In recent years there have been several changes to the tax environment for private landlords that have significantly increased the tax that they have to pay against the rental income that they receive.
The main change was that mortgage interest is no longer fully deductible as an expense with the private landlord; instead, they receive a 20% tax credit in respect of the amount of interest paid.
This is extremely unattractive to higher and additional tax rate payers, and as it is a tax credit rather than an allowance, it can prove costly even for basic rate taxpayers - effectively capturing some of their profit at 40% tax.
These changes affect private landlords, but not those who hold their property portfolio in a limited company. Consequently, many landlords have set up a limited company and incorporated their property portfolio.
There are both advantages and disadvantages to this approach and it is not a decision that should be taken lightly. Initially, incorporation looks attractive from a tax perspective, but there are a few tax landmines that must be considered.
‘Sale’ of properties/business to a Limited company
When a private individual (or partnership) incorporates an existing business into a limited company, this creates a chargeable event for capital gains tax purposes for the private individual (or partnership).
Tax laws in the UK essentially treat the transfer of a trading business into a limited company as a sale by the individual(s) running that business to their limited company - even if that company is owned, managed and controlled by exactly the same people.
Beyond this, the ‘sale’ of the properties itself (again from the individual(s) to their limited company) attracts both Capital Gains Tax (CGT) and Stamp Duty Land Tax (SDLT) - so the trade (the rental income) is subject to tax as is the value of the ‘sale’ of the properties.
These taxes can, however, be avoided through Section 162 Incorporation Relief which allows UK landlords to transfer their property portfolio to a limited company without suffering capital gains tax or stamp duty… provided it is done correctly.
Section 162 Incorporation Relief allows landlords who transfer (incorporate) their property portfolio into a limited company to do so without incurring Capital Gains Tax (CGT) or Stamp Duty Land Tax (SDLT) against the transfer.
It acts by deferring the tax that would have been payable at the date of transfer to a date at which the assets are ultimately disposed of. If the assets are never sold, the tax due is deferred indefinitely.
The transfer is still considered a sale by the individual to a limited company, tax is still assessable, but Section 162 allows a relief that negates the tax due.
The saving is substantial. Or rather getting it wrong is extremely costly.
If a private landlord had a property portfolio valued at, say, £1,550,000 which they had purchased for £900,000 - the saving in CGT alone could be £182,000. If Section 162 is not available, then the CGT would be payable even though no sale proceeds are ever generated.
To qualify you must
Transfer all of the assets in the business excluding cash
Be a sole trader or business partnership
Transfer the business as a going concern
Be ‘paid’ by the company wholly or partly in shares
Have at least five properties in your portfolio (typically)
Owned and managed the properties for at least two years.
The stamp duty position is less clear and we have found that tax law experts differ in their approach and treatment. So whilst the capital gains tax position is relatively straightforward, legal advice may be required regarding stamp duty.
As with all aspects of business, if you concentrate on one thing alone, you’ll usually make the wrong decision. The same is true of incorporating your property portfolio.
Why it may not be right for you
If you incorporate your rental property portfolio into a limited company then the rent from your properties will be received by your limited company, not you.
If you need personal income from your rental portfolio then this will be subject to two layers of tax. The company will be subject to corporation tax and then you, as an individual, will be subject to personal tax against the money that you then take from the company.
Selling a property can also mean a second layer of tax - one when the company sells the property (the capital gain, taxed as corporation tax) and a second when you as an individual then seek to take the sale proceeds from the company.
In addition, limited companies do not receive any capital gains tax allowance, private individuals do.
So in short, if you need to personally receive the rent as income or are considering selling properties to fund something like retirement in the near future, incorporating may not be the right move for you.
Regardless of the tax position, you also need to consider that the transfer of the property from your ownership to that of a limited company will involve a full conveyance with associated legal fees and costs.
Buy-to-let mortgages will not, typically, be transferable from a private individual to a limited company and some providers will not advance mortgages to limited company landlords at all.
You will often find that your limited company cannot secure the same interest rate as you can as an individual and early redemption fees may be payable against your existing deal.
So whilst incorporating may be the right thing for you, it may also be the wrong thing, speak to us to help plan out the best scenario.