April 2020 marked the final stage of changes to income tax relief rules for landlords, five years after it was first announced. For many landlords, it meant that owning property via a limited company could be significantly more beneficial, but how do you make the change from personal to limited company ownership?
The changes to income tax relief in 2020 left many landlords in or near the higher income tax band significantly out of pocket. Since the announcement in the Government’s 2015 Summer Budget, both the interest in limited company investment structures and the offering of suitable mortgages from lenders increased dramatically. However, for those who already have personally owned buy to let property, it’s not quite as simple as “transferring” their portfolio into a limited company, as this blog explains.
We strongly recommend that you seek professional tax advice before starting this process, as it’s not necessarily the most tax-efficient option for everyone. Mortgages for Business can only offer guidance on property finance, not tax-related matters.
Transferring Existing Rental Property Owned Personally into a Limited Company
The term “transfer” is somewhat misleading, as moving your personally owned buy to let property into a limited company is legally a sale and purchase transaction. This means that the process is subject to the same additional costs and fees as any other property purchase, for example:
- Stamp Duty Land Tax
- Capital Gains Tax
- Conveyancing/Legal fees
- Early Redemption Charges (if applicable)
For some landlords, these additional costs prevent them from being able to move to a limited company investment structure. On the other hand, the long-term savings can mitigate these initial costs; it completely depends on your circumstances. A qualified tax advisor can help you work out if this would benefit you or not.
The market recently saw a rush to purchase property ahead of the end of the Stamp Duty Holiday in March last year. This tax holiday allowed many to save up to £15,000 in tax on their property purchase, and goes to show just how much weight it carries on property market behaviour.
A popular question that we get asked on the topic of moving their portfolio to a Limited Company structure is: “It’s my property, can’t I sell it to my limited company at a discount?” Unfortunately, no. As a sale and purchase transaction, for tax purposes, the property must sell at the open market value. When the lender comes to value the property, they will do so as if it was any other property, meaning you will have to purchase it at its full value.
What makes this process easier than purchasing a brand-new property is that if the property has sufficient equity, you can use it as a deposit for your limited company. This is what’s known as a director’s loan, and means that you won’t need to raise a whole new deposit to secure a limited company buy to let mortgage.
Stamp Duty Land Tax Calculator
Just like personal name property purchases, your limited company must pay stamp duty land tax and the 3% second home surcharge. N.B. there is no exemption on the 3% surcharge for the “first” property purchased within a limited company. For more information and to find out how much stamp duty you’ll need to pay, visit our residential property stamp duty calculator here.
Capital Gains Tax and Limited Companies
The Capital Gains Tax (CGT) position is complicated. Historically, a sale such as this would mean that you (the seller) would be liable to pay CGT per the standard rules. However, a landmark case* back in 2013 ruled that in certain circumstances the landlord could claim incorporation relief under s162 Taxation and Chargeable Gains Act 1992, thereby deferring any tax until the acquiring limited company sells the property.
The critical factor, in this case, was that the landlord and taxpayer devoted 20 hours a week to various tasks associated with running the property: collecting rent, property and garden maintenance etc. Consequently, the property was determined to be a business (eligible for incorporation relief) rather than an investment (ineligible for relief).
While there is no definitive guidance available on what factors HMRC and the Tax Tribunals consider when determining whether a property is a business or an investment, these are the widely accepted guidelines:
A property is an investment if:
- The landlord has full-time paid employment not associated with the property
- The landlord uses an agent to collect rents and manage the property
The property is a business if:
- The landlord selects tenants themselves
- The landlord collects rent themselves
- The landlord undertakes minor maintenance work themselves
- The landlord can demonstrate that most of their income comes from the property/properties
Again, please seek professional tax advice before making any property investment decisions.
Early Redemption Charges
If the mortgage on the property in question is still within the Early Repayment Charge (ERC) period, then you will be required to pay the fee. Generally speaking, it makes sense to wait until this period has lapsed to start the incorporation process. However, with mortgage interest rates steadily on the rise, it’s definitely worth investigating your options if you’ve only got a year or so left before your ERCs elapse. As ever with property investment, a lot is determined by your particular circumstances.
What are the Benefits of Limited Company Property Investment?
The main benefit, which has become more prevalent since the income tax relief changes, is the tax differences. Instead of paying income tax on your rental income (with a restriction on the amount of relief obtained on interest costs to the basic rate of tax), your limited company pays corporation tax (currently 19%) on its profits after interest. For those in or near the higher income tax bracket, charged at 40%, this can make a significant difference. The other positive of this is that you retain more of your profits, making it easier to re-invest and grow your portfolio.
Limited Company structures also offer potential Inheritance Tax (IHT) and Capital Gains Tax (CGT) benefits, as family members can be appointed shareholders and directors.
Any investment you put into the limited company, such as personal savings to use as a deposit, can be redeemed at a later date if recorded as a director’s loan. Similarly, profitable limited companies give you the potential to receive dividends, which are taxed differently to income. Speak to a professional tax adviser to ascertain whether this is of benefit to you.
Often overlooked, investing via a limited company can also protect your personal credit score. If your tenants fail to keep up with utility bills or council tax, you as a landlord can be held accountable, and your credit score affected. When investing through a limited company, it is the company name that is connected, rather than your own.
What are the Drawbacks of Limited Company Property Investment?
Investing via a limited company can incur additional running costs. For example, legal fees in the purchase and remortgage processes are often higher as there is extra work involved compared to investing in your personal name. Furthermore, unless you’re willing to produce annual company accounts yourself, you will need to pay for an accountant to do this for you.
While the gap has decreased significantly over the past six years, mortgages for limited companies do attract higher interest rates, mainly due to the additional underwriting that lenders have to complete. That said, stress testing is often lower than for individual mortgages, meaning that your company’s income doesn’t have to be as high to meet lender affordability calculations.
Finally, whilst the profits are taxed at a lower rate within a limited company, at some point you are likely to want to extract some of the profits from the limited company – and this withdrawal of profits will be subject to personal dividend tax.
What next?
While it’s essential you seek professional tax advice before incorporating your buy to let portfolio, we can offer advice on the mortgage side of limited company investments. If you have any questions or would like a quote, please do not hesitate to contact us on 0345 345 6788, or by submitting an enquiry.
*Elizabeth Moyne Ramsey v HMRC [2013] UKUT 266 TC
This article was updated June 2022.
