Budget 2021 – What’s the outlook for property investors?

Over the last few years, Government has introduced various tax measures targeted at residential landlords in an attempt to support private home ownership, with the intention of making it easier for first-time buyers to get a foot on the property ladder.  Whilst we have not heard rumours of further specific targeted measures to be announced in next month’s Budget, might some of the wider options being considered by Chancellor Rishi Sunak impact upon property investors?

Over the last few years, Government has introduced various tax measures targeting residential landlords in an attempt to support private home ownership.  Most notably, the changes include:

  • A 3% Stamp Duty Land Tax (“SDLT”) surcharge on the purchase of additional residential properties; and
  • Loan interest relief restrictions which apply to individuals owning residential property, limiting the rate of tax relief for finance costs to 20% regardless as to whether the individual is a higher 40% or additional 45% income taxpayer.

Because the loan interest relief restrictions apply only to individuals owning residential property, they make the prospect of holding buy to let investments through a company potentially very attractive, particularly where a property portfolio is highly geared, and perhaps more so because the current SDLT ‘holiday’ has lessened the tax cost of buying or transferring property into a company.

Does incorporation of the property business still make sense?

For individuals looking to build a buy to let property portfolio using debt financing, the loan interest relief restrictions often now make corporate ownership the default choice. 

Similarly, as the tax impact of the restrictions has grown to take full effect in the current tax year, many individuals have been, or will be, forced to consider the viability of holding their existing property portfolio through anything other than a company, which brings the incorporation of their existing property business into consideration.

Holding residential property within a company can have advantages – generally driven by lower annual tax liabilities and the potential to either pay debt down more quickly as a result, or to grow capital more quickly for reinvestment – but the capital gains tax (“CGT”) and SDLT cost of restructuring a buy to let portfolio can sometimes present a rather high hurdle when looking to incorporate a property business. 

Is that really a tax rate of 118%?

Illustrating the extent to which annual tax savings could be made, let us compare a residential buy to let portfolio generating rents of £275,000 a year with revenue costs of £27,500 and loan finance costs of £200,000, resulting in a cash profit of £47,500 before tax.  For an individual, tax would likely come out at about £56,000 – yes, tax is greater than profit, representing a 118% tax rate – whereas holding the portfolio within a company could reduce the tax cost to about £11,000, leaving £36,500 of net income to be enjoyed by the owner, to be reinvested, or used to pay down debt.

The annual tax savings associated with corporate ownership of a debt funded buy to let portfolio will often quite quickly repay the initial up-front CGT and SDLT costs which, in themselves, can sometimes be managed using various statutory tax reliefs, but when considering this, the known unknowns should always be factored in, in some way, to stress test the benefits of incorporation.

the known unknowns

In this case, the known unknowns are changes in tax legislation, which is at the forefront of everyone’s mind at present, given our journey in the last twelve months and the associated cost to the economy.  Mr Sunak has agreed to tie his own hands at next month’s Budget by sticking with the Conservatives’ manifesto pledge of a “triple tax lock” meaning we are unlikely to seem him raise the headline rates of income tax, national insurance or value added tax, so where might the known unknowns lie?

The Sunday Times has reported this week that the Chancellor is set to raise corporation tax in the Budget.  It has been suggested that corporation tax, currently 19%, will be raised by 1% from the Autumn and that Mr Sunak will announce a plan to see it rise to 23% by the next election.  This alone would not dramatically reduce the tax benefit of a buy to let incorporation, perhaps increasing the total tax cost in the illustration above by £2,000, but it may be sensible to consider what other, targeted, options may be on the table.  For example, with “levelling up” and fairness of the tax system on the Government’s agenda, might we see:

  • A reintroduction of higher corporation tax rates for non-trading companies, which would reduce the attractiveness of buy to let property incorporations and the growing use of Family Investment Companies (“FICs”) which is also on HMRC’s radar; or perhaps
  • Dividends being taxed at the same rates as earned income, which again would address certain perceived tax-mischiefs and would also likely go some way to addressing “off-payroll working” issues which have been the target of “IR35” for the past 20 years.

Until the late 2000’s a 30% main rate of corporation tax applied to many investment companies, but even then, for a heavily geared buy to let property portfolio, and even allowing for an alignment of dividend income tax with earned income, this still wouldn’t have a dramatic effect on the illustration above.  The tax cost using the corporate route would increase by about £8,000 in total, but this is still materially better than the alternative, which is holding the property personally.

The unknown unknowns

In itself, an increase in corporation tax rates and also an increase in dividend tax rates would not seem to give the Government sufficient of a carrot or stick to achieve their goals of levelling-up property ownership and/or materially increasing the Exchequer’s tax take, more so bearing in mind that further tax savings can be made following an incorporation by making use of tax-free and low-tax options for extracting profits in the form of, for example, retirement savings and the benefit of having a low-emission [which no longer means boring!] car paid for by the company.

It therefore feels like there are some unknown unknowns that might come out in the Chancellor’s Budget on 3 March 2021, perhaps with effect from 5 April, or perhaps consultations announced on the introduction of, say:

  • An annual property tax being introduced to replace council tax and SDLT, which does beg the question as to whether this could lead to a situation whereby SDLT is paid to incorporate a buy to let portfolio and then a property tax is also charged thereafter, which would seem inherently unfair;
  • A wealth tax, be it a one-off tax based on wealth at, say, 28 February 2021 and paid over, say, five years, or an annual ongoing tax payable instead of, or as an adjunct to, inheritance tax, which we also imagine is on Mr Sunak’s radar for reform; or
  • A corporate loan interest relief restriction to ensure a level playing field across the board regardless as to how property is held, which would be an interesting prospect to model alongside an increased 30% rate of corporation tax for investment companies.

The Sunday Times also reported that the Chancellor is expected to extend the current SDLT holiday beyond 31 March 2021 meaning the opportunity to buy property into a company more SDLT efficiently, and the potential for more SDLT efficient incorporations, will continue for a while longer.

However, and perhaps the moral of this article, consider all options and stress test corporate ownership if that seems to be the best option today.  There is a general feeling that Government will need to do more than the known unknowns to balance the books and to influence residential landlords.  The Government’s actions in recent years have not had a dramatic effect, other than to cause affected landlords to change the way in which they buy and own residential property. 

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