Rental income on residential property (Buy to let) - an update

Since writing the original blog on rental income, there have been a couple of significant changes.

The first relates to the wear and tear allowance. This change takes effect from April 2016 so we are just at the end of the first tax year affected by this change.

Under the old system, landlords with furnished property could make a deduction of 10% ( possibly with a few small adjustments) of their rental income in calculating the taxable profit.

This will affect all residential landlords whether personal or corporate.

Under the new rules, the costs actually incurred on replacements will be an allowable deduction

A complication arises where the replacement is not like-for-like (or the nearest modern equivalent) since the cost of any improvement is not an allowable deduction.

The second change relates to the deduction of finance costs (for example, mortgage interest) in arriving at taxable profits. This deduction would have caused tax relief at the top rate of tax being paid by an individual, often at 40% or even 45%. Restriction of this relief will now be phased in from April 2017 with 25% of the finance costs only achieving basic rate tax relief. This basic rate element will increase to 50% in 2018/19, 75% in 2019/20 and will be entirely at basic rate only from 2020/21.

The effect of this change is that from 2020/2021, all taxpayers with rental income, whether personal or corporate, will receive the same tax relief (20%) on their finance costs, regardless of their tax rate.

The structure of holdings of residential, rental property should be reviewed in 2017/18 for existing holdings and as new acquisitions are planned going forwards.

Good advice should consider the situation on a case by case basis because there are other factors, including other taxes to consider.

Partners who together own rental property and are not married can agree to how any taxable income should be split. However this is not so straight forward when the partners are married.

Married couples often own property as joint owners. This means that they jointly own the entire property in equally shares. The split of any rental income is 50:50. It should also be noted that in this situation, where one spouse dies their share in the property goes to the surviving spouse and can not be treated otherwise by the will.

The alternative is to hold the property as tenants in common. This allows distinct shares in the property, which need not be equal. It also allows the will to determine what will happen to the share property in the event of death.

Where the percentages of beneficial ownership between husband and wife are formally amended, HM Revenue & Customs must be notified within 60 days by lodging Form 17 ("Declaration of beneficial interests in joint property income").

Capital Allowances on Property Acquisitions

One of the major changes under the Finance Bill 2012 relates to the capital allowances available to the purchaser of a property.

Previously the section 198 election was optional it will now become mandatory.

Even if the seller has not claimed any capital allowances there will be a mandatory requirement for capital expenditure to be identified and pooled by the seller (that is, notified to HMRC). Broadly, this can be done up to two years after the sale of the property.  This leads to the strange possibility that the buyer may have to ask the seller to pool the expenditure after the sale has been completed which would be achieved by the commissioning of a capital allowances specialist. There will obviously need to be a negotiation over who pays for the capital allowances claim in these circumstances and how any identified capital allowances will be allocated between the parties.

If the seller has not pooled the capital allowances qualifying expenditure within the required period then the right to claim capital allowances is lost not only by the new owner but by any subsequent potential purchaser.  Furthermore, a S198 election agreement must be entered into. If either requirement is missed then any right to claim capital allowances on the property will be lost entirely to both the new owner and any future owner.

Where capital allowances claims are missed in this way it could actually reduce the potential value of the property in a buyer’s eyes so making a capital allowances claim is an imperative for owners of commercial property.  Potentially conveyancing solicitors will need to take much more interest in capital allowances or risk being sued by their clients for not providing the correct advice at the time of sale / purchase.

This is now a critical consideration as part of the pre completion paperwork for a buyer of property to ensure that the seller has made the appropriate election.

Source: HMRC

Pensions and the Lifetime Allowance - do you need to act before 6 April 2014?

The amount that an individual in the UK can accumulate in their pension scheme before it will be hit by a tax charge is called their Lifetime Allowance ("LTA").

As of 6 April 2012, this was reduced from £1.8m to £1.5m. A further reduction to £1.25m will take place on 6 April 2014.

If you have a pension pot that you expect to be over £1.25m by the time you take your benefits, you can apply for protection to retain the higher £1.5m lifetime allowance. There are conditions attached that include making no further pension contributions. There are two forms of protection available, both of which can be applied for, but one must be claimed by 5 April 2014.

This situation applies to more people than is immediately apparent.

Consider two examples with no further pension contributions:

- You are now 45, looking to retire at 60 and currently have a pot of £450,000.

With average annual growth higher just 7%, your pot will exceed £1.25m by the time you retire.

- You are now 40, looking to retire at 65 and current have a pot of just £225,000.

If we again assume an average annual growth rate over 7% , your pot will be over the threshold when you reach 65.

Please note that one of the condition for this protection to remain in place is that you do not make further pension contributions so Once auto enrolment arrives for you, you will need to opt out of it within 1 month in order to retain this protection.

If this siuation might apply to you, you should take proper professional advice as soon as possible.

Bear in mind that if you have a reasonable pension pot and you are in a position to make additional contributions this year, it may be advantageous to do so.

If you have further questions or would like an introduction to a very helpful wealth planner, who can review your pension arrangements, please drop me an email ( philip.gale@businessorchard.com )

If you know of someone else who may be affected by this, please pass this on. 

Failure to act now could be very expensive.