This is a very common question in the world of rental tax. In this blog I will be exploring the topic of rental tax and how it affects you.
How tax is calculated on rental income?
The income from rental properties is taxable in the UK.
The tax paid on the rental income is based on the profit made from running this property.
The net profit is calculated using the difference between the rent receivable and rent expenses paid during the year.
Tax paid is calculated differently for most people. The tax paid is solely determined by both the total income earned all through the year and the personal allowance available to them. This applies even if the taxable rental income is the same for two taxpayers.
How do Basic taxpayer pay Rental Tax?
Basic taxpayers are individuals that pay their rental tax at 20%. This is because, in the tax year 2021/22, their total income earned was less than £50,270.
Some of the other taxpayers that earn more than this stated amount can still pay tax at 20%. This only applies if they have their allowance increased due to either tax benefits or tax reliefs that they currently enjoy.
In the tax year 2021/22, every taxpayer are allowed to enjoy £12,750 in Personal Allowance.
(Please note that this amount can be reduced or increased based on individuals’ tax personal situation)
Another tax relief that Basic Taxpayers enjoy is the relief for finance costs at 20% which
invariably means that they enjoy tax relief on their finance cost.
How do Higher rate/Additional taxpayers pay tax on their rental income?
Individuals that earn between £50,271 to £150,000 annually are referred to as Higher Rate Taxpayers.
Higher Rate Taxpayers pay tax on their rental income at 40%.
Additional Taxpayers are those that earn income over £150,000.
For these individuals, their taxable rate is 45% of their net income.
Unlike the basic taxpayers, they only enjoy tax relief on their finances at 20% rather than 45%.
Landlords that within these band are affected negatively in two ways;
- They must pay rental tax at 40% /45%
- They are only given 20% as relief on their finance cost.
This leaves a lot of taxpayers wondering if there other ways of reducing the tax burn to the minimum level.
What are the different methods of reducing the tax paid for Higher and Additional taxpayers?
There are several ways of reducing the tax paid by higher and additional taxpayers in the UK.
The one mistake that tax payers make is not completing these methods carefully.
These methods all have their tax consequences and you should ensure that these methods are completed carefully.
The most common consequence is Capital Gain Tax and Stamp Duties.
Some of these methods are explained below:
1) Gifting the equity or debt to the husband/wife/partner:
The partner that is a Higher Rate Taxpayer can gift the equity of the property to the other, thereby sharing the tax burden. This results in the partner having to pay tax on the rental income at 20%.
2) Setting up a special vehicle company:
With this method, a special vehicle company is set up. This results in the rental income will be taxed under corporation tax at 19% rather than 40% /45%.
Absolute care must be taken when planning on the strategies to reduce the tax paid on rental income as all of the above methods explained above all have different tax consequences.
If you would like us to support you with your rental accounts or tax advisory issues, kindly contact us or you can book a free consultation by clicking here