Incorporating a property rental business

Incorporating a property rental business can offer significant tax advantages, especially in light of recent changes to UK tax rules. Since 2017, mortgage interest restrictions and rising rates have made landlords consider incorporating their buy-to-let business. This article explores the key tax considerations and potential benefits of incorporation for property rental businesses.

Rising interest rates and public articles make landlords rethink their current property ownership and business structure.

Many buy-to-let landlords (sole traders or partners) are considering whether incorporating their business into a company is more tax-effective.

I'm pretty sure someone knows someone who knows someone who has incorporated! The stats speak for themselves. In particular circumstances, there can be clear tax and commercial benefits.

This article looks at the headline tax issues relevant to incorporating a personally held property rental business.

Why incorporate?

The restriction on the deductibility of interest for individual buy-to-let landlords and the imposition of capital gains tax of up to 24% on disposal of residential property, which only applies to direct personal ownership (i.e. it does not apply to companies) make the option of owning residential investment properties through a company more attractive.

Tax Advantages of Incorporating Your Property Rental Business

The advantagesof operating through a company include:

• You can claim relief for all interest paid
• Corporation tax is currently 19% on profits up to £50,000 and 25% on profits over £250,000, with a sliding scale in between (subject to change).
• You can accumulate income in the company and distribute it after retirement to avoid higher tax rates.
• If you plan to pass or share ownership between family members, share capital offers greater flexibility than real physical property. A company shareholding structure allows for effective inheritance tax planning, for example, transferring a suitable number of shares to a discretionary trust? #bespoke
• The first £500 of dividend income for each recipient is taxable at 0%.

The expected way to remove profit from a company is to declare a dividend.

Key Considerations Before Incorporating: Profit Extraction and Double Taxation

However, before you consider the tax rules in any detail you should first consider whether you need to be able to extract net profit from your property rental business on a frequent basis. You cannot forget that even though the rate of corporation tax is considerably lower, if you need to extract net profit from the business, where that business is operated through a company, you will encounter a second tax point on extracting those business profits. #doubletaxation#itiswhatitis

The expected way to remove profit from a company is to declare a dividend. The current rate of tax on a dividend payment received by an individual is 35.75% for higher rate taxpayers. This means that you can either pay a higher rate income tax bill of 40% (42% from April 2027) to get the profits from the business direct into your hands, or you can pay corporation tax at 19% followed by dividend tax at 35.75% (a total tax cost of about 48%, or about 52% where corporation tax is at 25%) to get into the same position.

It is for this reason that the first tax planning consideration when deciding how to structure a property rental business is often:

Do I need to extract the net profit immediately to cover my living expenses or can I leave the profit in the company and grow the business?

We advise clients who need to extract profit regularly to cover basic living costs to avoid using a company structure. In all my posts and articles tax related, I always include the caveat that there is hardly a one-size-fits-all solution.

We assess each individual, family, or company on a case-by-case basis, providing tailor-made and bespoke tax advice.

Balancing the Benefits and Disadvantages of Incorporation

Positively, if your property rental business is focused on preserving profit and funds for investment into further property, then on first principles, an incorporated property rental business may be a good option, subject to the following disadvantages being considered alongside the advantages listed above:

• Any private use of the property will give rise to a benefit-in-kind charge for the director/shareholder.
• All capital growth will occur within the company, resulting in a double charge to tax on gains when the property is sold and the company dissolved. Planning can be undertaken to avoid this.
• There is a higher compliance burden in terms of filing accounts and annual returns.
• There is no annual exemption on realised capital gains (whereas individuals benefit from a £3,000 per tax year exempt amount for capital gains purposes)
• If the business comprises several rental properties and one is sold, the proceeds can only be extracted by way of income distribution.
• No relief will be available to the new company (following incorporation) for any losses brought forward by the individual from earlier years.

Broadly speaking, in the current climate, incorporating a decent sized portfolio may be the way forward, but only once the costs are taken into account. Incorporation will usually trigger Stamp Duty Land Tax (SDLT) on the market value of the properties at the higher rates, including the 5% surcharge. Incorporation relief (section 162 TCGA 1992) is only available where the letting amounts to a business, and it must be claimed. HMRC’s Spotlight 69 and the SDLT anti-avoidance rule (section 75A) can apply to engineered routes.

This is a complex area, and you need to manage and navigate all aspects carefully. Assess capital gains and stamp duty taxes first; we can advise on how to manage these tax burdens.

Then, as a second step, we would always look towards the inheritance tax planning that must be undertaken. Many advisors leave this bit out even though the tax burden is a massive 40%.

This happens when focusing on immediate tax issues without considering medium and long-term impacts.

To conclude

Before undertaking any sort of incorporation it is important to ensure that you have full visibility of all the tax triggers and issues. Equally so, it is important to understand the non-tax issues, such as those with bank financing and additional ongoing administrative costs and regulations that accompany running a business through a separate legal entity. These are all issues which we can advise you further on.

I hope you have found this article useful and as always, please reach out if you have any queries or would like to discuss specific requirements.

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