Legal ways to pay less tax are so interesting! This is especially true with property as so many legislative changes in recent years have impacted the viability of this sector.
To achieve zero tax for property tax, three issues need to be considered:
- Individual vs entity investment
- Investment vs. trading
- Residential vs. commercial properties
Each of these factors is explained in more detail below.
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Individual vs Entity Investment
As a starting point, here are two entities that do not pay tax on property income:
Pension Funds – Commercial property investment may be placed in a pension fund. This includes a property occupied by a related business. (We have specified commercial property as residential property is not usually an acceptable investment for pension funds.)
The powerful combination of an increased annual allowance and the removal of the lifetime allowance for pension funds offers great potential for tax-free capital growth. (See ‘Pension Power in 2023’.) It’s important to note that investment by pension funds must be prudent and approved by the pension scheme’s independent trustee.
Charities – Charities avoid tax on both property income and gains. These entities tend to own properties for investment or for their own use.
In addition, individuals may avoid paying tax on property income via:
- Rent a room relief
- Annual exemption for small property investment income of £1,000 or less
- Owning shares in a UK REIT* or certain PAIFs** through an ISA, as ISA income (including property income dividends) is tax free.
* Real Estate Investment Trust (REIT)
** Property Authorised Investment Funds (PAIFs)
Would you like to explore the best option for your property investment? Let’s talk.
2. Investment vs Trading
The exemptions for pension funds and charities apply to investment property, rather than property bought with the intent of disposal for profit. Investment property is usually bought for the rental income and/or very long-term capital growth it generates. A property which is bought as premises from which to operate would be an investment property. (This is common with charities.)
Are you buying an investment property? Talk to us about the most tax-efficient way of managing your purchase and any subsequent property income.
3. Residential vs Commercial Property
Main Residence Exemption
Capital gains tax does not apply to properties that are main residences. However, a pattern of buying, developing, occupying then selling may be seen as a trading activity. Income tax and/or capital gain tax (CGT) may then become payable.
If you own more than one property, you can elect which property is your main residence for the purposes of the CGT exemption. If this is not done, HMRC decides which property is your main residence.
Periods of absence are acceptable during the last nine months or ownership, or if you have to leave your home for a period of time. A requirement of exemption is that you eventually return to occupy the property (after requirements to work away finish, for example).
Letting out furnished residential space in your main residence attracts a maximum income tax exemption of £7,500 via ‘rent a room’ relief. This can restrict CGT main residence exemption.
Do you rent space within your main residence? Ask us if your CGT exemption is affected.
Non-UK residents
Non-UK residents are subject to tax on residential property gains and commercial property gains. Properties are rebased to market value in 2015 (for residential property gains) and April 2019 (for commercial property gains). This means that gains accrued up to those respective dates may avoid tax.
Are you a non-UK resident with investment property in the UK? This is one of our specialist areas – let’s talk and minimise your tax liability.
Finance Costs
A company with rental income that is completely offset by finance costs can normally reduce its tax to zero.
As an individual, if you are letting a commercial property there is no restriction on the deduction of finance costs. However, with residential property only basic rate tax relief is allowed. If your residential property income is subject to 40% or 45% tax, you will always receive a tax charge.
There is an exception for residential property which qualifies as furnished holiday lettings, where finance costs are normally fully deductible.
Would you like to know the best way for you to minimise your property tax liability? Ask the re:accounts team! Call us for an initial chat without obligation. Tax is our specialist subject, and we love to save money for our clients by reducing their tax bills.
