Property investment – individual or company?
There have been many changes in the tax rules for landlords of residential property which, dependent on your circumstances, could now mean that it’s more beneficial to hold property for investment using a limited company instead of holding it personally.
In particular, a restriction was introduced such that only basic rate tax relief of up to 20% of an individual’s finance costs is available against the tax paid on rental profits. This will impact higher rate and additional rate taxpayers who pay tax at 40% and 45% respectively. This change takes full effect from 2020/21 but is currently being phased in. Companies do not see an equivalent restriction.
We have looked at two examples below to explore when a company could be beneficial:
Mr and Mrs Smith (higher rate taxpayers) are recently retired and would like to invest some of their hard-earned savings for their now adult children’s future. They are considering investing in property and over time would like to gift some of the property equally between their children.
If they were to purchase the property personally, they would pay income tax on any profits at 40% and relief for mortgage interest paid would be restricted to just 20%. Any future gifts of property to the children could potentially result in Capital Gains Tax and Stamp Duty Land Tax costs as well as Inheritance Tax being paid upon the couples’ death, should they die within 7 years of making the gift. In addition, there can be complications in ensuring value is gifted equally between the children where there are multiple properties.
The couple could buy the property via a limited company, for example by loaning the deposit to the company and then drawing down on the loan (tax free) as and when needed. Rental profits would be subject to Corporation Tax at a rate of 19% (17% from April 2020). When compared to personal ownership, this leaves a larger profit net of tax to be put towards further investments in the company or distributed to the shareholders.
Mr and Mrs Smith would also have control over the investments as directors of the company but retain flexibility of introducing their children as shareholders; the company could be used as an investment vehicle to be passed down through future generations. The valuation rules attached to shares unlock more opportunities for Inheritance Tax planning and the couple would be able to limit their personal liability in relation to the company’s properties. There could be Capital Gains Tax implications on the gift of the shares but there would be no Stamp Duty Land Tax liabilities.
Mr and Mrs Smith are therefore likely to decide to buy the property in a company.
Miss Jones (a basic rate taxpayer) has inherited some cash from her grandmother and is looking to invest it in a property to give her a supplementary stream of income whilst she builds her business.
As a basic rate taxpayer Miss Jones will pay 20% Income Tax on her rental profits, she is therefore unaffected by the mortgage rate restriction as she is not a higher rate taxpayer.
On the other hand if she were to buy the property via a company and draw the full profits each year, she will pay Corporation Tax on the net rental profits at a rate of 19% (17% from April 2020) and in addition to this, Income Tax on dividends or salary she draws from the company – a double charge to tax! A company would also bring additional compliance costs further eroding the profits made.
Miss Jones is only looking to purchase one property and is not expecting to be a higher rate taxpayer even when receiving rental income, she is therefore likely to decide to buy the property personally.
There are many factors to consider when buying a property which will depend on the individual’s particular circumstances and plans for any income generated as well as level of investment. Seeking tax advice ahead of purchase in what is the best option for you could potentially create some large tax savings. It is important to get tax before of buying an investment property.
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