Q- One of our clients asked why doesn’t the relief for an individual landlord for his finance charges in 2017/18 always result in a reduction of his income tax bill of 20% x 25% of those charges?
A- Most people preparing Self-Assessment tax returns for individuals are aware that there is a new restriction to the relief that landlords get for interest and associated finance charges where they are letting out residential property. The restriction applies only to financing costs that a referable on a just and reasonable basis to let dwellings but not (again, on a just and reasonable basis) to dwellings that are furnished holiday lettings (ITTOIA 2005 s272B). HMRC set out their views on what ‘just and reasonable’ means in their Property Income Manual at PIM2056.
Once the part of the finance costs that is subject to the new treatment has been identified, the normal treatment for 2017/18 is that 75% of finance costs remain treated as expense and the other 25% is a tax reducer, i.e. it is multiplied by Basic Rate and deducted from the tax bill. 75% is entered in Box 26 of the UK Property pages if it is a UK property business (or Box 17 on Foreign pages if it is an overseas property business). The box numbers for the remaining 25% are 44 and 24.1, respectively.
However, there are some common situations where the tax reducer is less than expected. The relief for the 25% that is not deducted as an expense of the business will depend on the overall result for the business it relates to (UK property business or overseas property business), the history of that business and the mix of other forms of income the landlord has in the year. Let me illustrate these effects with some simple examples.
Alan’s property business is a shop with a flat above. The tenant in the shop left at the end of 2016/17 and he has not been able to let it during 2017/18. As a result, his property business receipts have not exceeded the expenses incurred during the year (even when only 75% of the interest related on a just and reasonable basis to the flat has been taken as a deduction). The legislation caps the amount that can be included in the tax reducer to nil because there are no profits on the property business this year (ITTOIA 2005 s274AA(2)). Therefore, there is no relief this year; the unrelieved 25% must be noted though because it may become relievable in later years.
Betty has a profitable business but the losses on that business that she is bringing forward into 2017/18 exceed the profit in the year. Again, capping at ITTOIA 2005 s274AA(2) means she will not get a tax reducer in the year. She should keep track of the unrelieved amount as she may be able to use it in a later year when the losses have been exhausted.
Chris has a property business with £10,000 profit and no brought forward losses to use up. His other income is bank interest and dividends from a large portfolio of quoted investments. He’d like to use his personal allowance against the dividend income and get a basic rate tax reducer to mitigate the tax on his property income. He can use his personal allowance as he wishes but the amount of disallowed finance cost that can be used to calculate the reducer is capped by ITTOIA s274AA(3) to his “adjusted total income for the year” (i.e. income after savings income and dividends have been excluded and the personal allowance has been deducted from the remainder.) So again, there is no tax reducer in the year but the unrelieved amount can be carried forward to later years when it may be relieved.
Note that all sections of legislation referred to can be found in Income Tax (Trading and Other Income) Act 2005.