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The buy-to-let market has seen some very significant changes in 2016, most significantly the increase of the additional 3% in stamp duty on any property you own in addition to your primary home.

What this means for those looking to invest their money in buy to lets or property generally may not find the same kind of sound investment that property once provided and offered.

The hike in stamp duty means that any buy-to-let property now attracts a 3% surcharge, which is a considerable increase from the previous rate. Under the old system, if you were buying a property for £200,000, you would pay nothing on the first £125,000 and 2% on the remaining £75,000, resulting in a stamp duty tax bill of £1,500. Now with the 3% levied on the first £125,000 and 5% on the £75,000, you get hit with a much larger £7,500 stamp duty tax bill. This now makes the wait to get additional cost back from any profits much longer.

The longer term prospects for the financial health of buy-to-let does not look good. From April 2017, new limits are being introduced on the amount of mortgage interest that can be offset against rent payments.

It’s a complicated system that some predict will transform profitable buy-to-lets into loss-making properties in most locations, which in turn could force landlords to raise rents considerably or put their properties up for sale.

The chancellor has also stated there will also be cuts to the ‘wear and tear’ allowances, which allow costs for maintenance to be offset against rental income, making achieving a profit even harder to achieve for landlords.

There are also plans in the pipeline from the Bank of England for greater restrictions on who will be eligible for a buy-to-let mortgage. These will mean a wider consideration of a potential landlord’s financial situation, including scrutiny of their monthly income and outgoings, as opposed to just consideration of the rental income of the property under the current system.

The landlords association feels this is a deliberate ploy by the chancellor to free up housing to substitute those the government has failed to plan for.

Ultimately, if you are looking to enter the buy-to-let market soon, you should consider the returns and these new rules. When investing it is always wise to spread your investments and have a diversified portfolio that doesn’t rely solely on placing your money in property just in case as now bricks and mortar means that, even if matters in the property market don’t go your way. 

Need more help?

This feature  aims  to give some informal hints and McPhersons are offering small businesses free advice so get in touch now to arrange your free meeting on 01424 730000 or info@mcphersons.co.uk.

 

The chancellor’s plan to remove mortgage interest tax relief, announced in the Budget and effective from 2017, will hit hundreds of thousands of property investors.

George Osborne at a stroke wiped almost 11% off the gross returns from buy-to-let properties, leaving many landlords facing the prospect of a future with increasing year on year losses, when he slashed higher-rate relief on mortgages in the Budget. These losses could compound further should interest rates rise.

This tax change, which begins in 2017, will see landlords lose a quarter of their higher-rate relief each year until 2020, when it will be restricted to 20% on all mortgage interest.

How to beat the tax changes

If landlords remortgage now, they will protect themselves against rising borrowing costs and they may be able to claw back the shortfalls from the new tax changes. With tax relief available to higher-rate taxpayers being phased out, it will become more important for landlords to reduce their borrowing costs.

Remortgage

As an example, if a buy-to-let landlord is paying 5% on a typical £120,000 mortgage, which has a rental income of £750 per month or £9,000 annually. After allowing for expenses, agents’ fees and mortgage interest he could be left with a £612 annual profit after tax. However, when tax relief is reduced to 20% this £612 profit turns into an annual loss of £588. By remortgaging typically at, 3.79% with a five-year fixed-rate loan, he could save £1,452 annually on his interest bill, turning that annual loss back into a profit of £574. By taking no action and if interest rates rise to say 7% by the time that higher rate tax relief has completely disappeared in 2020, you could be looking at an annual loss of £2,784.

Utilise your spouse’s personal allowance

When a profit is made, if your spouse is not working, you may be able to assign part or all of the rental income to them, allowing them to exploit their personal tax allowance, due to rise to £12,500 by 2020, or 20% tax band.

Form a company

The Government is cutting corporation tax to 19% in 2017 and 18% in 2020. One way for higher-rate taxpayers to cut their tax bills might be to invest via a company, but proceed with caution, as there can be complications. By being a business, all costs can be offset against rental income, so in theory profits may be further improved.

 Within a business, income can only be paid out to the directors as a dividend. From next April they can each receive £5,000 annually tax free. After that, dividends paid to higher rate taxpayers are reduced by 32.5%, while basic-rate taxpayers pay a 7.5% dividend tax.

Reduce borrowings by selling

Some landlords, as a consequence of this new tax law, may review selling up or paying off some of the loan, while others will wish to reorganise their arrangements.  Where a landlord has a portfolio, it may make sense to sell one property and reduce the borrowings on the others.

Rent increases

Many professionals believe rents will have to rise, due to the chancellors’ tax change. There has been a substantial shift, with rents climbing faster than property prices, but now there is still further to go, particularly given that landlords have been targeted in the Budget.

How buy-to-let mortgages work

The crucial difference with a buy-to-let mortgage is that the lender takes rent as the primary source of income, unlike with a residential mortgage where it is your salary that counts. Some may also take landlord’s personal income into account. Most buy-to-let mortgages are also interest-only. This means lower monthly payments and tax efficiency, but the debt is not being paid off.

Typically lenders will want prospective rental income, verified by independent sources, to meet at least 125 per cent of the monthly interest payment on the loan.  This will either be based on the pay rate for fixed and tracker deals (i.e. the initial rate before the deal ends) or the lender’s standard variable rate (potentially plus an extra 1 per cent or more).  They may stress test you against higher rates arriving once a deal period ends. The rental cover test is to ensure landlords can handle periods when their property may not manage to be let, reassure the lender that they will not default and make sure they are lending against a reasonable asset.

Lenders will generally lend only to those with larger deposits, with most deals asking for at least 25 per cent put down by borrowers. The best deals are at the lowest loan-to-values of 60 per cent and below. Any mortgage you have on your own home can potentially cut the amount you can borrow under the buy-to-let scheme if you are relying on personal income to shore up the deal. The value of your investment and the income from it can go down as well as up and you may not get back the original amount invested.

Past performance is not a reliable indicator for future results.  Levels, bases and reliefs from taxation are subject to change and their value depends on the individual circumstances of the investor. Please contact us for further information or if you are in any doubt as to the suitability of an investment.

Every month, the directors at McPhersons share some useful financial tips especially for Business in Hastings readers. This month, Ainsley Gill looks at whether your buy-to-let property could be more tax-efficient. Are you claiming back all of the allowable expenses?

Here is our guide of what is allowable and what isn’t which will help you to keep your dreaded tax bill to a minimum.

Capital Expenses

Let’s start with the expenses you can’t claim for. These fall mainly in the category of Capital Expenses. For example, the purchase price of the property, conveyancing fees and estate agent fees can’t be claimed for. You also can’t claim for improvements against rents received for permanent works such as extensions that have enhanced the value of the property at the date of sale, although these can be claimed for capital gains tax purposes.

So, what exactly can you claim for?

Fees if you are using a Letting agent

If you use an agent to let and manage the property, you will typically pay 10-15% in fees. All of this can be claimed back against  your tax. On a property with rent of £1000 per month, this is £150 per month or £1800 per annum you can claim as an expense.

Your costs to find tenants if you are not using a letting agent

Any costs associated with finding a tenant. For example, advertising, legal documents, credit checks, obtaining references, can all be claimed against tax.

Interest if you have a mortgage on the property

Every penny of interest you pay on your mortgage can be used to offset your tax bill. It is wise to keep your property mortgaged for this very reason otherwise you will miss out on this big tax break. For example, if the price of the buy-to-let property is £200,000 and you take on a repayment mortgage for this amount over 25 years, your total payments will be £1,055 repayment plus £667 interest. The £667 can be offset against your tax. For an interest only mortgage, the whole amount can be offset. Many landlords take this option with a longer term view that the housing market will rise.

Mortgage fees

Although the costs associated with buying the property weren’t allowable, any arrangement fees or mortgage broker fees are tax deductible in that year.

General upkeep, repairs and maintenance

As long as it doesn’t fall under the renovations, extensions restriction, you can claim any reasonable expense relating to the upkeep of the property or furniture within it. For example, repairing the microwave, fridge, oven, painting and decorating, cleaning carpets and the services of a gardener are all claimable. Note, you can clean the carpet and claim but if you replaced the carpet, this will come under improvements.

Assuming the property is let out furnished, you can claim a ‘wear and tear’ allowance of 10% of rent per annum. This can be claimed without HMRC requiring any proof.

Leasehold-related costs

Service charges, ground rent and similar charges paid to a freeholder are allowance expenses.

Bills paid on behalf of the tenant

As a landlord, you can opt to pay for a tenant’s council tax, water, electricity etc. – all of which can be claimed back against tax. This is also relevant when the property is empty.

Insurance

Landlords require landlord insurance which covers liability, buildings, loss of rent amongst other things. This is an allowable expense.

Other direct costs

Any phone calls, travel to your property, postage, stationery that are related to renting your property are allowable. In fact, if you use an accountant to do your tax return, their fees are also tax deductible! At McPhersons, our best advice is to keep all your receipts so we can prove all the expenses are genuine!

Need more help?

This feature aims to give some informal hints and McPhersons are offering businesses free advice so get in touch now to arrange your free meeting 01424 730000