Written by Ray Coman
Many buy-to-let landlords purchased property in their own names or jointly with a spouse at a time when there was no restriction on the deduction of mortgage interest. At the point of purchase, the tax case was usually tipped in favour of private ownership. However, changes in cash flow requirements and in regulation has lent more credit to the proposition of using a corporation vehicle for the property. Bringing the discussion up to date, this article examines the case for transferring a property to take benefit from the stamp duty holiday.
Leaving aside the tax implications of private ownership as compared with property ownership through a company, many existing landlords are put off by the proposal of transaction costs. The transfer is treated as a disposal for capital gains tax purposes and an acquisition for stamp duty purposes.
With London values moving little if anything since the referendum, the capital gains tax implication could be negligible. If the property used to be a former residence there could be a case for banking any PPR relief before it is further eroded over time. Principal private residence relief is so much of the gain as relates to the period in which the property was occupied. Therefore, the percentage time in which the property was the owner’s home reduces over time. Consequently, the tax-free portion of the gain reduces with every month that the landlord does not occupy the property. This is particularly punitive where prices are static or falling. At least in a rising market the amount of tax relief, in real terms, tends to rise.
Stamp duty land tax (SDLT) on acquisition by the company is a further disincentive for landlords to transfer their existing stock into company ownership. However, this tax barrier is liifted by a stamp duty holiday, as announced by the chancellor, on properties with a value up to £500,000. The 0% rate of SDLT applies to purchases of residential properties between 8 July 2020 and 31 March 2021 inclusive.
In London, many ‘accidental landlords’ who let the first flat they bought will be well placed to benefit from the holiday.
The main drawback to having a property in the company is the ‘double tax charge.’ When the property is eventually disposed of by the company, any gain would be subject to corporation tax. The rate of corporation tax is currently 19%. Extraction of that gain by the shareholder would be again taxed at 20%. The rate of 20% applies to the extent that the shareholder is a higher rate taxpayer. This is because shareholders of a property investment company are not eligible for entrepreneur’s relief.
Therefore, the landlord would be liable to personal tax at 20% profits after corporation tax. The CGT of 20% applied to post tax profits of 81% gives a resultant rate of 16.2%. The overall capital gains tax rate of 35.2% applies to disposal of investment property in a company. This compares to a tax rate of 28% on disposal of the property which is not transferred into a company.
There is a restriction on the deduction of mortgage interest from taxable profits. From 2020-21, only 20% of mortgage interest is available as a tax reducer. By contrast, mortgage interest can be deducted from company profits in full. The mortgage interest reduces both corporation tax and income tax, because it lowers funds that would otherwise treated as dividends.
To the extent that the landlord does not have other dividend income, the dividend allowance of £2,000 would be available to further reduce income tax exposure. Where the landlord shares household bills, for instance with a spouse or other cohabitee, it could be practical to add that person as a shareholder and further extend the £2,000 annual exemption from income tax. To the extent one shareholder is a higher rate taxpayer, the dividend of £2,000 would otherwise be taxed at 32.5% or £650. Further savings could be achieved within the limit of one shareholder being a basic rate taxpayer and the other not.
The shareholder could also consider accumulating funds in the company to be extracted as a capital gains on disposal of the company. This strategy carries a cash flow penalty but brings about eventual savings of 10% personal tax.
A prospective landlord weighing up a transfer of property should consider the increase in annual accounting cost associated with operating the investment via a company. Coman & Co provides fixed fee pricing for a limited company.
The tax points outlined in this paper are based on current rates. The Chancellor has ordered a review of capital gains tax. In general, where tax planning spans more than one tax year the rates above can change. Once issue to consider is that the tax regime for properties owned by companies could change, and market conditions (or tenancy agreements) may be such that it is not possible to close the company in time to escape any such changes.
Where the landlord owns more than one property, consider one company per property. The reason is that cash from any capital gains can be extracted without having to sell both properties. Accounting costs will increase incrementally with the number of companies used.
Where the strategy is to reinvest rather than to extract cash for other purposes, a company carries the additional benefit that the capital gains tax is limited to corporation tax.
A company is better suited to property that is expected to have high yield but less capital appreciation. History shows that prestige locations, for instance in London, tend to outperform in times of growth. Holiday lets, houses in multiple occupation, bedsits, student accommodation and Airbnb tend to produce higher yields. Where the proposition is closer to a bed and breakfast or hotel there is even the possibility of keeping entrepreneur’s relief intact which adds to the tax case for a corporate structure.
A company could be better suited to a consortium type arrangement where a greater portion of each member’s share is below the dividend allowance.
Company owned property could lend itself well to the passing of wealth down the family line or among family members. The company provides a mechanism for ownership portions to be changed without affecting the land title. The tax permutations widen with the number of members involved.
Coman & Co can estimate the tax impact of different scenarios with which to inform decision making in this area. Some basic forecasting can be carried out for no additional charge.