Selling or exiting rental properties
If you are looking to sell your rental properties, you will need to assess the Capital Gains Tax (CGT) that might be payable. CGT applies whether you sell the property to a third party or even if you were to gift your properties to a family member. The CGT could be reduced in the following ways:
- If you lived in any of your properties, this could significantly reduce the CGT payable.
- By selling properties in separate tax years, you would be able to claim your annual CGT allowance against each sale.
- You would be entitled to claim the 5th April 2015 rebasing method if you were to depart the UK for five years and sell the properties while you are a non-UK resident.
- Lettings relief reduces the chargeable gain by up to £40,000 when you sell a property that you lived in at the same time as your tenant.
- You could transfer all or part of your property to a spouse if you are a higher rate taxpayer and they are a basic rate taxpayer. A transfer to a spouse is not subject to CGT and then the subsequent sale to a third party would be taxed at 18% rather than 24%.
- Capital Improvements made to a property, such as adding an extension, can be claimed to reduce the CGT payable.
- Any capital losses made on the sale of previous assets can be carried forward to be offset against the chargeable gain.
Refinancing your properties
Raising additional funds via a re-mortgage of a property is a common way to fund future property purchases or to carry out home improvements. These aspects will need to be considered when refinancing your properties:
- If you can secure a lower interest rate when you remortgage, you may end up paying less interest over the life of the loan, potentially saving you money.
- The process may involve a credit check which could result in a dip in your credit score.
- The refinance amount cannot exceed the initial capital introduced.
- The value of the property, the refinancing amount and how these funds will be used are the determining factors as to whether the future mortgage interest payments are tax deductible or not.
Incorporating existing properties into a limited company
Raising additional funds via a re-mortgage of a property is a common way to fund future property purchases or to carry out home improvements. These aspects will need to be considered when refinancing your properties:
Property landlords will often be advised that owning property in a limited company is preferable to owning property in their own names. A limited company will invariably provide opportunities for tax efficiency, e.g. profit extraction and wealth protection. It must be stressed however that a “one size fits all” approach can be risky and the use of a company for property ownership must be considered on a case-by-case basis.
Where company ownership is considered the best option, landlords who already own property in their own names need to consider Capital Gains Tax (CGT) as well as Stamp Duty Land Tax (SDLT) as a cost of moving property from personal ownership to a limited company. In the case of CGT, the transfer of a property from an individual to a company will trigger a deemed disposal for CGT purposes. As the transaction will be between connected parties the disposal value will be treated as the open market value.
There will be occasions where landlords may not need to pay CGT or SDLT upon the transfer of property to a limited company. For CGT purposes incorporation relief can postpone any gain but this is only available to landlords in very limited circumstances i.e. landlords who devote a major part of their time to managing their properties. SDLT may not apply if a partnership is involved in the transfer of property to a limited company. There are very exacting conditions which need to be met for SDLT not to be payable by partnership. It should be generally assumed that CGT and SDLT will be payable when transferring property from personal ownership to a limited company.
Let us consider the case of Thomas who has been a landlord for the last 10 years. When Thomas bought his first property in 2014, he was already a higher rate taxpayer on his PAYE employment. In 2014 the interest payable on Thomas’ buy to let mortgage was fully deductible against his rental income. So, when Thomas paid £2,000 paid interest annually, the tax relief he received was £800, (£2,000 at 40%). Since Thomas bought his first property the rules for tax relief on buy to let mortgage interest have changed. As a result of these changes in the tax year 2023/24 Thomas received tax relief on his mortgage interest payments as a basic rate reduction of £400 (£2,000 at 20%).
Whilst Thomas has seen a reduction in tax relief on his interest payments, his overall mortgage payments have increased significantly due to interest rate rises.
Thomas’ rental profits for the tax year to April 2024 were £12,000 on which he will be due to personally pay £4,800 tax by 31 January 2025.
Thomas is looking to incorporate his existing buy to let property into a limited company in anticipation of increasing his property ownership. Thomas is mindful of keeping all his property interests in one investment vehicle and is also aware that the limited company structure could be helpful in passing wealth to the next generation should he ever get married or start a family.
Based upon an initial cost of his buy-to-let property of £50,000 and current market value of £120,000 the CGT on a transfer to Thomas’s limited company would be around £16,080. As a higher rate taxpayer Thomas pays CGT at 24% on residential property gains. If Thomas occupied the property at any point as his only or main residence the CGT payable could be significantly reduced. The CGT will be payable 60 days from the date of the transfer to the company.
The current market value of the company will be shown as a credit balance to Thomas’ Director Loan Account in his company i.e. £120,000, less any amount of mortgage taken out on the property by the company. Although Thomas will need to fund the CGT within 60 days, he will be able to withdraw, subject to cashflow in the company, up to £120,000 entirely tax free.
It should be stressed that Thomas will need to obtain agreement from his mortgage lender prior to the transfer of the property. Thomas should also expect to pay a higher mortgage interest rate as a limited company of around 0.5% more than when he personally owned the property.
As Thomas owns another residential property as his main residence SDLT will be payable on the transfer to the company of £6,000 (£120,000 at 5%). So, whilst £120,000 is normally below the SDLT threshold the transfer will carry a 5% surcharge as a second residential property.
Thomas will also become aware that there are more compliance issues to consider whilst operating a limited company e.g. Companies House Accounts and filings.
Once Thomas has transferred his mortgage to the company the interest payments will receive tax relief at the Corporation Tax rate (CT) payable by the company. For the foreseeable this will be 19% (CT is payable at 19% on the first £50,000 of a company’s profits).
Based upon rental profits of £12,000 the company will pay CT of £2,280. As Thomas maintains his lifestyle through his PAYE income, he does not need to draw any salary or dividends from his company. If taken, both Salary and Dividends would give rise to some personal tax liability for Thomas. As Thomas now has a significant Directors Loan Account balance of £120,000, even if he decided to retire or go part time at a future date, he will not need to consider taking Salary or Dividends for several years.
So, for Thomas his incorporation of his Buy To let will give rise to one off costs in terms of CGT and SDLT (£16,080 and £6,000) this is more than outweighed by the following:
- Reduced taxation on profits from 40% to 19% annually.
- Tax Free drawings from his Directors Loan Account of £120,000 less any company mortgage on the property.
