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Buy to let tax relief changes landlords need to know about

Private landlords are bracing themselves for tax changes on buy to let income, due to fully come into force in April.

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If you’re a landlord of one of the UK’s four million rental homes, read on to find out what the buy to let tax relief and capital gains tax changes mean and how your rental income might be affected.

What is buy to let tax relief?

Buy to let tax relief allows private landlords to offset mortgage interest payments against their tax bill. Historically, any interest on mortgage payments could be deducted from income generated from rent before tax was calculated. Changes to this tax relief were phased in during the tax year 2017-18 and are due to be fully in place next year.

What is capital gains tax?

Capital gains tax (CGT) is the tax you pay on the profit received from the sale of an asset - in this case, a home. CGT applies to property bought as an investment, and not to a home bought as an owner/occupier. The tax is paid only on the gain, not on the total sale price, and you can deduct legitimate expenses such as estate agent’s fees, stamp duty and the cost of any improvements you’ve made to the property.

What are the new buy to let tax rules?

In April 2017, new rules around buy to let tax relief were introduced, leading to significant increases in tax for many landlords and meaning that taking out a buy-to-let mortgage is no longer the major tax advantage it once was. The changes will fully come into effect in April 2020.

Landlords in higher tax brackets will find themselves paying in tax a percentage of their total rental income, instead of the sum left after annual mortgage interest payments have been deducted from their rental income. They will still be able to claim tax relief of 20% of their interest payment, but the age-old benefit of deducting mortgage interest at the highest tax rate will now disappear.

Director of lettings and estate agent Benham and Reeves Marc von Grundherr said: “As well as the reduction in the amount of tax relief claimable on mortgage interest and the financial impact on landlords, there is a raft of other measures coming down the tracks, which will further deter landlords from the market.”

This could include the abolition of Section 21 of the Housing Act, which allows private landlords to evict tenants with two months’ notice, as well as leading to negative earnings for some landlords with small profit margins. The proposals follow a surge in buy to let repossessions, which were up by 40% in Q3 of 2019, compared to the same period in 2018.

What are the changes to capital gains tax?

In addition to the income generated from rent, landlords can profit from a rental property if they sell it. Currently, they have to declare any profit - the capital gains - within their next self assessment, with any CGT due being included in that year’s tax bill.

Under the new rules, CGT due on any property sold from April 6 2020 must be paid within 30 days - up to 20 months less than at present. Landlords will have to complete a ‘residential property return’ within the new 30-day window, with CGT payable on account.

The changes to capital gains tax will also affect some landlords who once lived in the property they later rented out, should they choose to sell. If the house was genuinely their main home at some point, the private residence relief applies to the time it was the main residence, plus the last 18 months of ownership - even if they didn’t live in it during that time. This extends to 36 months for people with a disability and those who move into a care home.

In the Autumn Budget 2018, however, the then chancellor Philip Hammond announced that this 18-month period could be shortened to nine months from April 2020, making landlords in this category liable for CGT over a longer period.

What will the buy to let tax changes mean for tenants?

Mr von Grundherr said: “The UK private rental market houses four million households - that’s about 10m people. Without private landlords, we would have a housing crisis of epic proportions. To encourage them to buy rental properties as investments is not just capitalism, it’s essential from a societal perspective. The county needs landlords and they should not be vilified but encouraged, and tax relief is an effective way of doing so.”

Which landlords will be affected?

Geographically, the London rental market could be vulnerable. Mr von Grundherr said: “Foreign investment, in particular, has dropped, due to financial penalties and political uncertainty, and this will continue if we insist on pushing foreign investment away. But anywhere where yields are under pressure already will impact landlords, regardless of which area they sit in.”

Will landlords still be able to make a profit?

It will still be possible to make a profit as a landlord, but many within the housing sector believe it will be more difficult - and that the changes might lead to cost-cutting, potentially putting tenants at risk.

“Profit will remain marginal, especially when you factor in maintenance arrears and void periods,” said Mr von Grundherr. “These additional costs are often neglected by the decision-makers who view the buy to let sector as an apparent cash cow.

"Many landlords will simply leave the sector and invest in other asset classes. Providing a below-par property is, of course, unacceptable - but it could be viewed as favourable compared to no property at all.”

What can landlords do to prepare for the buy to let tax relief changes?

The extent of the changes coming next spring will depend on the results of the General Election, and landlords can lobby their new MP.

“Unfortunately, landlords will be tougher when considering new tenants,” said Mr von Grundherr. “Arrears, voids and the worst case of a rogue tenant are now the main factors that make the difference between a landlord making some money overall or not, especially with house price growth being weaker.”

With the new rules applying only to private and individual landlords, many landlords are now also setting up limited companies in a bid to reduce the impact of the changes.

If you’re thinking of entering the buy to let market, it’s important to understand what landlord insurance you'll need. We also have a handy landlord’s checklist to get you started.

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