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Buy-to-let landlords: how to survive the mortgage tax relief changes

September 2, 2015

Huge numbers of buy-to-let landlords are set to potentially see their profits decrease after George Osborne announced plans to cut mortgage interest tax relief in the summer Budget.

What’s changed?

Under the current rules, landlords are allowed to reduce their taxable income by deducting the cost of certain expenses from their rental income. Until now, these allowable expenses have included things like repairs, estate agent fees and mortgage interest.

Under the new rules, landlords will still be able to deduct repairs and other legitimate expenses from their taxable income, but will only be able to knock off a portion of their mortgage interest costs from their profits if they are a higher rate tax payer.

Worked example

To show exactly how this works, we’ve calculated what the impact would be for a higher rate tax payer. We’ve assumed that they bought the property for £500k, are renting out the property at £400 per week and have a 75% mortgage with a 3.5% interest rate.

 

 

So under the new rules, this landlord would end up being £2,625 worse off, with cash generated from their investment falling from £4k, to a little over £1k.

The good news?

There’s no doubt these changes makes things more difficult for landlords, but most landlords won’t be affected quite as severely as this examples shows.

The first thing to note is that landlords who are basic rate tax payers (earning less than about £40k), won’t be affected at all.

Secondly, most landlords have a lower loan-to-value ratio (LTV) than 75%, and many landlords based in London have benefited from substantial capital and rental price growth over the past decade. This means that interest payments represent a much smaller proportion of rental income than shown in this example. As a result, landlords with lower mortgage costs stand to lose less under the new rules.

The third mitigating factor is that these changes will be phased in gradually. There will be no change in this current tax year (15/16), and the tax increase will step up in four equal increments over the next four years. That means for the example above, the landlord will be unaffected this financial year, but approximately £650 worse off next year, £1,300 the year after, £2,000 the year after and finally £2,625 by the time he or she pays his tax bill at the end of 2021.

Re-mortgage now!

To put it another way, the current rules give most landlords a 40% discount on their current interest costs, but under the new regime, this discount will drop to 20%.

So a sensible option for landlords is to try to cut their interest costs by re-mortgaging.

Buy-to-let mortgage interest rates have fallen significantly since the dark days of the banking crisis, so deals currently on the market may well be substantially better than on products arranged a few years ago.

With large increases in property prices in London, another tip is to get your rental property re-valued. This will make your lender recalculate your LTV, and a lower LTV means a better interest rate and a larger choice of lenders.

Let us do the numbers

Whatever you decide to do to reduce your tax bill, it’s imperative you stay on top of your finances. If you’re unsure about the new changes - or if you’d like to rest assured that someone is maximising your return on investment - let us take care of the numbers. We are more than happy to help with the new tax calculations, and as part of our Concierge package we even cover the cost of having an external accountant review your rental income - and income from another source - to ensure you aren’t being overcharged on tax, and to ensure your HMRC self-assessment tax returns are submitted correctly on time.

 

If you’d like any more information on how the changes will affect you, or the services we can provide to help reduce your tax bill, give us a ring today on 020 7099 4000.


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