Buying property through a company – can you rent back your own home?
When purchasing investment property, one of the first considerations is whether to hold it in person or in a corporate envelope.
A company has its own legal identity for its owners. Therefore, the asset belongs to the company rather than the shareholders or directors. Rental income and income from subsequent sales belong to the company and are subject to corporation tax, which is currently 19 percent. Profits can be achieved through salaries or dividends, which are subject to income tax and social security contributions depending on the income level of a person within a tax year.
The most important question is, “What is your intention for profits?”
> See also: Tax Breaks For Landlords: Why Property Owners Should Consider A Limited Liability Company
If the intent is to reinvest earnings or build cash reserves, a corporate wrapper may be preferred because if the profits do not need to be extracted, they will not be subject to income tax. If the property is held in personal names, those gains will be taxed upon receipt.
In the past, individuals could claim interest on purchase mortgages as a business expense to directly lower their taxable profits. This relief has been phased out over the past three years, and as of April 6, 2020, individuals will only receive tax credit relief up to their base rate band.
However, if a person is making significant rental profits, they should consider a corporate structure. Substantial gains are gains over £ 100,000 per year as an individual’s personal allowance is limited to that level and gains are charged at 40 percent or 50 percent over £ 150,000 in income tax.
Can a director occupy company property?
As mentioned above, profits that are reinvested rather than extracted are not subject to income tax and social security. When a company buys a property for a director or shareholder to live in, it receives a benefit.
To deter shareholders and directors from using company reserves to purchase personal property and thereby avoid paying income tax to HMRC, the law seeks to punish a company in a number of ways.
When a director or a member of the family or household of a worker or director receives residential accommodation, a benefit in kind may arise for both the accommodation itself and related services, including utilities, furniture and other services provided by the company.
If the value of the property is in excess of £ 500,000, it is subject to a special stamp duty (“SDLT”) and annual envelope tax (“ATED”) regime.
Stamp duty property tax
If the property is to be occupied by an unqualified person within the first three years after completion, a flat SDLT fee of 15 percent will be charged upon purchase.
An unqualified person is anyone associated with the company. This includes directors, shareholders and persons connected with them. For example, their family, spouse or partner, their spouse or partner, family and others. The fee is also charged if a market value rent is payable.
Annual tax on sheathed dwellings
Closely related to the above is ATED, an annual fee based on the value of the property. ATED does not expire after three years like SDLT, it is only charged after a property is sold and can be extremely costly.
For example, if the property is worth £ 1m, the ATED fee for 2021/22 is £ 7,500. To further complicate matters, unlike the other taxes, ATED is calculated a year in advance, and the regime imposes significant penalties for violations.
Does it matter whether a property is rented out or developed for sale?
A real estate rental business is an investment activity while redeveloping a property for sale is a business. This distinction is crucial to whether a property is held personally or by a company, as the activities are subject to different tax systems.
Investing activities by private individuals are subject to income tax and NIC and CGT are subject to 18 percent or 28 percent on sale.
Trading activity can benefit from a full deduction of mortgage interest, which is subject to income tax and NIC, when calculating trading profits and proceeds.
If a company’s intention is to invest, the property is included in the financial statements at fair value as investment property. Profits are subject to corporation tax and a taxable profit is calculated on sale. In contrast to the above, the profit is also subject to corporation tax, however certain costs are offset against the annual profit and certain capital costs are offset against the costs of the property until the sale. This means that some expenses are tax-relieved only after the sale.
When a property is developed for sale, it is shown as an inventory in the financial statements at cost. Profits and sales proceeds are subject to corporation tax. A property developer may have to consider other regulations due to its activities.
If subcontractors are hired to develop the property, the work falls under the scope of the Construction Industry Program (“CIS”). CIS requires monthly returns and additional compliance. Please make sure to speak to your accountant or tax advisor before doing any work.
For tax purposes, the key is when it is later decided that property is to be held as an investment and not sold, a business could be subject to a “dry” tax burden if it is shifted from the cost of inventory to the fair value of investment property. It is known as a dry tax burden because taxes are due even though no revenue is generated.
Natasha Heron is a tax manager specializing in property taxes for Hillier Hopkins accountants
A Guide to Property Tax for Small Businesses
She can be reached by email: [email protected] Visit www.hillierhopkins.co.uk.