridging finance comes at a price, with higher interest rates that can eat into your investment returns.
Designed as a temporary solution, bridging loans necessitate a solid plan for repayment or refinancing within a brief period, typically under a year.
A clear exit strategy is essential; failing to secure long-term financing or a buyer in time can lead to financial strain.
The pros and cons of Buy To Let Mortgages
Advantages:
Mortgages typically offer lower interest rates, translating into more affordable borrowing costs and the potential for better returns on your investment.
With repayment terms extending up to 25 years or more, mortgages provide a stable financial foundation for your investment.
Securing a mortgage means predictable monthly payments, aiding in long-term budgeting and financial planning.
Disadvantages:
The mortgage application process is more time-consuming, requiring thorough financial checks and property appraisals.
Lenders impose rigorous criteria for buy-to-let mortgages, including proof of income and a property’s rental income potential.
Once a mortgage is in place, there’s limited room for adjusting terms or strategizing an exit without incurring additional costs.
Large discounts on property
Completely transparent
Tailored investment opportunities
We’ll handle everything for you
Looking for hassle free property?
We’ve got you! Whatever your motivations as a landlord or property owner are, we can help source and match property with you.
When the foundations of your company are built upon industry knowledge and experience, you can’t help but be a self-confident company.
Here at The Property Sourcing Company, we are led by a roster of industry experts who have over 50 years of combined experience in doing BMV property deals, as well as packaging them up for investors.
Quality sits at the heart of our team, who go the extra mile to tailor our service to you. We pride ourselves in our ability to source you a wide variety of high-yield property investments.
Get in touch and we’ll establish what type of property you’re searching for, before talking you through our current investment opportunities. We’ll also keep you posted as we acquire new deals.
When you buy your investment property through us and we’ll take care of solicitors, surveys – everything – all to ensure you have a stress-free property purchase. It’s just one of the ways we make investment work for you.
Why invest with us?
Simply put, we’ll get you the best possible deal. Our sister company, The Property Buying Company, have been in the property buying industry for years & we have access to all their stock which is at a price point that is ready for investors to buy and make a great return on.
No middlemen, no stress & no hassle. We make investing in property and growing your portfolio as easy as it possibly can be.
