If rents are at an all-time high, why are so many landlords selling up?
If rents are at an all-time high, why are so many landlords selling up?
Simple. A spike in your tax bill thanks to ‘Section 24’ plus high interest rates mean owning rental properties is no longer profitable for many buy-to-let landlords. More than one in ten sold up last year (1) – but if you’re not ready to sell, there are other ways to make your tax bill manageable and stay profitable.
Everything you need to know about Section 24
Buy-to-let landlords are caught between a rock and a hard place. Profit margins are being squeezed hard by rising tax bills on one side – thanks to Section 24, Finance (No. 2) Act 2015 (Section 24) – and high interest rates on the other. Even if interest rates start to stabilise, Section 24 looks like it’s here to stay.
But you do have other options to bring your tax bill down, rather than selling up and getting out.
This article examines the pros and cons of incorporating your portfolio, selling up, giving properties away and using your pension contributions to achieve tax savings. There are ways for landlords to show Section 24 the door.
How hard has Section 24 hit the property rental market?
Residential rental rates may be at an all-time high, but that extra income is being eroded by much higher interest rates on mortgages, and the effect of Section 24; the 2015 tax reform that means landlords can no longer deduct mortgage repayments from their taxable income. This has been hugely unpopular with landlords, but the government has steadfastly refused to back-track. While Section 24 remains in place, and interest rates remain high, more and more residential landlords, who were either higher rate taxpayers before Section 24 was introduced or who have now become higher rate taxpayers as a result of the new rules, are seriously considering if it’s worth staying in business.
What can I do about Section 24?
Option 1: Transferring your properties into a limited company
Creating a company to hold investment property – also called incorporating – has become a popular option. The last few years has seen a record number of property investment companies being set up in the UK. This is because a company can still deduct its mortgage interest from rental income to bring taxable profit down and avoid the effect of Section 24 – unlike private landlords.
However, incorporation comes with lots of other tax implications. Not least of which is Capital Gains Tax (CGT). In the eyes of HMRC, incorporating a number of properties into a business counts as disposing of them. So if your properties have gone up in value a lot since you acquired them, you might face a high CGT bill instead.
Is there any way to reduce CGT?
Yes, to a certain extent - through something known as Incorporation Relief - but it's more a 'stay of execution'. If you can claim Incorporation Relief, you won’t have to pay CGT immediately, but it’s only deferred. Any gain you’ve made is ‘rolled over’ into the base cost of the company shares that you’ll receive when you incorporate.
If you then gift, or sell those shares, ‘disposing’ of them in effect – you’ll need to pay the CGT (unless you die without disposing of your shares, in which case your CGT liability dies with you).
Watch-out: can you prove you’re a legitimate business?
Another, less well-known fact about incorporating is that you have to ‘prove’ to HMRC that you are genuinely running your property portfolio as a business. That usually means dedicating at least 20 hours a week to managing the portfolio. If you only have one or two properties, or if you use a management agency to look after them, those 20 hours may be hard to prove.
The other issue, according to Marcia Banner, Tax and Trust specialist with St. James’s Place, is Stamp Duty Land Tax: “Companies that acquire residential property, with a view to letting it at market rates to unconnected third parties, pay Stamp Duty Land Tax at the same residential rates that apply to individuals who buy additional properties – that is, with an additional 3% surcharge on top of the usual residential rates. And the Stamp Duty Land Tax charge is based on the actual market value of the properties in this scenario, regardless of the value of the consideration actually provided by the company.” It may be possible to avoid the Stamp Duty Land Tax charge, but only if you are running your property business as a genuine commercial partnership, with a spouse or civil partner, or other business partner prior to incorporation.
Watch out: You may need to re-mortgage
If you’re transferring a property with a mortgage, then you may need to re-mortgage, which might be difficult, says Marcia: “Even if you want to incorporate your property portfolio, and neither Stamp Duty Land Tax nor CGT is an issue, if one or more of the properties is subject to an existing mortgage, it is likely that a re-mortgage will be necessary, perhaps at an even higher interest rate. The good news is, mortgage interest will be tax-deductible within a limited company, and therefore you won’t be affected by Section 24.”
Incorporation may not be the straightforward solution it seems. So it’s important to take expert financial advice before you make any moves towards incorporating. This will be particularly important if you are going to still need the rental income from your property portfolio after it’s been incorporated.
Option 2: Selling up and moving on
The number of private landlords choosing this option has hit the headlines in 2023. Selling is definitely an option, if you only have one or two properties, says Marica, but if your properties have increased in value, you may still have a sizeable tax bill: “You could sell them, but then you’ll have Capital Gains Tax to consider. If you haven’t had the properties that long, the gains may be manageable, so you might not have much CGT to pay. And then you could reinvest the profit in something different and more tax-efficient to replace that rental income and perhaps provide the added benefit of inheritance tax-efficiency.”
“It’s a different case if you’ve had the property for years and it’s substantially increased in value. You may be sentimentally attached to them too, if you inherited them or have had them a long time.”
Making the decision to sell could be quite a drastic step and should be carefully considered for the potential long-term impacts on your income. You should always explore all of your options with a financial adviser in the first instance.
Option 3: Gifting or transferring a property to someone else
One way to mitigate Section 24 is to transfer ownership over to your spouse or partner or into joint names. This can be beneficial if they are a basic rate taxpayer, or don’t pay tax at all, and you’re a higher rate taxpayer. Gifting assets to spouses or civil partners is exempt from CGT, although you could have Stamp Duty Land Tax to pay if the new owner assumes liability for some or all of an existing mortgage as part of the arrangement.
Option 4: Making pension contributions
Making pension contributions to keep you in a lower tax band is an option that not many landlords are aware of. It can be a good way to bring you down a tax band and reduce your tax liability overall – plus you’ll be saving for your future. However, if all your income is rental income, the amount you can pay in per year, is limited by law to £3,600 (gross), which may not make the difference you need to make it worthwhile.
The value of financial advice
Every landlord has a unique set of personal and professional financial circumstances. A financial adviser will help you consider the long-term impact of changing the way you run your rental properties, as well as any short-term tax savings. Tax planning is only part of your overall financial planning and wellbeing, and expert advice can help you feel confident about both your long and short-term future.
This guide was created by St. James’s Place, one of the UK’s leading financial advice providers and proud partner of the NRLA.
(1) NRLA, 2024. “Rented housing demand triples say landlords” [https://www.nrla.org.uk/news/press-release-rented-housing-demand-triples]
