Investing in residential property remains a lucrative venture, even with the recent changes in tax legislation. While the property market ebbs and flows for property investors. One thing that doesn’t change is your ownership choice of structure. It can make or break your success in Property Investment.
Investors in Real Estate can either invest individually or via a Limited Liability Company Tax. Law changes enacted in recent years have made the second choice more popular. Each type of property ownership has unique tax consequences, with benefits and disadvantages associated with each structure. The right option is based on your business objectives.
Ownership Structure: Individual vs. Limited Company
When investing in property, choosing the right structure is crucial for optimizing your investment. Should I invest in my name or through a limited company, this is one of the most common questions property investors ask. Like all things related to taxes, the answer is “it depends. Your property investment goals will lead this decision.
Are you planning to?
- Build a portfolio to generate passive rental income.
- Increase property values, sell it at a gain, and reinvest?
- Invest life savings into real estate as part of a retirement plan.
However, there are two primary methods to invest as an individual or partnership, or as a shareholder in a company. A clear objective from the outset will allow the company ownership structure to work for your long-term goals.
Investing as an Individual or Partnership:
There are several choices available when buying property this way. The simplest approach is to purchase the property directly, either as an individual or as part of a partnership. Another option is to buy property through a limited liability partnership, which functions like a partnership for tax purposes but offers an additional layer of protection against liabilities, similar to a corporation.
Investing as a Company:
Alternatively, you can invest as a shareholder in a company established specifically for property investment. Although this option has always been available, there has been a notable rise in the number of people forming limited companies for property investment since 2015. This trend is largely due to changes in buy-to-let mortgage tax relief, which have caused concern among some landlords about the potential impact on their investment returns.
Impact of Recent Tax Changes on Property Investors
However, recent tax changes, have positioned holding property through a limited company back on the map. Three main tax changes affect buy-to-let landlords.
- Introduction of 3% Stamp Duty Surcharge
- Abolishing the 10% Wear & Tear Allowance
- Reform Removal of Mortgage Interest Tax Relief
Each of these modifications has made the playing field a little more testing for your everyday landlord. Also, many are pushing towards the limited company route.
1. Stamp Duty Surcharge for Additional Properties
An additional 5% stamp duty surcharge on purchasing since April 2016. This surcharge applies to everybody, not just spouses who jointly own property.
Will a company, however, be charged the surcharge? Unfortunately, yes. Corporations pay the 5% surcharge on their initial investment in a property, irrespective of other properties held by shareholders.
2. Abolition of the 10% Wear and Tear Allowance
Previously, landlords of furnished properties could claim a standard 10% of gross rent as an allowance. Regardless of the amount spent on repairs and maintenance. As those of us subject to the highest income tax rate, it helped enormously cut our taxable rental profits. This removal of this allowance has meant individual landlords now have a higher tax bill to pay.
So where a higher-rate taxpayer had £80,000 profit from rental income of say £100,000 would have enjoyed an extra expense allowance. So they saved 40% on another £8,000, eliminating this relief adds to the tax burden and reduces yields.
3. Removal of Mortgage Interest Tax Relief
The single biggest change is the abolition of mortgage interest relief for individuals. Previously, the mortgage interest in paying for an investment property could be deducted by landlords as a taxable expense. Thus reducing their income tax liability. The withdrawal of this relief increases taxes on leveraged property portfolios.
For landlords who rely on mortgages, this change has drastically reduced rental profits and overall returns, making the limited company structure, where mortgage interest is fully deductible, a more attractive option.
Benefits of Holding Property in a Limited Company
There are many advantages to holding property in a limited company, including that …
- Full Deduction of Mortgage Interest: Companies can deduct mortgage interest in full from their rental profits, unlike individuals.
- Lower Tax Rates on Profit from Renting: Corporation tax rates (19% now, increasing to 25% in the future for larger companies) are lower than personal income tax rates, especially for higher earners.
- Diversified Profit Distribution: Shareholders are not obligated to follow by-laws. They have sufficient flexibility to allocate profits legally.
- Reinvestment of Retained Profits: Companies can retain profits at lower tax rates, resulting in higher-quality cash flow for reinvestment and growth.
These benefits can be particularly attractive for landlords who want to grow their portfolios and minimize tax impact, specifically those who are more highly leveraged or have longer-term plans for reinvesting.
Drawbacks of Owning Property through a Limited Company
Industrial and Provident Societies do not offer the same level of tax advantage, there are significant limitations to going down this route. One key issue is double taxation. If you have a company, when they sell a property they pay corporation material tax on capital gains. If shareholders then wish to withdraw the proceeds, they may face further taxes, either through dividends or salary, reducing overall profits.
Financing Buy-to-Let Properties via a Limited Company
Up until now, financing buy-to-let properties for a company was difficult in the past as lenders often preferred individual investors over companies due to personal liability. However the shift towards corporate ownership has led lenders to adapt, and today, there is little difference between the buy-to-let mortgage products available for individuals and companies.
Conclusion: Is a Limited Company Right for Your Property Investment Strategy?
Punitive tax changes have led many investors to favor the limited company route when it comes to buying property. Although previously it was a favorite for larger-scale investors, smaller investors have started to plug into the corporate structure because of new allowances including mortgage interest deductions and lower tax rates.
Our advice would be to set up as a limited company if you are aiming at income.
- Build a large portfolio of properties
- Retain profits within the company to reinvest
- Minimize tax on rental income and capital gains.
But if you rely on income from your properties to pay the bills then leaving the property in your name might still be the best way. Every investor is different, hence a deep analysis must be performed.
If you are still not sure what structure is right for your property investments? At Reflex Accounting our specialist team provides tailored tax advice to assist property investors have the best experience. So, reach out to us for a consultation and find what strategy best suits your investment property.
