How the buy-to-let sector could be affected by Section 24 tax rules

The controversial Section 24 tax relief changes for buy-to-lets are causing a stir among many landlords, while many remain in the dark about what the changes are and how they will be affected.

The income tax relief that landlords can claim on their buy-to-let properties’ mortgage payments is being overhauled by Section 24 of the Finance Act, a measure which was first announced in the Budget back in 2015. The changes, which mean that landlords will no longer be able to claim a reduction on their income tax payments by offsetting the mortgage interest costs, are being phased in over three stages.

As of April 2017, landlords can only claim back 75% of their financing costs – which will apply when they file their January 2019 tax returns – and the amount will reduce to zero from April 2020, to be replaced by a tax credit equivalent at the basic rate of tax (currently 20%), meaning many landlords’ tax bills could increase.

However, according to research from Kent Reliance, 15% of buy-to-let landlords do not understand the Section 24 changes and are not planning on taking any action to counteract the effects.

What can landlords do?

One way of getting around the tax relief reduction is for landlords to set up limited companies through which to operate their properties. This route has become increasingly popular recently, with a fifth of landlords (19%) already operating through a limited company and a sixth (13%) planning to do so in the future, according to Kent Reliance.

If the investment property is owned by a limited company, it means that mortgage interest payments are treated as a business expense and can therefore still be offset against profits – and corporation taxes on profits are currently 19%, which is lower than income tax. Last year, Kent Reliance reported that 70% of buy-to-let applications for purchase were done through a limited company, compared to 45% in 2016.

Transferring ownership of the property to a spouse is another option that could help some landlords to balance the effects of the tax change.

Adrian Molony, sales and marketing director at OneSavings Bank, said: “Many landlords have sought to move to a limited company structure, or transferred ownership to a spouse but it’s not a one-size-fits-all solution so it’s vital that landlords affected seek professional tax advice.”

Are limited companies always the answer?

The research from Kent Reliance found that 58% of smaller landlords (those with one to five properties) did not believe they would benefit from either of the above measures, compared to 27% of large landlords (those with more than 20 properties).

One of the downsides for some landlords switching investment properties from personal ownership to limited companies is that, according to Love Money, the transaction would be viewed as a sale and purchase, meaning stamp duty and capital gains tax could apply.

Borrowing for limited company buy-to-lets is also generally more expensive and can be harder to obtain compared to standard buy-to-lets, and the associated costs involved with setting up and running a limited company in the first place must also be considered by any landlord thinking of making the switch.

Rising rents could be a side-effect

In a study conducted by the Residential Landlords Association (RLA) which surveyed 3,300 landlords, 70% of respondents said that the mortgage interest relief changes would reduce their profitability – and of that amount, 62% believed Section 24 would diminish their profitability by 20% or more.

Most landlords surveyed (67%) said that they planned to put rents up in order to cover their extra costs, while 25% were thinking of selling properties to reduce their borrowing, and a further 25% intended to leave the sector completely as a result of the changes. The knock-on effects mean many tenants could see rents pushed higher, while the availability of rental properties could decrease over the coming months and years as the regulation takes effect.

While every landlord will be affected to different degrees by the new rules, it is vital that everyone in the buy-to-let industry is aware of and fully understands what Section 24 will mean for them.

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