With the lettings market booming, the Revenue wants a bigger slice of the returns, writes David Budworth
The taxman has launched a sophisticated crackdown on hundreds of thousands of amateur landlords who are profiting from Britain’s buy-to-let boom.
Tax inspectors are using a new computer system to trawl lettings ads and undercover officials are even patrolling the streets. A new whistleblowing line has received tens of thousands of tip-offs about landlords.
The buy-to-let market is booming, with 350,000 people taking out mortgages worth a total of £38 billion last year, and the taxman is determined to get his slice of profits from soaring property prices and rents. It is estimated that 700,000 landlords could be paying the wrong amount of tax.
Mike Warburton at Grant Thornton, an accountant, said: “The government is under pressure to pull in as much tax as possible and property investors are a potentially lucrative source of income.”
News of the crackdown and the aggressive tactics emerged on the Revenue’s website last week. More than 120,000 people have phoned the whistleblowing line and there have been a high number of tip-offs about landlords.
Many informers are thought to be disgruntled former husbands, wives or business partners out for revenge.
Revenue investigators have also been poring over local and national newspapers and websites looking for ads, which they compare with landlords’ tax records to catch offenders.
Inspectors, who act more like private detectives than civil servants, are being sent out on to the streets in search of homeowners who rent out properties but fail to declare these earnings.
John Whiting at Price Waterhouse Coopers, an accountant, said: “There is widespread confusion about how both income and capital-gains tax (CGT) apply to buy-to-lets, as shown by the latest crackdown. Many people we see do not realise that tax on property needs to be declared.”
Even if you have been declaring and paying tax, it is easy to make mistakes. There are different rules, depending on whether the Revenue regards a property as a buy-to-let or holiday home, and the CGT regulations are notoriously complicated.
If you are caught, pleading ignorance is no defence and the end result can be costly. The first danger signal will be a warning letter from the Revenue followed by a payment order for tax due plus interest. There may be penalties on top that can be up to 100 per cent of the amount owed.
Landlords who haven’t been paying the correct tax are being urged to own up now before they are caught.
They will still have to pay tax and interest but penalties can be reduced to nothing if they cooperate with the investigation.
The crackdown is thought to have been prompted by recent sharp gains in property prices, which have created an army of buy-to-let millionaires with hefty capital gains.
The average investor has a portfolio of flats and houses worth £1.5m, according to research by Paragon, a mortgage company, while the average portfolio’s value has risen by about £150,000 over the past year alone.
Strong tenant demand means rents have also been rising at nearly their fastest for five years, according to the Royal Institution of Chartered Surveyors. The typical, buy-to-let investor manages to pocket about £10,000 a year in income before expenses, according to Paragon.
Mark Veness and his girlfriend, Janice Tomlinson, from Barnehurst, Kent, have built up a portfolio of more than 10 properties worth an estimated £3m.
Because Veness has worked in finance he understands how the tax system works, but he acknowledges some people could run into trouble.
He said: “I understand how to fill in my tax return, but it can get complicated, especially if you own more than one property.”
THE TAX RULES
- Rent is subject to income tax, but expenses can be deducted.
- If you rent out a room in your home the taxman will allow you to earn up to £4,250 of rental income a year tax-free, but you must still declare it.
- There is a capital-gains tax liability when you sell but buy-to-lets benefit from nonbusiness assets taper relief, which reduces your bill.
- If your property is classed as a furnished holiday let you qualify for the more generous business-asset taper relief.
The best ways to cut your bill
Property investors could face big income and capital-gains tax bills following the latest Revenue crackdown. Here we explain the tax breaks at your disposal.
I am about to sell my buy-to-let. How much tax do I owe?
The first £8,800 of profit per person is free of capital-gains tax. If you are married you should transfer it into joint names to use both CGT allowances, worth £17,600.
Buy-to-lets also qualify for non-business-asset taper relief. The longer you hold the asset, the smaller the tax bill. So, if a higher-rate taxpayer holds the property for 10 years or more, the tax is 24 per cent on any gains instead of the usual 40 per cent.
Any way I can cut the bill?
You can live in the property a few weeks before you sell, claim it as your principal private residence (PPR) and get three years of growth free from CGT. The Revenue does not specify how long you need to have lived there, but may ask for proof.
Suppose you sold a property after 10 years for a profit of £200,000. You would pay CGT on only 70 per cent of this, £140,000.
You may also qualify for lettings relief of up to £40,000 per owner. Joint owners get up to £80,000 relief but this is limited to the amount of PPR relief, so in this case the maximum would be £60,000. This would reduce the taxable gain to £80,000. Once taper relief and both annual allowances are factored in, you would only pay tax on £34,400. This would cost a couple who are both higher-rate taxpayers £13,760, compared with £44,960 if they had not elected the property as their PPR.
Some solicitors suggest putting the property into trust with two beneficiaries — you as the owner and your tenant. You still own the house; the tenant just has the right to live there.
When you sell, the trust qualifies for private-residence relief and the sale is exempt from CGT.
What about tax on rental income?
Rent is subject to income tax, but the interest you pay on your mortgage can be set against your tax bill. This is why brokers tend to recommend interest-only rather than repayment loans to buy-to let investors.
The amount of interest you pay on a repayment mortgage falls year on year, so the tax relief also drops. This does not happen with an interest-only mortgage.
You can also get tax relief on costs such as maintenance bills, so keep the receipts.
Can I cut my tax bill by using a company?
About one in five professional landlords buys property as a company rather than an individual to cut income tax, according to Paragon, a mortgage company, but analysts say this is only worthwhile if you have at least 30 units.
If you set up a company to own your properties and your rental income remains in the business, you pay corporation tax, typically 19 per cent.
But tax on profits when you sell is likely to be higher. You will pay corporation tax of at least 19 per cent on any profits when the property is sold. In addition, further tax will be charged when money is taken out of the company. If it is paid out as a dividend, the tax will be 25 per cent.
How much CGT do I owe on a holiday let?
You benefit from generous business-asset taper relief when it is sold. A higher-rate taxpayer would pay just 10 per cent tax on any gains after 10 years.
There are strict criteria to qualify. The property has to be available to the public for at least 140 days a year; lettings have to amount to at least 70 days; the property must be fully furnished; and it must be let at a market price.
You can avoid CGT by reinvesting the proceeds from the sale into another holiday home that meets the letting rules within three years.
I rent out rooms. Must I pay tax when I sell?
Normally your main home is exempt from CGT, but if you have rented out rooms you do not qualify for 100 per cent relief because you have not been using the entire house yourself.
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