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Buying Buy-to-Let Properties under a Limited Company: What to Consider
Mortgage interest rates have officially reached a seven-month high in the UK. But for buy-to-let property owners – this is just the beginning.
Until 2017, buy-to-let property owners could deduct their mortgage interest from their rental income and only pay tax on the profit. Long gone are those times. Now, tax relief on mortgage interest is set at a flat rate of 20%. Which means in some cases some people are paying tax even when they are making loss on the rental income.
There is also a 3% surcharge on Stamp Duty Land Tax (SDLT) for buy-to-let or second homes (4% in Scotland), which came into effect in April 2016. It’s not surprising that buy-to-let property owners are scratching their heads to find ways to mitigate the impact of these changes. One such way is buying or transferring buy-to-let properties under a private limited company.
In this blog, we cover the advantages and disadvantages of establishing a Limited company to purchase your rental property, including operational challenges and all the different tax implications.
Key factors to consider when setting up a limited company for buy-to-lets
According to Hamptons, there are now over 300,000 registered buy-to-let companies across the UK. Forming a Limited company has never been more enticing for buy-to-let buyers, and based on all the points we mentioned earlier, it’s easy to see why. However many benefits limited companies offer, there are also various implications to consider. These include:
- General tax implications such as HMRC taxes and Stamp Duty
- Tax on selling the property
- Tax relief on mortgage interest and expenses
- Changing interest rates
- Operational and administrative costs
- Dividends tax
Some factors won’t change regardless of buying via a limited company or individually. For instance, you must still pay Stamp Duty (including the 3% surcharge) on the property. You also pay tax on letting income, though the percentage varies depending on whether you earn it as an individual (income tax) or corporation (Corporation Tax). But let’s discuss each advantage and disadvantage in more detail.
The pros of buying a buy-to-let via a limited company
Mortgage interest relief
Purchasing a rental property under a limited company enables you to claim full mortgage interest relief as a business expense. So, unlike individual landlords, you can deduct the total amount of mortgage interest from your taxable rental income and only pay tax on the difference. This results in potentially much lower taxable profits.
Lower tax on rental income
Any limited company must pay Corporation Tax (CT) on business profits, investments, and asset sales – including rental income. In April 2023, the main CT rate jumped from 19% to 25%. Though still 19% up to £50k profit but proportionally reduced if you also own or control assocate companies.
However, this is still good news for high-income earners (those who earn over £50,000 annually). As a high-income earner, if you were to buy a rental property under your name, you would have to pay regular income tax, which would be between 40 and 45% – significantly more than the Corporation Tax.
Tax planning
Owning a property via a company gives you more flexibility when it comes to tax planning. If you want to pass your rental properties to family members, passing your shares of the business is simpler than passing a privately held property. Because the property remains owned by the company, it could be protected from tax. However, transferring company shares is subject to Stamp Duty (0.5% of the value of the transaction) and, if passing it to a family member, may also incur Inheritance Tax – see the limitations of Business Relief for Inheritance Tax here.
Selling a rental property
You will be subject to Capital Gains Tax if you sell a rental property as an individual. This tax can be 18% if you are in a basic-rate tax band or 28% if you are in a high-rate tax band. When selling a rental property via a limited company, you are subject to a Corporation Tax of 25%, which is slightly lower. However, if you want to withdraw the money from the company you would be taxed again subject to whether it is withdrawn as a dividend or a salary.
Limited liability protection
A limited company is a separate entity with limited liability protection. Therefore, your personal assets (or that of the company’s stakeholders) are usually safeguarded in case of legal or financial issues, such as financial insolvency.
The cons of buying a buy-to-let via a limited company
Additional responsibilities and costs
First and foremost, registering a limited company has its own complexities and statutory requirements. There are some costs and paperwork involved with the step-up, and it doesn’t end there – you will need to constantly keep track of your transactions, keep updated with financial records, and submit these to the HMRC and Companies House annually.
Limitations in mortgages
Only about 25% of all banks and lenders offer buy-to-let mortgages to limited companies. This significantly reduces your options when choosing a bank or lender to get a mortgage from, meaning you may not get the competitive offer you want. Plus, you may be required to pay a higher deposit upfront.
Higher interest rates
Because most banks and lenders don’t offer mortgages to limited companies, the competition is lower, and you will likely end up paying higher interest rates and more fees than if you had gotten a mortgage on your own. According to The Times, in January 2023, the average mortgage interest rate for companies was 6.56%, compared to a slightly lower 6.24% for individuals.
Cost of transferring properties
If you already own a rental property under your name and want to transfer its ownership to your limited company, the process isn’t particularly smooth sailing. You must “sell” your property to the new company and pay Capital Gains Tax and Stamp Duty. As mentioned earlier, the Capital Gains Tax can be 18% (basic rate) or 28% (high rate). The Stamp Duty bill is the same whether you pay it as an individual or a corporation. You may also have to remortgage your property, which involves additional costs.
Annual Tax on Enveloped Dwellings (ATED)
UK companies owning residential properties valued at over £500,000 must do annual ATED return and pay tax. These charges rise based on the value of the property. For instance, charges for the period of 1st of April 2023 to 31st of March 2024 range from £4,150 for up to a £1m property to £269,450 for over £20m value property. You can find the complete banding system here.
Reduced capital allowance
Limited companies renting properties can only claim capital allowance on purchasing fixtures and fittings if they are a furnished holiday lettings business or the item is shared in common spaces of the building, such as the building entrance. Any other property item, such as equipment and furniture, won’t qualify as a business expense and, therefore, can’t be deducted from your total taxable profit. You can find more information here.
Tax on Withdrawing money from the company
Your company may have saved some income tax on the rental income but after that when it pays you as an individual, the money will be subject to personal tax. If it’s a dividend income, based on your income bracket could be taxed at 8.75% up to £50,270 gross personal income to 33.75% and 39.35% for higher and additional rate taxpayer (2023/24 rates)
Weighing in: Is setting up a limited company for buy-to-lets advantageous?
Whether buying buy-to-lets as an individual or a limited company, tax, and operational implications are multiple. The chances are it is Not suitable for most people.
This decision also highly depends on your long-term investment plans – whether you’re simply looking to earn a second income, acquire multiple rental properties, or even sell these in the future.
If you’re not an expert in buy-to-lets – you don’t have to become one. Speak with a specialist accountant for further guidance.
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