If you own (whether in full or partially) property which is let out, you will need to report the rental profits or losses on a self assessment tax return. Thus renting property for the first time may require you to register for self assessment using HMRC form SA1 (unless you are already having to do a tax return for other reasons). You need to register by 5 October following the tax year in which rental income first arises to avoid a possible penalty.

This fact sheet covers the letting of residential property (usually for a minimum six month assured tenancy period). If you have a furnished holiday letting (usually let for no more than 31 days to the same person in any one month), then see our separate fact sheet.

Where you first start to let out a property, you will need to compile the following information:

In Connection with any possible Capital Gains Tax when you eventually sell:

1. The full postal address of the property being let out.

2. The date the property was bought.

3. A copy of the completion statement showing the date and cost of the purchase, together with incidental costs of purchase such as stamp duty, search fees, legal fees, estate agents costs etc.

4. The dates (month and year) between which the property has ever been your main home, if relevant.

5. The date the property is first let out.

In connection with Income Tax in respect of the let property:

6. Ideally, completed spreadsheets recording the items shown below. We can provide you with the spreadsheets you need.

7. The rental income. Ideally, we need to know the dates from which and to which each month the rent relates. This is because the rental accounts need to be prepared on an “accruals” basis, not a “paid” basis. For example, if you receive a monthly rent from the tenant of £2,000 on 25 March which relates to the period from 24 March 2017 to 23 April 2017, only £774.19 (£2,000 x 12/31 days) will fall within the 2016/17 tax year, whilst the balance of £1,225.81 (£2,000 x 19/31 days) needs to be carried as income for 2017/18.

8. Rental outgoings. These include:

a) Landlord / Building insurance (content insurance is often the liability of the tenant).

b) For flats, the service charges and ground rent.

c) Repairs and maintenance. Only “revenue” type costs can be deducted from the rental income. “Capital” type costs will be added to the original cost of buying the property with tax relief on these costs only available when you sell the property (see Appendix 1 for a worked example). HMRC’s manuals at PIM2020 has more detailed guidance on the distinction between revenue and capital costs on property. In summary, it is a revenue cost where you repair or restore an asset and there is no “significant improvement” to it “beyond its original condition”. Where any improvement arises simply from using more modern materials or techniques which are broadly equivalent to older materials (an example would be replacing single glazed windows with double glazed), the cost can be deemed revenue and thus deductible from the rental income. HMRC takes the view that any improvement has arisen only because of the use of new materials that are now standard and accepted to be broadly equivalent to older materials. However, if the repair/restoration is such as to mean a substantially improved whole which has been upgraded other than simply through the use of new style materials, HMRC is likely to argue that the new whole is capital in full (an example might the complete stripping out of an outdated kitchen and replacing with new units, worktops etc.- likely to be 100% capital) rather than simply replacing the cabinet fronts (more likely 100% revenue). The more detail shown on builders’ invoices, the better for distinguishing between revenue & capital.

d) Water rates (to the extent this is not paid for by the tenant).

e) Gas safety certification costs.

f) PAT testing costs.

g) Council tax costs for any vacant period.

h) Lighting and heating costs for any vacant period.

i) Managing agent’s fees if relevant.

j) Agent’s finder’s fee for securing tenants.

k) Legal fees re contracts.

l) Inventory fees (to the extent this is the liability of the landlord –often shared 50% with tenant).

m) Gardening costs.

n) Travel costs at 45 pence per mile where you manage the property yourself.

o) Accountancy costs (to the extent that tax relief on your accountant’s fees have not been claimed elsewhere).

p) Mortgage interest on any loan (but not the capital repayments) where the capital has been used to buy or improve the rented property. The loan can be taken out and secured on your main home and does not need to be designated specifically as a buy to let mortgage in order to avail of tax relief on the interest payments. You must be able to demonstrate if need be that the interest was paid wholly and exclusively in connection with your rental “business”, and was not personal. Provided the amount of underlying capital on which you are claiming relief is no more than the total cost of the buy to let property, this should achievable.

What if the property is in a sole name of a couple but the interest is paid via a joint mortgage – can you still claim 100% of the loan interest in relation to the rental property? The answer is yes, provided the sole named person is eligible to claim the interest (i.e. meets the conditions mentioned above –SEE TOO Tax Planning Ideas below - A (i) & (ii)).

From 6 April 2017, the tax relief you get for your mortgage interest will be limited to basic rate tax only. The restriction will be phased in over four tax years as follows:

  • in 2017/18 the deduction from property income (as is currently allowed) will be restricted to 75% of finance costs, with the remaining 25% being available as a basic rate tax reduction
  • in 2018/19, 50% finance costs deduction and 50% given as a basic rate tax reduction
  • in 2019/20, 25% finance costs deduction and 75% given as a basic rate tax reductionn
  • from 2020/21 all financing costs incurred by a landlord will be given as a basic rate tax reduction

Note that instead of the loan interest reducing your taxable rental profit (which is taxed at your marginal tax rate, i.e. 20%, 40% or 45%, depending on level of total gross taxable income), from April 2017 you’ll get a reduction against your tax simply at 20%. If you are a higher or additional rate taxpayer, this will mean more tax to pay.

The way tax relief is given as a deduction from the tax bill and not as a deduction from the taxable income can result in a “double whammy” tax effect – the increased total taxable income may also push you into the next tax bracket – for example, if you then find your total income exceeds the higher rate band, you’ll have to pay tax at 40% or if your income now exceeds £50K, this could means the High Income Child Benefit Charge applies; if you exceed £100K, you would start to lose your personal allowance; and if income exceeds £150K, you’ll start to suffer tax at 45%.

The restriction of interest relief to just basic rate tax applies to individuals, partnerships, trusts but not limited companies.

Note that where costs relate to a period extending beyond the tax year end of 5th April (for example the insurance, service charges, ground rents etc), please provide copy invoices or show on the spreadsheets the period covered by the cost. As with the rental income, costs need to be apportioned between the period relating up to 5th April and the period relating beyond this date (see 7) above for a worked example)

q) From 6 April 2016, the old “wear and tear allowance” has been replaced which applied only to “furnished” lettings.

In its place, all residential landlords will be able to deduct the actual cost of replacing furnishings.

Overall, for most landlords, this does not provide as much tax relief as the old wear and tear allowance.

Furnishings include the following:

  • movable furniture or furnishings, such as beds or suites
  • televisions
  • carpets and floor-coverings
  • curtains
  • linen
  • crockery or cutlery
  • “plant and machinery” for example, white goods cookers, washing machines, dishwashers & fridges.

r) You can also claim the cost of repairing or renewing fixed items. Fixed items are integral to the building and are those that are not normally removed by either tenant or owner if the property is vacated or sold - for example, baths, washbasins, toilets, central heating installations. Again, you cannot claim for the original cost of installing these fixtures. If you replace an old cheap bathroom suite with a more expensive, high quality suite, you can deduct the cost, as a revenue item, of replacing like with like, but not the extra cost of new, better items (see HMRC Manuals at PIM3200).

If you have never resided in the property as a main home at any time, the CGT will essentially be the difference between what you sell the property for and what you paid for it, plus any capital improvements. There is an example of the CGT calculations in Appendix 1.

The CGT savings can be huge provided you have lived in the property as your main home. HMRC is increasingly challenging claims that a property has been a main home, especially in the context of buy to let properties. The following will help you in any claim that the property, at some point, has been your main home:

a) You will need to have resided in the property for a reasonable length of time. There is no statutory definition of a reasonable time, but we suggest at least six months.

b) You will need to assemble good evidence that the property was your main home. This could include:

(i) Electoral register
(ii) Home phone bill in your name at that address
(iii) Council Tax bill
(iv) Letter from HMRC at that address
(v) Pictures of family parties/furniture at that address

c) There should be some quality of residence – this means an indication of some degree of permanence, some degree of continuity or some intention/expectation of continuity to reside in the property as your main home. HMRC has successfully denied principal private residence (PPR) relief for CGT in court cases where for example:

  • it was probable that the intention was simply to sell the property as soon as possible, such that any residence was purely to obtain PPR relief; and/or
  • the person was living out of suitcases/in one bed in the house whilst they kept most of their possessions at another property.

I can provide another factsheet which details the evidence you may need to provide for a court to be satisfied that PPR relief is available.

Tax Planning Ideas to Reduce Income Tax

A. Where the higher earner is a higher rate taxpayer and the lower earner is not, consider transferring the rental property:

  • From sole name to joint names; or
  • From Joint Ownership to Tenants in Common so that the split can be other than 50:50.

The transfer should be done through a solicitor by a Deed.

All or some of the rental income could then be reported solely on the tax return of the lower owner who now owns the property in his/her sole name. If you are married, this transfer will be exempt for CGT purposes. If you are not married, the transfer will be subject to CGT. Provided no consideration is given for the transfer (in other words, it is a pure gift), there should not be any Stamp Duty Land Tax on the transfer. However, HMRC can easily argue there has been consideration, for example where the transferee subsequently takes on responsibility for paying the mortgage from the transferor.

Married couples and civil partners – the income must be split in the same proportion as the underlying property is owned. If you want to split the rental profits other than 50:50, this is possible but only if you:

  • Have first transferred the property from joint tenants to tenants in common as mentioned above.
  • Declare that the beneficial interest is other than 50:50, say 90:10.
  • Submit a “Form 17” to HMRC along with evidence that the beneficial interest in the property is other than 50:50.
  • Actually share the rental income and costs in proportion to the declared split.

Married couples can also split rental profit other than 50:50 if there is a formal partnership. However, to be an official partnership business, this usually involves some significant degree of operation, such as laundry/food etc, other than the pure letting of property.

(ii) Joint owners other than married couples or civil partners can decide on an entitlement other than 50:50 or other than the actual way in which the underlying property is owned.

If you have not declared to HMRC that income is other than 50:50, you must report the rental profit 50:50. HMRC is specifically targeting evasion of tax where the rental profits are not being declared for example by the higher tax payer.

Other factors to consider before transferring property from one of you to joint names or splitting the income other than 50:50 are “will the different split of income”:

  • adversely affect the working tax credit claims (if relevant)?
  • reduce the tax payable at higher rates for the higher earner?
  • reduce or even eliminate the high income child benefit charge (applicable where one of you as couple has gross income > £50,000)?

The rules for how income from rented property is split are complex (see for example HMRC manuals PIM1030). We therefore recommend that you take advice before acting.

Tax Planning Ideas to Reduce Capital Gains Tax (CGT)

B. Transferring property into joint names will probably save CGT on a sale (not always - see below). This is because annual exemptions worth currently £22,200, rather than just one exemption of £11,100) would be available to reduce the chargeable gain.

If you are not married, the transfer to your partner could trigger CGT before the sale, so take advice.

C. Having the property in joint names could double the letting relief (see Appendix 2) from a maximum of £40,000 to £80,000, again saving substantial CGT.

D. For married couples, the timing of a transfer from sole to joint names can have a significant impact on the overall CGT payable. If a buy to let property is held in sole name and has never before been the PPR but you are considering making that property your main home, the transfer into the name of the other spouse (jointly or solely) should be done before you move in and the property becomes the PPR. Another instance where it may be best for a property to be held in just one person’s name is if a property is to be the PPR, then be let out for quite a few years before reverting back to being the PPR again after the letting ceases. Again here, there could be substantial CGT savings if the property is transferred into the name of the other spouse (jointly or solely) shortly before you both move back into the property as your PPR.

National Insurance Contributions

It is possible to opt to pay voluntary Class 2 National Insurance Contributions (NICs) but only if your letting of properties can be deemed to be a “business”. Payment of Class 2 NICs may be a good idea especially if you are not otherwise employed or self employed so are not getting annual credit towards your final state pension.

Most people who rent a single or even more than one property will not be able to claim they are a business. To be a business, the level of activities carried out must be more than the basis activities of maintaining an investment, such as:

  • Undertaking or arranging external or internal repairs;
  • Preparing the property between lets;
  • Advertising for tenants and arranging tenancy agreements;
  • Maintaining common areas in multi-occupancy properties; or
  • Collecting rents.

To be a business, property letting may also need to be your sole or main occupation.

Overseas Landlords holding UK rental property

We suggest you seek further advice from us if you have moved overseas and are renting out your UK residential property. There are issue for income tax, in particular, the presumption that 20% tax will be stopped at source on rental income.

Also non-resident landlords are potentially liable to CGT when they sell their UK properties with effect from 6 April 2015. We strongly recommend that you obtain two independent valuations for your property as at 6 April 2015 so that only a gain arising on the property after this date will be potentially taxable to CGT. With effect from 6 April 2015, a property cannot be treated as your main home for a tax year if it is located in a country in which you are not tax-resident and it is a property in which you (or your spouse) spend fewer than 90 days in the year.


APPENDIX 1 – The let property has never been your main home

When you sell, the CGT computation will be calculated as shown in the following example:

£

£

Sale Proceeds on sale
Less: Incidental costs of sale
- Estate Agents fees
- Legal Fees

245,000
(2,940)
(850)
------------
241,210

Less: Original Cost
Add: Incidental costs
- Estate Agents
- Stamp Duty
- Legal fees etc

160,000
1,920
1,600
750
-----------

Less: Capital Improvement Costs (say) (see item 8 c above)

Chargeable Gain before Annual Exemption

(164,270)
(35,000)

------------
£41,940
------------


If you have made no other capital disposals in the tax year, then the first £11,100 for 2016/17 & £11,300 for 2017/18) of gain is covered by the CGT annual exemption. Assuming this to be the case and that the sale takes place in 2017/18, the chargeable gain after the annual exemption will be £30,640 (£41,940 less £11,300).

This will mean CGT payable of between £5,515.20 and £8,879.20 (being £30,640 x 18% & 28% respectively).

How do you tell whether the gain will be taxed at 18% or 28%?

STEP

What You Need to Do

1.

Calculate your total gross income from all sources in the tax year. Suppose you earn £30,000 gross from all sources in 2017/18.

2.

Take the higher rate threshold of £45,000 (for 2017/18) and deduct your total gross income for the year. The result = £15,000 (being £45,000 less £30,000)

3.

Where the result is positive and the chargeable gain is more than this figure, 18% CGT will apply to the full £15,000 result in 2. above, meaning CGT at 18% of £2,700.

4.

Where the gain exceeds the result in 2. of £15,000, the balance of the gain is taxed at the higher rate of 28%. In the worked example above, total chargeable gain =£30,640, of which £15,000 is taxed at 18%, meaning CGT of £2,700. This means the balance of £15,640 (£30,640 less £15,000) is taxed at 28%, or CGT of £4,379.20.

5.

Add together the two CGT tax figures shown in 4. to arrive at the total CGT payable – in this example £7,079.20 (£2,700 @ 18% plus £4,379.20 at 28%). This tax will be due by 31 January following the end of the tax year of sale – thus in the example above, by 31 January 2019.


APPENDIX 2 – The let property has been your main home at some point in time

Using the information in 1. to 5. above, the chargeable gain figure in Appendix 1 above will be revised as follows:

Assuming the same gain as calculated in Appendix 1 and then assuming the following:

DATES
1 April 2003
- Date first acquired (work done before moved in)
1 April 2004
- First became principal private residence (PPR–moved in)
1 April 2009
- Ceased to be your PPR
1 May 2010
- Property first let out
- Property ceased to be let out
30 Apr 2017
- Property sold
1 Dec 2017

The revised gain will be:

£

£

Gains before Reliefs

£41,940

Less: PPR Relief
- Period of actual PPR
- Period of deemed PPR (maximum of last 1.5 years)

Total Years PPR

- Period of total ownership

THUS PPR Relief = £41,940 x 6.5 years / 14.667 years

No. of Years
5.0 Years
1.5 Years
------
Total Years PPR
------
14.667 years
------








------

(18,586)

Gain after PPR Relief

23,353

Less: Letting Relief
This is the lowest of:
- Absolute limit
- Exemption due to PPR relief
- Gain attributable to letting (6.167/14.667)



40,000
18,586
17,634





(17,634)

Gains after Letting Relief

5,719

Less: Annual Exemption (restricted)

(5,719)

Total Chargeable Gain

£Nil

Thus, the occupation of the property as the main home for just 5 years has reduced the gain before annual exemption to £Nil and saved nearly £7,100 of tax (see Appendix 1). In addition, the balance of £5,581 of the annual exemption of £11,300 is now available to be used to offset against any other capital gains in the year.

This fact sheet is for information only. It provides an overview of the regulations currently in force and no action should be taken without consulting the detailed legislation or seeking professional advice. Therefore, no responsibility for loss occasioned by any person or refraining from action as a result of this material can be accepted by the authors or the firm.