A Guide to Section 24 Tax Change For Buy-to-Let Investors

What landlords need to know about Section 24 and what actions buy-to-let investors can take to reduce the impact of increased tax liability.

Rental Accounting

The Section 24 provision came into full effect for the tax year, 2020/21. These provisions were phased in over several years and have substantially reduced the amount of tax relief that landlords are entitled to, reversing several of the major tax advantages previously available to property investors.

In this guide, we explain everything that you need to know about Section 24, what it means for your buy-to-let portfolio, and what actions you can take to reduce the impact of increased tax liability.

What Is Section 24?

Section 24 of the Finances Act of 2015 came into full force at the beginning of the tax year of 2020. It reduces the amount of tax relief the landlords are able to claim, thus increasing the overall tax liability for residential property investors.

For example, prior to the introduction of Section 24 landlords could deduct mortgage interest payments and other property financing costs, including things like mortgage admin fees and the interest on loans taken out to furnish properties. However, since Section 24 has come into full effect these financial costs can no longer be deducted from the rental profits before tax, meaning buy to let landlords have to pay tax on the full amount and then can only claim back a portion of those expenses.

Why Were The Section 24 Reforms Introduced?

There are several aims in mind with Section 24 tax changes. Firstly, the government wants to curb the private rental market by making it less attractive for landlords to invest in property. The intent behind this action is to reduce the number of people that own multiple properties, allowing for more properties to be on the market and slow down the appreciation of property.

Secondly, it’s to stop higher earners from claiming back larger amounts of tax relief. By introducing this measure, the goal is to target tax raises on higher-income individuals.

Finally, it is to increase the housing stock available and give first-time homebuyers an opportunity to get on the property ladder. With the rapid increase in value of property over the last few decades, first-time homebuyers are faced with massive monetary entry barriers.

Who Is Affected By Section 24?

The Section 24 tax changes apply to all residential buy-to-let landlords if they are one of the following:

  • A UK resident who lets properties overseas or in the UK.
  • An individual who lets residential properties in a partnership, a trustee, or beneficiary of a trust and is liable for UK income tax on those residential rental properties.
  • A non-UK resident who lets residential property within the UK.

The section 24 tax relief changes do not at this time apply to holiday rentals, commercial properties, or residential property owned by a registered company.

What Expenses Are And Aren’t Allowable Under Section 24?

Buy-to-let landlords are still allowed to deduct from their gross rent the allowable expenses, meaning expenses such as maintenance costs, can still be deducted from the gross rent and tax only needs to be paid on the rental income after that deduction.

A few allowable expenses include:

  • letting agencies and property management fees,
  • utility bills, and council tax
  • fees for services, such as cleaning and gardening
  • maintenance and repair costs that return the property or an item within the property to its original condition but does not make an improvement to it.

Relief on the following costs is now restricted and payments, cannot be deducted when calculating taxable profit. Instead, a percentage can be claimed back after the taxable profit has been worked out.

  • mortgage interest,
  • the interest on loans taken out to furnish your property,
  • interest on overdrafts administration and other incidental costs associated with taking out or paying a mortgage or other alternative financial terms.

As you can see Section 24 affects most financing repayment claims, rather than ongoing property maintenance and management costs.

Section 24: An Example

Under the Section 24 rules, you will need to pay income tax on almost all of your earnings from the property and then claim back relief.

In this example, your rental income is £18,000 a year and your mortgage interest is £6,000 a year.

Under Section 24 You’ll pay tax on the full £18,000. This will be either 20% (£3,600) or 40%(£7,200), depending on which tax bracket you’re in.

You can then claim only the basic rate tax reduction (currently 20%) of the mortgage interest payment, £1,200.

Meaning the overall amount of tax you would pay is £2,400 or £6,000 depending on the tax bracket you fall into. It’s also worth noting other streams of income can affect the tax bracket you fall into as well.

Calculating the amount of taxable profit on your rental property can be a fairly complex issue, so it’s well worth consulting with a licensed professional to get financial advice and ensure that you are calculating and paying the right amount. Additionally, a qualified financial adviser should be able to assist you in making future plans, effectively budgeting, and achieving your financial goals for the future.

How Can Buy-To-Let Landlords Mitigate And Manage The Impact Of Section 24?

For landlords with smaller rental income and portfolios, the effects of Section 24 may be reasonably minimal. For landlords with bigger portfolios, however, these tax implications could be large so it’s well worth considering potential actions that could be taken to reduce the impact of these changes.

  1. Overhaul your operating costs. By reducing the amount of money spent elsewhere in the management of your property you may be able to offset the losses caused by Section 24. For instance, if you currently use a property management company to handle the day-to-day running of your properties, you might instead self-manage. This would dramatically reduce your overheads.
  2. Refinance your properties. Interest rates are currently low as the UK emerges from the pandemic and begins its economic recovery. Interest rates are likely to remain low, at least for some time which makes it a great time to remortgage your property for a more competitive financing rate.
  3. Move towards commercial properties or holiday lets. Section 24 only applies to residential property. So, switching your investments to commercial property or holiday lets could allow you to bypass the ruling. Of course, there are multiple considerations that you should take in before taking this action.
  4. Incorporate your rentals into a limited company. Again, section 24 does not apply to limited companies. By incorporating you can avoid this tax change. Once again though there are considerations that you should take into account before you make any decisions including multiple incorporation costs, for example, stamp duty and capital gains tax will need to be paid when transferring the property to the limited company.
  5. Set up a beneficial interest company trust. Like becoming a limited company. This allows you to transfer your portfolio into a company structure, which then allows you to avoid the Section 24 tax changes. You’re also able to maintain personal ownership of the property using this structure. These trusts though, do have other implications, such as corporation tax, and there could be issues with remortgaging in the future. So once again, it is recommended that you seek professional advice before making any decisions.
  6. Increasing rent. Modest increases on the rent could offset the additional expenses of the section 24 tax change. However, you need to be careful, increasing the rent by too much could see you slip into a higher tax bracket and end up costing you more.
  7. Reducing the size of your portfolio. Now is a good time to review the overall finances for each of your properties and think about streamlining your investment by selling off any underperforming assets.

Final Considerations

Whether you agree with their policy or not, the recent policy changes made by the UK government show a particular stance has been taken against property investors. The aim, as mentioned earlier is to increase the housing stock available for first-time homeowners. And it is likely over the coming years that the UK Government will introduce additional measures, such as raising the capital gains tax making property investing in residential lets even less attractive.

All that landlords can do at this point in time is manage their portfolio as best they can with modern tools such as Landlord Studio to optimise cash flow and long-term gains, making sure they’re taking into account every deductible expense, and have planned financially for the future.

Other key considerations that landlords need to be considering right now are the changes to income tax reporting with the introduction of MTD which come into effect in 2024. This will require all landlords and property investors to keep digital records, which they will be required to submit on a quarterly basis to the HMRC.

Finally, EPC regulations are changing as well. These regulation changes could cost landlords £1,000s, as they are required to invest in upgrading the energy efficiency of their properties. The cap currently for EPC investments is expected to be raised to £10,000. Landlords should consider consolidating assets and or planning future improvements to their properties in line with the EPC regulation changes now so that they can spread out the cost of upgrades required to lift their property to a band C.

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