What are the changes to buy-to-let tax and what do they mean for me?
In 2015 the Chancellor’s Summer Budget caused some major changes to mortgage interest tax relief and the stamp duty surcharge.
Discount Landlord has put together a small guideline to help landlords and home owners understand the new changes in place.
Mortgage Tax Relief
Previously, landlords could claim tax relief on their mortgage interest payments. They could offset the cost of the mortgage interest against rental income when they calculated their profits.
Currently with the changes implemented by George Osborne, landlords will no longer be able to deduct all their mortgage interest when they work out their profits. Instead, mortgage interest tax relief will gradually be cut back to 20% between 2017 and 2020.
So, a landlord with a rental income of £10,000 and £9,000 of mortgage interest to pay will have to pay tax on the full amount, less a 20% credit on the mortgage interest. The tax bill for a higher rate taxpayer would therefore work out at £4,000 (40% of £10,000 profit) minus £1,800 (20% of £9,000 interest), which equals £2,200, up from £400 under the current tax regime.
That’s a tremendous increase of £1,800. A landlord who pays 45% tax could expect a tax bill of £2,700, compared with £450 previously.
Effects on Profit
If you are a higher-rate taxpayer, the new tax will wipe out your returns if your mortgage interest is 75% or more of your rental income.
According to accounting firm Smith & Williamson, the threshold for additional-rate taxpayers is when mortgage interest reaches 68% of rental income.
The new law will not affect the tax liability of a basic-rate taxpayer. However the new profit calculation could push a basic-rate taxpayer into a higher tax band.
Limited companies are not affected by the changes to mortgage interest tax relief.
Many landlords are setting up limited companies to minimise the impact of the new tax regime. However, it’s important to remember that HMRC will treat any transfer of ownership of a property as a sale, so there could be a capital gains tax (CGT) bill to pay.
The mortgage options might also be limited because lenders offer a restricted choice of home loans to companies.
A landlord could also transfer property ownership to a spouse or partner who is in a lower tax band, however there are CGT implications. The landlord needs to be careful so the property ownership does not lift the spouse into a higher tax bracket.
Despite implementing harsh changes to mortgage interest, the Chancellor, George Osborne, also imposed tighter restrictions on wear and tear allowance.
From early this year, landlords were no longer allowed to automatically deduct 10% of their rental profits as notional wear and tear. They will be able to claim tax relief only on costs they have actually incurred, such as if they have bought a new sofa or bed for the property.
Due to tax claim they will need to keep receipts. Previously, landlords could write off the 10% even if they had not spent a single penny on repairs or replacements.
As mentioned before, a stamp duty surcharge for landlords was announced in the 2015 Autumn Statement.
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