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Property tax is one of the top of concerns that landlords have. However the issue is not covered well in UK property blogs. In this article, I summarise the main buy to let taxes an investor will face. I also cover some common methods to avoid and reduce the taxation burden.
Please be aware that I’m an experienced property investor, not an accountant. This article is based on my experience over the last 15 years, and my knowledge about property tax. Before you undertake any tax planning, you should speak to a qualified tax advisor.
Stamp duty Land Tax is paid upon purchasing a property. Stamp duty rates are dependant on the type of property you buy, and price of the property purchase. More details about stamp duty can be found at this UK Government website. There are 3 types of properties that we care about.
- Residential property as your main home
- Residential property as an additional property
- Commercial properties
If you only have 1 property, you’ll pay stamp duty rates for a ‘residential property as your main home’. Purchases below £125,000 incur no stamp duty, and the rates increase as the price of the property increases.
An additional property purchase could be when you buy a 2nd property, or you purchase it through a limited company. There’s a 3% surcharge that is added to your stamp duty rate.
Commercial property refers to shops, offices, warehouses etc.
If you transfer a mortgage-free property to your spouse, then you won’t pay stamp duty. If there is a mortgage, then stamp duty will be calculated against the outstanding mortgage balance.
Income tax is an important buy to let tax, although it’s not just a property tax. If you own a property in your own name, then you’ll pay income taxes on the profits you earn. As a buy-to-let investor, you’ll receive rent from the properties you own. Your profit is equal to the rent minus your costs – these are described in more detail below.
The income tax rates are given here. Below the personal allowance threshold (£12,500 in 2021), no income tax is paid. As your income increases, the tax rate also increases – a rate of 45% is paid on income above £150,000. This is obviously a high rate for a property tax.
To reduce your income tax liability, you need to have a lower income (which is generally not a good thing!). If you’re losing money on your buy to let, then read this article on solutions you can apply. You should ensure that you record all expenses that you incur. I cover these in the section below.
No discussion about buy to let taxes can ignore the impact that expenses have. You pay income tax on the profits of your property investment, and profit depends on expenses. Profit = Rental income – allowable expenses. The rule for expenses is that they must be ‘wholly and exclusively’ used for your property rental business. You’ll need to speak to your accountant, but examples of allowable expenses include:
- Motor costs associated with your property rental business
- Travel costs such as trains and buses
- Repairs to your property
- Landlord Insurance
- Council tax. If you pay it and not the tenant
- Ground Rent. For a flat
- Service Charge. For a flat
- Advertising costs, e.g. an advert on Rightmove
- Letting agency fees
- Legal fees
- Accountant fees
- Training expenses
- Office expenses such as stationary and computers
Please note that legal fees incurred when you buy the property can’t be net against rental income. When you sell the property, these fees can be used to reduce your capital gains tax liability. More details are provided in the Capital Gains Tax section below.
Not all repair costs can netted against rental income either. If you built a loft extension or a conservatory, then those costs can’t be netted against rental income – they’re called capital costs. However if you replace the flooring or fix a boiler, then these costs can be netted against rental income – so called revenue expenses. Check out this article, where I describe a refurbishment on a property of mine. Because I was replacing existing items (e.g. the flooring), the expenses could be netted against rental income.
Also note that mortgage interest costs are not an allowable expense under Section 24 rules. This is explained in the more detail below.
Section 24 states that mortgage interest costs are no longer an allowable expense - so we can’t net it against rental income for tax. Section 24 was fully implemented in 2020, having been announced in 2015 by George Osborne. You can’t net mortgage interest costs against rental income, but you do get a basic rate credit – the calculation is rather cumbersome. The net effect is as follows:
- Higher rate taxpayers with a mortgage will pay more income tax
- Some basic rate taxpayers will become higher rate taxpayers under the new rules
- Some landlords could make a loss on a property, and still pay income tax!
Here’s an example of buy to let tax under Section 24:
- James earns £60,000 from his job and is a higher rate taxpayer
- He also owns a buy to let with £10,000 of rental income, £4,000 of mortgage interest costs, and £2,000 of other costs
- James will pay 40% tax on £8,000 (£10,000 - £2,000). This equals £3,200
- He’ll get a basic rate credit of 20% * £4,000 = £800
- The net tax he will pay is £3,200 - £800 = £2,400
Note that section 24 doesn’t apply to properties owned inside a limited company. For property held within a limited company, mortgage interest is a fully deductible expense.
National Insurance doesn’t apply when you receive rental income. It’s not a relevant buy to let tax.
Council tax isn’t a buy to let tax. It needs to be paid by the person that lives in the property, i.e. the tenant. However if the property is empty, then the landlord will need to pay council tax.
Landlord licensing isn’t a buy to let tax, but it’s something you should know about. Some local authorities in the UK require landlords to pay for a special license. You’ll need to check with the local council. The cost of a license varies from council to council, but is normally around £500 for a 5 year period.
Capital Gains Tax is paid when you sell a property – full details are on this UK Government website. It only applies to property that’s sold by an individual. Tax is paid on the capital gain, which is equal to:
- Capital Gain = Selling price – Buying price - Costs
Costs include stamp duty and legal costs of purchase. You’ll need to speak to your accountant about what costs can be included.
There’s a tax-free allowance, under which a gain is not taxable - £12,300 in 2021. Above that amount, your tax rate depends on how much you earn. Higher rate taxpayers pay more. In 2021, the rates are 18% for a basic rate taxpayer and 28% for a higher rate taxpayer.
There’s relief if you sell your main home. In such a case, you don’t need to pay capital gains tax.
If you own a property within a limited company, then you’ll pay corporation tax on the profits you earn. It’s a property tax you must know about. As a buy-to-let investor, you’ll receive rent from the properties you own. Your profit is equal to this rent minus costs.
Corporation tax was 19% in 2021. This rate is lower than the rate that most people pay in income tax. Also note that Section 24 doesn’t apply to properties inside limited companies – this means that mortgage interest can be fully deducted.
Dividend taxes aren’t direct buy to let taxes, but they’re something you need to know about. If you own a property inside a limited company, then you’re taxed on profits twice! You pay corporation tax on the profits from the rental property. Then you also pay tax to take your money out of the limited company, and into your personal account. There are 3 main way to take money out of a limited company:
- Pay yourself (and spouse) a salary
- Repay loans
- Pay out dividends
I won’t go into detail about these methods here. Evolution Blogger is a UK Property Blog, and I’ve written a separate article about how to take money out of your limited company.
If your limited company makes a profit, then you can pay yourself a dividend. In the UK, dividends are taxable – as described on this UK Government website. The amount of tax you pay depends on whether you’re a basic, higher or additional rate taxpayer. Basic rate taxpayers only paid 7.5% tax on dividends in 2021.
Property tax is an area that many landlords find taxing. Buy to let taxes are something that many investors worry about. In this article, I’ve provided a high level summary of the taxes that you pay as a buy-to-let investor. As always with tax, please speak to a qualified accountant before applying a strategy.