The Government announced changes to section 24 of the Income Tax Act in 2015, aiming to phase it in over the following five years. As of April 2020, the section 24 tax changes are now in full force. The section 24 tax changes could affect you as a private landlord, especially if you occupy a higher tax-paying bracket. Our guaranteed rent specialists at Flex Living work with accountants and property management companies daily, so we’ve been able to put together a simple section 24 guide with some (legal) ways to avoid section 24, and pay less tax on your buy-to-let properties.
In this article, we are going to discuss :
What is Section 24?
Let’s start with the basics. What is section 24 of the Income Tax Act?
Section 24 is an updated section in UK tax law that applies to revenue on residential properties. The legislation affects the amount of tax relief landlords are entitled to receive. Before section 24, property owners could subtract mortgage interest and other property finance costs from their income tax calculation. However, now landlords must pay tax on all the rental income they receive, so in most cases, their tax bill will increase.
Note: Section 24 only applies to private landlords of residential properties, and not commercial landlords or people who own their properties in a company structure.
Why Was Section 24 Introduced?
Former Chancellor George Osborne announced the tax changes in 2015 to make it more difficult for individual landlords (not commercial landlords) to possess buy-to-let portfolios. The Government imagined this income relief restriction would help curb the private rental market and soaring house prices by discouraging higher-paid landlords from accumulating properties that might otherwise be suitable for first-time buyers struggling to jump on the property ladder.
How Does Section 24 Work?
– Before April 2020
Before 2020, your taxable income from rents was calculated by deducting all allowable property expenses and mortgage interest from the total rent.
|Total annual rental income||£10,000|
|Agency fees & other allowable expenses||£1,000|
|Mortgage interest payments||£7,000|
|Taxable earnings||Total rental income – Estate agent & other property expenses – Mortgage interest
£10,000 – £1,000 – £7,000 = £2000
|Tax payable||Lower tax paying threshold 20% of £2,000 = £400
Higher tax paying threshold 40% of £2,000 = £800
b. After April 2020
Let’s fast forward to 2022, with the section 24 rule in full swing. As a residential landlord, you can no longer subtract mortgage interest as an expense from the total rental income you pay tax on.
The Government introduced a tax credit so landlords can later claim back 20% of their mortgage interest payments.
So, using the same example as above:
|Total annual rental income||£10,000|
|Agency fees & other allowable expenses||£1,000|
|Mortgage interest payments||£7,000|
|Taxable earnings||Total rental income – Estate agent & other property expenses
(Mortgage interest no longer counts as a valid deduction)
|Tax payable (before tax credit)||Lower tax paying threshold 20% of £9,000 = £1,800
Higher tax paying threshold 40% of £9,000 = £3,600
|Net tax payable (after 20% tax credit applied*)||Lower tax paying threshold = £400
Higher tax paying threshold = £2,200
*You can claim back some of your mortgage interest costs later with a tax credit of up to 20%
What counts as allowable expenses?
- Letting agency and property management fees
- Property repairs (not improvements)
- Utility bills and council tax
- Cleaning fees
For more information on what does and does not count as an ‘allowable expense’, visit this Government guidance page.
Download our 2023 ultimate checklist for all your legal responsibilities as a landlord
What Are the Income Tax Rate Thresholds?
Section 24’s effect on your tax liability depends on which tax band you occupy. For lower-income earners, there is little change. But higher income landlords could face significant tax increases.
If you are a basic rate taxpayer, there will be no change in tax owed since the tax credit will leave you in the same net position as you were in under the old model. If you are a landlord in the higher income tax threshold you can still use your 20% tax credit to reduce your bill. All rental income you receive after the tax credit and allowable expenses will now fall into the higher income tax bracket, regardless of how high your mortgage costs are.
|Income Tax Band||Taxable Income (2021/22)||Income Tax rate (2021/22)|
|Personal allowance||Up to £12,570||0%|
|Basic Rate||£12,570 – £50,270||20%|
|Higher Rate||£50,270 – £150,000||40%|
|Additional Rate||£150,001 and above||45%|
Keep in mind that if you work more than one job and have multiple salaries, you could also be pushed into a higher tax band, further increasing the amount of tax you pay upfront.
If you are still unsure about how much tax you need to pay under section 24, Less Tax For Landlords has lots of additional resources aimed at helping landlords build, run and grow professional property businesses.
How Can You Avoid Section 24 on a Buy-to-Let?
There are section 24 tax loopholes you can work with. As always, we recommend getting in touch with an accountant who specialises in income tax before making any quick decisions.
1. Invest in holiday lets
With tax obligations heavily increasing on buy-to-let properties, many landlords opt to invest in holiday lets instead. HMRC classifies furnished holiday homes with trading businesses and commercial properties, so they are subject to different and more favourable tax guidelines. Furnished holiday lets are not affected by section 24, so you can still deduct mortgage interest, finance and other business operating costs from your total tax expenses.
For your property to qualify as a holiday let, it must meet the following conditions:
1. It must be available for at least 210 days a year
2. Guests must occupy it for at least 105 days a year
3. In any year, tenancies lasting longer than 1 month should amount to no more than 155 days in total. e.g 1 tenancy lasting 155 days or multiple monthly tenancies lasting more than 155 days.
If you want to maximise your rental income, why not rent your holiday property to Flex Living? Our corporate let alternative to holiday lettings management offers guaranteed rent to landlords for up to 5 years at the market price and 0% property management fees. We charge no extra costs. Cleanings, monthly inspections and maintenance callouts are all free of charge! We also offer free upscaling and decorating of your property, so it is fully furnished and ready for tenants.
2. Transfer your property to your partner
If you are a higher rate taxpayer and your partner is a basic rate taxpayer, you can do a transfer of ownership to your partner (also called a ‘deed of trust’). Using a deed of trust can ‘divert’ property income from the legal owner to another person named on the deed; this method is widely used for the tax advantage of such a transfer. You should consult your solicitor or a specialist deed of trust service provider before making any decisions.
It would be best to find out how much rental income you can transfer to your partner before you go ahead with this method. For instance, if your partner has a total taxable income of £30,000 (situating them in the ‘basic rate’ tax paying band), then you can transfer a property that brings in an annual rental income (before mortgage interest) of £20,270 (anything higher than this will push your partner into the higher tax paying category where the lower limit sits at £50,270).
Remember that transferring property between partners can be complex, and while you may be able to reduce the impact of section 24, you will still be liable to pay stamp duty land tax (SDLT). Transferral between spouses is a method of avoidance for SDLT. However, the situation is more complicated when a mortgage is involved, so it’s best to consult an accountant or legal professional specialising in property tax.
3. Increase the rent
You could increase the rental price of your properties to make up for the higher tax burden. However, you must do so modestly to avoid falling into the next tax band. There are a few problems with using this method to avoid section 24. Firstly, if you price your property too high, you may not be able to find tenants, which could lead to expensive void periods. Secondly, to validate the higher rental cost to potential tenants, you will likely need to carry out costly improvements and increase the property’s value.
Flex Living’s property management services offer solutions to both of these problems. Firstly, under our guaranteed rent scheme, we provide landlords with a fixed income (paid in advance and in full) every month, even when the property is vacant! Secondly, unlike most property management companies, our highly skilled maintenance and design team at Flex Living offers a free re-design and upscaling of your apartment, making it suitable for corporate accommodation.
4. Re-mortgage your property portfolios
IMPORTANT: We offer a word of caution with this recommendation. In the current climate of soaring interest rates in the UK, remortgaging could leave you with an undesirable interest rate. If the Bank of England brings interest rates down into 2023, then remortgaging could be a viable option in the future.
To reduce the impact of section 24 on your tax obligations, you could review your overall mortgage costs and try to find a more competitive loan. Since taking out your first mortgage, the mortgage market has likely changed; a better deal on interest rates may be available. However, there are some things you should be aware of to make sure remortgaging your properties is worth it right now:
1. Check fees: There could be arrangement and product fees on new mortgages. These fees could make remortgaging more costly than staying on your present deal.
2. Check when your current deal finishes: If you are not at the end of your fixed or discount rate term and plan on ending your current mortgage early, you may have to pay early repayment charges from your existing lender.
Money Helper created this useful mortgage calculator so you can see how much you could save by switching.
5. Incorporate into a limited company (LTD)
Section 24 of the Income Tax Act does not apply to limited companies. So, you can form a limited company and sell your property rental business to that company in exchange for shares. Ultimately, your now commercial property will fall outside the scope of section 24.
However, keep in mind that you will need to pay stamp duty to transfer the property into a limited company (even if you paid it when you originally purchased the property).
6. Sell underperforming assets
Reviewing the returns on all your residential properties could be worthwhile to see which ones are underperforming. These underperforming assets increase your taxable income but don’t offer much value in return, so it could be wise to sell them and reduce your taxable income.
7. Review operating costs
While this is not so much about avoiding section 24 per se, it is valuable advice for maximising your rental income to salvage some money lost through tax. One of the simplest ways to recoup money lost from higher tax rates is to review and reduce your operational costs. Traditional property rental management companies are notorious for hiking up management and administration fees. However, Flex Living offers its property management services with 0% maintenance or management fees and 0% voids. Our operational alternative will help you maximise your rental income while keeping you distanced from the day-to-day management of a tenancy.
Get more for less with Flex
At Flex Living, we know how difficult renting your property can be. If maintenance and management issues weren’t enough, now you could be paying even more tax on your property than in previous years! That’s where we come in. Our unique property management services ensure you pay as little as possible when running your rental business. From our 0% void guarantee to our 24/7 free-of-charge maintenance team, you can relax knowing your property is in safe hands.