Section 24. It's been the talk of the property world for quite some time having first been introduced in 2015. Even so, its impact is still largely misunderstood by landlords, accountants and other professionals. If you're still trying to get your head around its terms, don’t panic: hopefully this blog will help…
So what exactly is Section 24?
Section 24 of the Finance (No. 2) Act 2015 (let’s be formal!) essentially changes the way in which tax is calculated for private landlords and investors. Previously, landlords could deduct the cost of mortgage payments on rental properties before they paid tax but, from April 2020, mortgage, loan and overdraft interest costs will not be considered tax deductible.
The changes are being phased in from April 2017 and will be fully implemented by April 2020. It applies to resident landlords with rental properties anywhere in the world, and non-UK residents with properties in the UK; as well as trusts and partnerships with residential rental properties.
But what does this REALLY mean?
Take a deep breath. Are you ready? OK.
Say you rent out a property at £500 per month and you pay £200 a month in mortgage interest. Over the course of a year, that amounts to £6,000 in rental income and £2,400 in mortgage payments. Let's also assume that you spend another £600 in "other costs".
Under the old system, that would count as £2,000 in profit which was taxed at your marginal rate. So a basic-rate taxpayer (20%) would pay £400 in tax, and a higher-rate taxpayer (40%) would pay £800 in tax.
Under the new rules, mortgage payments aren't deducted from profit so, in the above scenario, your profit would be valued at £5,400. Although the new system still lets you claim a basic rate deduction for mortgage costs, this only amounts to £480 (20% of £2400).
So, in this scenario, a basic-rate taxpayer would be paying £600 in tax (20% of £5400 minus £480) and a higher-rate taxpayer would be paying £1,680 in tax (40% of £5400 minus £480).
Who is hit hardest?
The people who will be most impacted by these changes are landlords with lots of buy-to-let properties and, specifically, those with high loan-to-value ratios. Higher-rate taxpayers will also be hit with bigger increases in costs.
With more rental revenue counted as profit, the changes also mean that taxable income levels are likely to rise, and this could push some landlords into the higher-rate tax bracket, even if their income doesn’t actually increase.
For some property investors, the changes could even mean that they end up renting at a loss.
So what can you do about it?
In the first instance, don’t panic! Section 24 is being phased in gradually so you have plenty of time to prepare (you can see the full timeline here).
In the longer term, there are a number of options to minimise the impact of this change on your portfolio and its revenue. We’ll be running through those in our next blog!
And if you need more support?
If you’d like to talk anything through further, you can always get in touch with one of our local branches directly. We’d love to be able to discuss your individual circumstances in more detail.