An increasingly popular investment is that of buy to let property, with some individuals building a portfolio of rental properties over time. However, like any form of income, there will be various tax implications to bear in mind, including that of capital gains tax.
Buy to let property is generally seen as a medium to long term investment, building on the initial cost of purchase, legal fees and refurbishment to enjoy a regular and decent return over time.
When it comes to disposing of a buy to let property, however, whether by sale or transfer into a company, any resulting gain will generally incur a capital gains tax liability.
Changes to UK tax legislation in recent years have affected the tax situation regarding rental properties. For instance, the phasing out of offset mortgage relief for high earners has increasingly led to the transfer of buy to let property into a limited company as a means to cut levels of tax payable. Such a transfer may still incur a capital gains liability and there are likely to be other tax implications too.
Do you owe capital gains tax on your buy to let property?
When a buy to let property is sold, capital gains tax becomes payable if the property is sold for more than it was purchased for and there is a resulting gain after allowable costs have been deducted.
Such allowable costs include:
- Solicitor’s fees
- Estate agency fees
- Stamp duty
- Advertising costs
- Improvements to the property for the purpose of raising its value
- Losses made on the sale of buy to let properties in previous years
Capital gains tax has applied to both UK resident and non resident individuals owning rental property since April 2015, when the relevant tax legislation was altered to include non residents within the reach of UK capital gains tax on the sale of a rental property. However, this is only for gains received since April 2015. Where a rental property was owned prior to that date, the amount subject to capital gains tax must be calculated for both prior to and after April 2015.
Any property that is not a main residence, that is, the owner’s main home, is subject to capital gains tax. Besides buy to let property, this could include holiday lets, business premises, land, inherited property, or second homes.
Under Private Residence Relief, the sale of your main home does not trigger capital gains tax, as long as:
- you own one home only, which you have occupied during the period of ownership
- no portion of your home has been rented out, with the exception of taking on a single lodger
- no portion of your home has been used for business purposes only
- the grounds, including any buildings sited in the grounds, are under 5,000 square metres
- the property was not purchased with the intention of making a gain from its sale
How changes in legislation have affected buy to let owners
The capital gains tax rates relating to gains made from the disposal of assets was lowered in April 2016 to 10% for basic rate taxpayers and 20% for higher rate taxpayers. Unfortunately, this change did not roll over to gains made from the disposal of property that is not your main home, and the corresponding capital gains tax rates remained at 18% for basic rate taxpayers and 28% for higher rate taxpayer, in effect imposing an 8% capital gains surcharge on UK landlords.
All UK taxpayers are provided with a tax-free allowance each year which is taken into consideration before calculating profits for the purpose of capital gains tax. This capital gains tax-free allowance is currently £12,300 per individual per year.
What this means in the case of the sale of a buy to let property is that this allowance, currently £12,300, is deducted from any profits made on the sale before capital gains tax is calculated.
Where the buy to let property has multiple owners, each corresponding owner may claim their tax-free allowance against profits made from the sale.
Of course, capital gains tax and the tax-free allowance are not the only tax implications on the sale of a buy to let property, so it is always advised to take professional advice to ensure that all available reliefs and financial liabilities have been taken into account.
How to reduce capital gains tax payable on the sale of a buy to let property
It may be possible to reduce or defer payment of capital gains tax when you dispose of a buy to let property, by using one of the following options:
Private Residence Relief
The disposal of a private residence, in essence your main home, is usually exempt from capital gains tax. Where you plan to sell a buy to let property, you may be able to take advantage of Private Residence Relief by if you have used the property as your main home during the time the period of ownership.
To take advantage of Private Residence Relief, you must prove that the property has served as your main home for at least part of the time that you have owned it. There is no minimum residence time requirement. It may therefore be possible to claim Private Residence Relief based on the fact that the final eighteen months of ownership do not qualify for capital gains tax. This could mean a claim for full or partial relief.
Increasingly, HMRC are more stringent in their examination of Private Residence Relief claims and any evidence that you provide to prove that the property is your main home must be thorough and extensive, including:
- council tax statements
- utility bills
- entry on the voting register
- registration at your local doctor’s surgery
- DVLA documents to show that your car is registered at your address
- telephone and internet bills to prove dates of residence
Private Letting Relief
To be eligible for Private Letting Relief:
- you must be eligible for Private Residence Relief, even if only for part of the period of ownership
- the property has, in part or fully, been a residential rental
- there has been a chargeable gain from renting out the property
Private Letting Relief is an individual relief, therefore available to each of a property’s owners. It is calculated as the lowest amount of either £40,000, the amount of Private Residence Relief allowed, or the chargeable gain from renting out the property.
Changes to capital gains tax on buy to let property
From 6 April 2020, Capital Gains Tax due on the disposal of residential properties are now payable within 30 days of the completion date.
This does not affect any house-seller who benefits from Private Residence Relief.