New landlord tax changes explained

Posted on Sunday, April 3, 2016

Restriction to relief on finance costs

Under the current system the cost of finance such as mortgage interest is allowed as a deduction from rent, but from April 2017 onwards the amount which can be deducted is to be reduced by 25% a year until 2020 when landlords will receive a basic rate tax reduction from their income tax liability.


Who is likely to be affected?

Individuals that receive rental income on residential property in the UK or elsewhere and incur finance costs (such as mortgage interest), excluding where the property meets all the criteria to be a furnished holiday letting.

General description of the measure

In a stated attempt to make the tax system fairer, the government will restrict the amount of Income Tax relief landlords can get on residential property finance costs to the basic rate of tax. This will ensure that landlords with higher incomes no longer receive the most generous tax treatment. To give landlords time to adjust the government will introduce this change gradually from April 2017 over 4 years.
Finance costs includes: mortgage interest, interest on loans to buy furnishings and fees incurred when taking out or repaying mortgages or loans. No relief is available for capital repayments of a mortgage or loan.

Landlords will no longer be able to deduct all of their finance costs from their property income to arrive at their property profits. They will instead receive a basic rate reduction from their income tax liability for their finance costs.

Landlords will be able to obtain relief as follows:

• 2017 to 2018 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
• 2018 to 2019, 50% finance costs deduction and 50% given as a basic rate tax reduction
• 2019 to 2020, 25% finance costs deduction and 75% given as a basic rate tax reduction
• 2020 to 2021 all financing costs incurred by a landlord will be given as a basic rate tax reduction


Some landlords will be pushed into the higher tax rate band

Worked example

Andy has an annual salary of £35,000. He collects £12,000 in rent annually from a property with costs of £2,000 and mortgage interest of £5,000.

Total taxable income is £40,000, which is below the higher rate tax threshold.
Based on the current system Andy would pay £1,000 in tax on his property income annually.

During the first year of the phased change 25% of Andy’s mortgage interest payments are taxed at the basic rate of tax and leave him paying no more than at present but in year 2 because he pays 50% of his mortgage interest charges at his basic rate the result for him is paying higher-rate tax on £35.

This continues until 2020/21 when 100% of the mortgage interest is relieved at 20%, which increases Andy’s tax from £1,000 in 2017/18 to £1,507 in 2020/21.

Andy’s example shows how paying tax on a greater percentage of his mortgage interest coupled with his other income pushes him into the higher-rate tax band.


Withdrawal of Wear & Tear Allowance

Who this is likely to affect?

Landlords with furnished lettings claiming the Wear & Tear Allowance.

General description of the measure

From April 2016, the wear and tear allowance will be withdrawn, instead being replaced by a new system that only allows landlords tax relief when they replace furnishings.


This will simultaneously increase the record keeping requirements placed on the landlord and, in many cases, increase their tax liability too.

Wear & tear allowance was designed as a blanket relief to cover costs such as:
• movable furniture or furnishings, such as beds or suites;
• Televisions
• Fridges and freezers
• Carpets and floor coverings
• Curtains
• Linen
• Crockery or cutlery

Currently it is calculated at 10% of net rents.

Worked example

Andy receives £10,000 of rent per year from his tenants. He has opted to claim the wear & tear allowance and, consequently, is entitled to a £1,000 deduction against his rents. If he is a higher rate taxpayer then this will lead to a £400 reduction to his tax bill.
Under the new system, he will not be able to claim this flat rate deduction and, instead, will only be able to claim for actual costs incurred.

In the example above, if he had purchased a new mattress in the year for £150, he would be entitled to tax relief only on this amount. In this example, it would reduce the tax relief available and increase his tax bill for the year by £340.
Alternatively, if Andy had spent more than £1,000 on items for his property he would be better off under the new system.

In most scenarios the wear & tear allowance generally exceeds the actual annual expenditure incurred by the landlord.


Stamp Duty surcharge

A new 3% loading on existing Stamp Duty rates, which is applicable as follows:

Band                            New Surcharge

£0k - £125k                             3%

£125k - £250k                         5%

£250k - £925k                         8%

£925k - £1.5m                         13%

£1.5m                                      15%

Who is this likely to affect?

 Anyone who is buying additional residential properties, for example a holiday home or buy-to-let, within England, Wales, Northern Ireland and - under a separate announcement in the Scottish Government's Budget - in Scotland too.  The surcharge will apply even if the home you already own (or part-own) is overseas. So, if you have a ski chalet in Bulgaria and are buying your first home in the UK, you would still be liable for the extra tax.

When does this take affect?

The new surcharge takes effect from 1 April, 2016, but was first announced in the Chancellor’s 2015 Autumn Statement.

How is the tax charged?

The 3% loading will apply to the entire purchase price of the property. Previously regular Stamp Duty was charged on a tiered basis (you only pay the higher rate on the slice above any threshold – the same as income tax).

Worked example

If you are buying a second home with a purchase price of £300,000, just the extra 3% Stamp Duty would equate to £9,000 (3% of the entire price). This is in addition to the £5,000 regular Stamp Duty bill on a home of this value, making the total payable of £14,000.

 What if the home I am buying is my main residence?

If the home you are buying directly replaces your main residence, you will not be liable for the 3% surcharge, even if you own an additional home/s at the same time.

But the Treasury says that moving out of rented accommodation does NOT constitute a main residence. Your last residence will need to be disposed of (ie, sold) to escape the surcharge. Gifting a property however, DOES constitute disposing of your main residence. 

What if I need to buy another main residence before I can sell my last home ?

If you move out of your main residence (Home A) but keep it and buy another main residence (Home B), you will have to pay the 3% Stamp Duty surcharge initially. However, so long as you sell Home A within 36 months of completing on the purchase of Home B, HMRC will make a full refund.

Are there any exemptions?

The 3% Stamp Duty surcharge is not payable on second homes that cost less than £40,000, or on caravans, mobile homes and houseboats. 

No Stamp Duty is payable on properties that are inherited

And, while it's not an exemption, it's worth noting that if you pay Capital Gains Tax on the sale profits of an additional home, you can offset the cost of the 3% Stamp Duty surcharge against your bill.