As a landlord, you are obligated to pay tax at numerous stages for your investment property.
That includes when you purchase the property, when you let it, and when you sell it.
Navigating property tax rules can be difficult for both seasoned and new landlords, mainly as they are updated regularly and seen as rather complex.
If you're unsure about your tax obligations or wish to know the current rules, we've developed a comprehensive guide to keep you informed of what is undeniably an elaborate system.
Income tax and rental income
When letting out a property, you must contact HMRC if your income from rental profit is between £1,000 and £2,500 a year, and they will work out your tax bill accordingly.
From April 2017, you are entitled to a property allowance if your combined rental income from UK, overseas and commercial property falls under £1,000 before expenses. No income tax is required, and there is no need to register with HMRC or file returns. However, some exclusions could affect your eligibility, so it's best to seek advice beforehand.
Tax rates and allowances
Letting is a business, so any profit you make from renting is part of your income and, as such, is subject to income tax.
The amount you pay depends on your total taxable income. For instance, if you pay the basic tax rate, you will pay 20%, but if you are a higher rate taxpayer, it's 40%. It's important to note, however, that tax rates are different in Scotland.
The current rate is as follows:
Up to £12,570
£12,571 to £50,270
£50,271 to £150,000
You may also be eligible to claim income tax reliefs, meaning that you either pay less tax to account for the money you've spent on specific items or get your tax repaid. Some tax reliefs are applied automatically, but there are others you must apply for.
Creating a separate account for your rental income is good practice for calculating your costs. Doing this will allow you to quickly work out your profit, expenses, and other forms of income.
It's crucial to remember that only profits from renting your property are liable for income tax and that to calculate your profits, you'll have to deduct 'allowable expenses' first.
When calculating your expenses, it's essential to know the difference between revenue and capital expenses and what each entails.
Revenue expenses relate to the daily running and maintenance of the property and can be offset against an income tax bill. Meanwhile, capital expenses increase the property's value and can't be deducted from your income tax bill. However, you may be able to offset them against Capital Gains Tax.
Some expenses may be considered capital but will be counted as revenue. For example, double-glazing is no longer considered a capital improvement but a repair, even if replacing single-glazed units.
Your rental income can also offset any costs deemed essential for landlord duties, helping reduce your tax liability.
Examples of allowable expenses include:
- Any letting agents' fees and accountant's fees
- Legal fees for a year or less or for renewing a lease for less than 50 years
- Buildings and contents insurance
- Interest on any property loans you may have taken out
- Money spent on maintenance and repairs (but not home improvements)
- Utility bills
- Rent, ground rent and service charges
- Council tax bills
- Any services you pay for, such as cleaning and gardening
- Any other direct costs incurred, such as phone calls, advertising or stationery
- Mileage to inspect the property, carry out repairs or collect rents
- Courses that enhance or update your existing knowledge as a landlord
Landlord tax relief changes (2017-2021)
Previously, landlords could deduct finance costs from their earnings to reduce the income tax they needed to pay.
However, in 2017, the restriction on finance cost relief (known as section 24) began to take effect, which applied to mortgage interest, interest on loans to buy furnishings, and fees incurred when taking out or repaying mortgages or loans.
This meant that, by April 2020, landlords would receive a basic tax rate reduction of 20% from their income tax liability.
The scheme was rolled out incrementally over four years, with the split between the previous method of personal finance deduction and the new basic rate reduction worked out as follows:
- 2017-2018 – the deduction from property income was restricted to 75% of finance costs. The remaining 25% was available as a basic rate tax reduction
- 2018-2019 – this changed to 50% finance costs deduction and 50% given as a basic tax reduction
- 2019-2020 – this changed again to 25% finance costs deduction and 75% given as a basic rate tax deduction
- 2020-2021 – all financing costs incurred by a landlord were given as a basic rate tax deduction
For the 2021-22 tax year, landlords once again got a 20% tax credit on interest payments instead of deducting mortgage expenses from rental income.
National Insurance rates
Letting activity can be deemed as 'running a property business' and may require you to pay National Insurance Tax.
'Running a property business' applies if being a landlord is your primary job, you let more than one property, or you acquire properties with the intention of renting them out.
You will need to pay this tax if your profits are over £6,725 per year. If they are under this figure, you can make voluntary National Insurance payments which contribute towards you being entitled to the full state pension. Class 2 and Class 4 National Insurance can be paid through Self Assessment.
As of April 6 2022, National Insurance Contributions have increased by 1.25 percentage points.
Stamp duty rates
From April 2016, anyone purchasing a second home or buy-to-let investment is required to pay an additional 3% in Stamp Duty Land Tax.
The rates for additional properties are as follows:
£0 - £125,000
£125,001 - £250,000
£250,001 - £925,00
£925,001 - £1.5 million
£1.5 million +
In July 2020, the government introduced a stamp duty holiday in response to the Covid-19 pandemic. Buy-to-let landlords who purchased a property during this time saved an average of £2,000.
The tax holiday was in effect until October 2021, when the stamp duty rates returned to normal. Landlords were again required to pay standard stamp duty land tax rates, plus the 3% surcharge for second homes and buy-to-let properties.
To work out how much the additional 3% will cost you, this stamp duty calculator is a helpful tool.
If you're an overseas investor, an expat returning to the UK, or investing here, you may also face an extra 2% stamp duty surcharge on top of the 3% for second homes and the normal stamp duty rates. This measure was introduced in April 2021.
Capital Gains Tax
Capital Gains Tax must be paid when a landlord sells (or disposes of) a property that has increased in value. The tax is only payable on properties that aren't the owner's main residence.
To work out the gain, you must deduct the price you bought the property for from the total you are selling it for. You can deduct costs such as agents' or solicitors' fees and the costs of improvement works.
However, you cannot deduct items considered a revenue expense, such as council tax, which may be payable by a landlord during void periods. It is not a capital expense and, therefore, cannot be treated as a deduction for capital gains tax purposes. It is, however, a revenue expense deductible from rental income.
Once you've worked out your gain, you can find out how much CGT you need to pay by using this calculator.
Previously, landlords who rented out a property that was once their main home could claim lettings relief of up to £40,000, subject to certain restrictions. However, this ceased to be available from April 2020.
Furthermore, when a property had been used as the main home at any time during ownership, the final 18 months of ownership were deemed exempt from capital gains. This exemption was restricted to 9 months from April 2020.
In October 2021's Autumn Budget, it was announced that landlords now have 60 days to report and pay capital gains tax when they sell a property. This is double the previous 30-day period, although it remains well below the maximum 22-month period that was in place before April 2020.
There was speculation that the government would increase capital gains tax rates, but there is still no sign of change.
Calculating your profits and loss
To work out your net profit for your lettings as a single business, you must:
- Add together all of your rental income from all of your properties
- Add together all of your allowable expenses
- Take away the expenses from the income
If you're making a loss on your rental properties, you'll need to deduct any losses from profits and enter the figure on your Self Assessment form. Remember that your losses can be offset against future profits (by carrying it over to a later year) or against profits from other properties in your property portfolio.
It's vitally important that you maintain a record of all rental income and expenses and keep them safe until either 22 months from the end of the tax year to which they relate or 15 months after submission of your tax return – whichever comes later. If operating as a business, these time limits are substantially extended.
Completing your tax return
If you complete your Self-Assessment tax returns online, you get an extra three months to submit them. The deadlines for online and paper tax returns are listed here, where further information about the current tax year is also available. The site also provides helpful guidance regarding how you complete your tax return. You must complete your tax return accurately, within the relevant timeframes; otherwise, you can face penalties. You can find the nature and severity of such penalties on the charity Tax Aid's website.
Making Tax Digital for landlords
In April 2019, HMRC introduced the first phase of its new digital tax initiative, Making Tax Digital (MTD), with further deadlines for the self-employed and small businesses fleshed out to April 2023.
The plan marks a vital part of the government's ambition to "make it easier for individuals and businesses to get their tax right and keep on top of their affairs."
This requires them to report quarterly returns to HMRC via MTD-compatible software, and it will apply to landlords with an annual business or property income of more than £10,000 from April 6 2024.
The pilot scheme is already underway, so it's worth looking at the requirements and getting advice from a property tax expert to ensure you have the appropriate software ahead of the full launch.
Once MTD for Income Tax Self Assessment is introduced, you will no longer need to complete a Self Assessment tax return.