Murray Beith Murray LLP is a leading Scottish private client law firm.
For 175 years we have specialised in meeting the legal, financial and administrative needs of individuals and families, family trusts, charities and private companies.
Murray Beith Murray LLP is a leading Scottish private client law firm.
For 175 years we have specialised in meeting the legal, financial and administrative needs of individuals and families, family trusts, charities and private companies.
From 6 April 2017, the ability to deduct mortgage interest from rental income is being phased out gradually until April 2020, when after that date, only tax relief will be allowable as an adjustment to a Landlord’s tax liability.
This means that every tax year during the transition period, the percentage of mortgage interest payments that you can deduct from rental income will decrease by 25%, and the portion of those interest payments that qualify for tax relief will rise by 25%.
By 2020, you won’t be able to deduct any of your mortgage interest payment from your rental income before paying tax – instead, the entire sum of your interest payment will then qualify for a 20% tax relief. Please see the table below.
|
Year |
% of costs deducted from profits |
% of costs available as a basic rate deduction |
|---|---|---|
|
2017/18 |
75% |
25% |
|
2018/19 |
50% |
50% |
|
2019/20 |
25% |
75% |
|
2020/21 |
- |
100% |
Landlords will find that their profits assessable to tax will be higher as the restriction on the deduction of mortgage interest relief increases. In some cases, this may mean that a Landlord who was previously a basic rate tax payer, may have their income pushed in to the higher rate tax bracket as their assessable rental profit increases.
Previously, a straight deduction of mortgage interest could result in an allowable rental loss to carry forward. This will not be the case with the relief for mortgage interest as it cannot be used to create a loss; relief is restricted to 20% of the profits that are actually taxed and does not reduce the tax liability on other sources of income.
Where there are property losses brought forward, these must be set against property profits first, before claiming the relief against tax.
When there is a restriction on the relief used in a tax year, any allowable unused relief may be carried forward and added to the finance costs of the following year.
Below are illustrations of how the restrictions affect the tax liability over the tax years:
| £ | |
|---|---|
| Rental Income | 10,000 |
| Less: Mortgage Interest | (2,000) |
| Taxable income | 8,000 |
| Tax Liability | |
| @ basic rate (20%) | 1,600 |
| @ higher rate (40%) | 3,200 |
| @ highest rate (45%) | 3,600 |
| £ | |
|---|---|
| Rental Income | 10,000 |
| Less: Mortgage Interest | (1,500) (£2,000 restricted to 75% deduction) |
| Taxable income | 8,500 |
| Tax Liability | |
| @ basic rate (20%) | 1,700 |
| Less: | |
| 20% Relief on balance of £500 | (100) |
| Basic Rate Taxpayer liability | £1,600 |
| @ higher rate (40%) | 3,400 |
| 20% Relief on balance of £500 | (100) |
| Higher Rate Taxpayer liability | £3,300 |
| @ highest rate (45%) | 3,825 |
| Less: | |
| 20% Relief on balance of £500 (100) | £3,725 |
| £ | |
|---|---|
| Rental Income | 10,000 |
| Less: Mortgage Interest | (1,000) (£2,000 restricted to 50% deduction) |
| Taxable income | 9,000 |
| Tax Liability | |
| @ basic rate (20%) | 1,800 |
| Less: | |
| 20% Relief on balance of £1,000 | (200) |
| Basic Rate Taxpayer liability | £1,600 |
| @ higher rate (40%) | 3,600 |
| 20% Relief on balance of £1,000 | (200) |
| Higher Rate Taxpayer liability | £3,400 |
| @ highest rate (45%) | 4,050 |
| Less: | |
| 20% Relief on balance of £1,000 (200) | £3,850 |
| £ | |
|---|---|
| Rental Income | 10,000 |
| Less: Mortgage Interest | (500) (£2,000 restricted to 25% deduction) |
| Taxable income | 9,500 |
| Tax Liability | |
| @ basic rate (20%) | 1,900 |
| Less: | |
| 20% Relief on balance of £1,500 | (300) |
| Basic Rate Taxpayer liability | £1,600 |
| @ higher rate (40%) | 3,800 |
| 20% Relief on balance of £1,500 | (300) |
| Higher Rate Taxpayer liability | £3,500 |
| @ highest rate (45%) | 4,275 |
| Less: | |
| 20% Relief on balance of £1,500 (300) | £3,975 |
| £ | |
|---|---|
| Rental Income | 10,000 |
| Less: Mortgage Interest | (0) (£2,000 restricted to 0% deduction) |
| Taxable income | 10,000 |
| Tax Liability | |
| @ basic rate (20%) | 2,000 |
| Less: | |
| 20% Relief on loan interest of £2,000 | (400) |
| Basic Rate Taxpayer liability | £1,600 |
| @ higher rate (40%) | 4,000 |
| 20% Relief on loan interest of £2,000 | (400) |
| Higher Rate Taxpayer liability | £3,600 |
| @ highest rate (45%) | 4,500 |
| Less: | |
| 20% Relief on loan interest of £2,000 (400) | £4,100 |
You will note that for basic rate taxpayers with a taxable profit, the end tax liability is the same each tax years; with tax liabilities rising steadily for those who pay tax at the higher and highest rates.
However, although mortgage interest as a deductible expense against rental income is being phased out, there is still some relief available, so all is not lost!
The changes to mortgage interest tax relief only affect private and individual Landlords, not where a company owns properties. As a result, many Landlords are considering setting up their own limited company in an attempt to lessen the impact of the new rules.
An important factor to take into account is that transferring property into a company is treated as a transfer of ownership for tax purposes. Therefore, any rise in the value of the property will be assessable to capital gains tax and the transfer will be liable to Land and Buildings Transaction Tax. This initial tax hit may make setting up a company an impractical option for many Landlords.
Before taking steps to restructure a lettings business, it is important to seek expert tax advice so that the financial impact can be adequately assessed.
If this blog has raised any questions, or you would like to discuss your tax position, please get in touch with Murray Beith Murray today using the Enquiry Form or call us now on 0131 225 1200.
At Murray Beith Murray, we are more than just tax practitioners - we are trusted advisors. We are dedicated to helping our clients solve problems and preserve their wealth. Our highly personal service reflects our culture, which is centered on integrity, trust and expertise, and the guidance we provide has been designed to be an investment, not an expense.
