This blog explains what qualifies for relief for finance costs, the limit on eligible borrowings, and how capital repayments work with a quick example.

Allowable finance costs

Although the way in which landlords obtain relief for finance costs on residential properties is changing, there is no change to the type finance costs that are eligible for relief.

What qualifies for relief

The basic rule is that relief is available for expenses that are incurred wholly or exclusively for the purposes of the property rental business, and this rule applies equally to finance costs. Relief is available for eligible finance costs where they meet this test.

The definition of finance costs includes mortgage interest and interest on loans to buy furnishing and suchlike. Relief is also available for the incidental costs of obtaining finance, as long as the interest on the loan is allowable. Incidental costs of loan finance include items such as arrangement fees, and fees incurred when taking out or repaying loans or mortgages.

Limit on eligible borrowings

A landlord can obtain relief for the costs of borrowings on a loan or mortgage up to the value of the property when it was first let. Buy-to-let mortgages are often more expensive than residential mortgages with interest charged at a higher rate. The loan does not have to be secured on the let property. Where a landlord wishes to buy a rental property and has sufficient equity in their own home, it may make commercial sense to release capital from the home by borrowing against it and using the money to purchase the rental property. Interest on the loan is eligible for relief, despite the fact the loan is not secured on the rental property.

No relief for capital repayments

Capital repayments, such as the capital element of a repayment mortgage or loan repayments, are not eligible for relief. Where the borrowings are in the form of a repayment mortgage, it will be necessary to split the payment between the interest and capital when working out the relief. The lender should provide this information on the statement.

Example

Mervyn wishes to invest in a buy to let property. As he only has a small mortgage on his home, he remortgages to release £150,000 of equity.
Following the remortgage, he has a mortgage of £200,000 on his own home. Using the released equity, he buys a property to let for £150,000. He spends some time renovating the property in his spare time before letting it out. When the property is first let, it has a value of £160,000.

During the 2019/20 tax year, Mervyn pays mortgage interest of 10,000and makes capital repayments of £10,800. The property is let throughout.
Mervyn can claim relief for 80% of the interest costs – this is attributable to the borrowings of £160,000 (80% of the loan of £200,000), being the value of the let property when first let. The interest eligible for relief is therefore £8,000 (80% of £10,000). For 2019/20, 25% (£2,000) is relieved by deduction with the balance giving rise to a deduction from the tax due of £1,200 (75% x £8,000 x 20%).

No relief is available for the capital repayments.

Partner note: ITTOIA 2005, ss. 272A, 272B, 274A, 274B

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Property Tax

Landlords – you must file your self-assessment tax return by 31 January 2020 to avoid a late filing penalty. Here’s what you need to know:

The self-assessment deadline is looming. Self-assessment tax returns for the year to 5 April 2019 must be filed online by 31 January 2020 if a late filing penalty is to be avoided.

Landlords will need to complete the property income pages. Particular care should be taken where the landlord has a loan or a mortgage as the way in which relief is given for financing costs is changing and the position for 2018/19 is different to that for 2017/18.

The way in which relief for finance costs is given is moving from relief by deducting the finance costs when computing profits to giving relief in the form of a basic rate tax reduction. The 2018/19 tax year is a transitional year.

What costs are eligible for relief?

Interest payable on loans to buy land or property which is used in the rental business is eligible for relief, as is interest on loans to fund improvements or repairs. It should be noted that it is not necessary for the loan to be secured on the let property – the rule is that interest is allowable on borrowings up to the value of the property when first let. Thus, if a landlord borrowed against their main home to fund a buy-to-let investment property, the interest on that loan would be allowable on the loan up to the value when the property was first let. If the mortgage on the residential property is more, the allowable interest is proportionately reduced.

Relief is also available for the costs of getting a loan.

It should be noted that it is only the interest and other finance costs which qualifies for relief – no relief is available for any capital repayments which may be made.

The position for 2018/19

For 2018/19, relief for 50% of eligible finance costs is given as a deduction in computing the profits of the property rental business and relief for the remaining 50% is given as a basic rate tax reduction. This makes completing the property pages of the tax return slightly tricky as the information must go in two places.

The first box which needs to be completed is Box 26. This is where allowable loan interest and other financial costs need to be entered. Amounts entered in this box are deducted in computing rental profits. Therefore, as only 50% of the allowable finance costs for 2018/19 are relieved in this way, only 50% of the costs for that year should be entered in this box.

The remaining 50% is entered in Box 44, helpfully titled ‘Residential finance costs not included in box 26’. The amount entered in this box is used to calculate a reduction in the landlord’s tax bill. The reduction is equal to 20% (the basic rate of income tax) of the amount entered in Box 44.

If you have any unrelieved finance costs from earlier years, these should be entered in Box 45. Any balance of residential finance costs which is unrelieved may be carried forward to future years for relief by the same property business.

Partner note: Self-assessment UK Property notes (SA105); see www.gov.uk/government/publications/self-assessment-uk-property-sa105.

 

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