It’s well known that property is a great asset class that can give you a high income as well as a fantastic work/life balance. Which is why so many people are choosing to go down this path. There are quite a few things you need to think about tax wise when you are starting a business to ensure you are following legislation and are correctly paying your tax.
So what do you need to do first?
The first thing you need to determine is 'what type' of property business you are. This is essential as the tax treatment is different depending on the activities your property business is involved with.
Generally, you could classify your property activities under one of these four categories:
- Property Investment (property letting)
- Property Development
- Property Trading
- Property Management
The latter three activities are classed as a 'trade' by HMRC and so are subject to Income Tax and National Insurance rules. Property Investment is not classed as a trade by HMRC and so when you come to sell the properties any profit will be subject to capital gains tax.
Individuals running a property investment business will be subject to much lower rates of tax than a property trading business when they come to sell their properties. Capital gains are taxed at a rate of just 18% for basic taxpayers (20% for property traders) and 28% for higher rate taxpayers (up to 62% effective rate for property traders). In addition to this, a capital gains tax 'Annual Exemption' of up to £12,300 (2021/22) is available each tax year for an individual.
It is not as simple as just saying I am a property investor or I am a property developer. Many property businesses have mixed status depending on different projects they are involved with. In addition to this, if you held property for investment purposes but wanted to make a quick sale to realise a substantial gain it would not necessarily make you a property trader. You must ensure that you are classifying your business correctly to ensure you avoid any reprehension and that you are paying your tax lawfully.
Property investors hold properties as long-term investments, producing income in the form of rental profit and capital growth. The rental profit is subject to income tax (not national insurance) and as mentioned earlier any capital gain on sale of the properties will be subject to capital gains tax. You can get a deduction against profits for a number of different types of expenses you incur when carrying out your property business. However, you must make sure that these expenses are correctly classified as either 'revenue' or 'capital'.
Tax allowable property expenses
- Travelling - you can get relief for travelling to and from your properties as long as it is for business purposes.
- Accountancy and legal costs - most costs are allowable as soon as incurred. But if you run a property investment business, any expenses incurred with the purchase or first letting of the property will be a capital expense and have to be added to the 'base cost' of the property.
- Refurbishment - These have always been allowable for any rental or trading business. The key point here is to distinguish between 'revenue' expenses and 'capital' expenditure. Only the first of these can be offset against your rental income, as the latter is treated as part of your base cost for capital gains tax purposes. Generally a repair will restore an asset to a condition it previously was where as capital expenditure will improve it in some way.
Examples of common repairs that are normally deductible in computing rental business profit include:
- Exterior and interior painting and decorating
- Stone cleaning
- Repairing broken windows, doors, furniture and machines such as cookers
- Pre 'Trading' Expenditure - You can claim a tax deduction for expenses incurred up to seven years before you start your property business. So, if you incur any expenses setting up the letting make sure you claim them.
- Other Common Property Expenses include:
- Bank Fees
- Wages & Salaries
Please note this is not a definitive list but should give you some good ideas.
As mentioned earlier, a property trading business is subject to much higher rates of tax than a property investment business (Income Tax & National Insurance). One option for a property trader to reduce taxes is to operate the business through a Limited Company.
Limited Companies are subject to Corporation Tax at much lower rates of tax than sole trader businesses. Profits made in a financial year are currently taxed at 19%.
The drawback to using a Limited Company is that care must be taken to ensure you are not taxed again when profits are drawn out of the business. Profits drawn out as a salary over and above your personal allowance (£12,500 for 2022/23) will again be subject to Income Tax and National Insurance. It will depend on other income received in the year, but the majority of any profit withdrawn from the Company should be done so as a dividend.
Now you know what starting a property business entails, you don’t have to go it alone. At Elite Financial Accounting we can help you along the way. We will provide expert advise to make sure you are doing everything correctly and paying your tax in the most money efficient way. Don’t be left in the dark, give us a call today to find out how we can help you start your property business today.