This is a three-part series about how landlords can save money on their tax bill. In this final instalment we find out how to pay less tax when selling a rental property. In the previous ones we lay out the most tax-efficient ways to hold and run a property.
Getting rid of a rental property can seem like a tax minefield, with many complicated rules that can take a big bite out of your profits. Those selling a buy-to-let are charged capital gains tax on any money they have made on their property, but there are legal ways to reduce how much you pay. Here we look at the best options.
Remember to use all available reliefs
When selling a buy-to-let, owners are able to offset a number of costs against their CGT bill. These could include estate agents’ and solicitors’ fees, stamp duty when purchasing the property as well as surveying and valuation costs and money spent on home improvements such as an extension.
Someone who had made £15,000 in capital gains and spent £5,000 on a loft conversion, for example, would not have to pay any tax as that would bring the total gain to less than a person’s annual allowance (£12,300).
Move in to the property
You don’t normally have to pay capital gains when selling your main home, thanks to the rules on Private Residence Relief. Some landlords may be able to reduce their CGT bill by claiming PRR if the rental property they sell has at some point been their main residence.
Zena Hanks of Saffery Champness, the accountancy firm, said: “The period where it was occupied as such will qualify for exemption from CGT. Any gains made in the final nine months prior to the sale will also be exempt, whether you lived in the property during that time or not.”
She added that HM Revenue & Customs would quickly disqualify someone from PRR if it seemed as though they had simply moved into the property to pay less tax.
Chris Etherington of RSM, another accountant, said moving into a rental property before selling it could store up CGT issues for the eventual sale of any other home the landlord owned, so would need to be considered carefully.
Use a company structure
Holding investment properties within a limited company comes with a number of tax benefits. The first, which we have mentioned previously, is being able to deduct your mortgage interest payments from your income on your tax bill. Another perk is that, when you want to get rid of your rental properties, you pay corporation tax on the sale at a rate of 19pc, rather than CGT of up to 28pc.
It is also useful when collecting rental income. Landlords are charged corporation tax at 19pc on their earnings, rather than income tax. The rates for the latter are 20pc, 40pc and 45pc depending on your earnings.
But as previously mentioned, landlords with larger portfolios, and yearly profits in excess of £50,000, might find themselves paying the higher rate of 25pc when corporation tax rules are changed in 2023.
Unlike income earned by individuals, there is also no National Insurance to pay and if the company pays out less than £2,000 in dividends in a financial year, these payments are tax-free.
Read the first instalment of this series to find out more about how to use the tapered stamp duty holiday to set up a limited company and give yourself a permanent tax break.
Mr Etherington said: “It’s important to note though that HMRC is likely to take a dim view of selling properties soon after incorporating.”
Make use of your partner’s tax allowance
Married couples and civil partners who are selling a rental property can utilise gifting rules and their individual capital gains tax allowances to reduce their bill. If one member of the couple has already used up their CGT allowance for the year they could gift their half of the property to their spouse, who can use their full tax-free amount.
For instance, if a husband and wife sell a property jointly for a £20,000 profit (or £10,000 each), and the wife has already used her full £12,300 tax-free allowance, she will be liable for CGT on the full £10,000. The husband’s £10,000 gain would fall below his allowance and be tax free. However if the husband owned the property outright, he would be able to use his full £12,300 allowance and pay tax on just £7,700 of the £20,000 gain.
Ms Hanks said: “Make sure there is a legitimate reason you could give to HMRC for transferring the property, for example, that one spouse is mostly running the buy-to-let or put in a large amount of capital for the purpose. Otherwise you could be challenged.”
Partners who are married or in a civil partnership can pass property between them without incurring stamp duty, unless the house has a loan attached to it. As mentioned previously, buy-to-let owners who are still repaying their mortgage can make use of the extended tapered stamp duty holiday to transfer their property to their spouse while paying less in tax.
Use a more tax-efficient way of investing in property
If government crackdowns have made it unprofitable to continue your buy-to-let business, there are other ways to get returns from the property market which are much more tax efficient.
One option is to put some of the profits from the sale into a real estate investment trust, which specialises in investing in property. This would give you access to potential gains in the market without the hassle of managing tenants and filling in tax returns.
Shares in investment trusts can be held within an Isa, meaning any returns you make are free of tax. Real estate investment trusts (Reits) typically focus on commercial properties, such as offices and shops, rather than homes. Some have struggled during the coronavirus pandemic and lost money, so investors should be cautious.