How landlords are looking for ways to improve the tax efficiency of their rental properties
Q: I recently bought an investment property in the Portrush area to capitalise on the British Open taking place there and I have continued to let the property out to budding golfers on short term lets over the last five weeks. I expect this to continue for the considerable future. How should I treat this property for tax purposes?
A: As a result of the changes to interest payments for buy to let properties, many landlords are looking for ways to improve the tax efficiency of their investments. Those whose rental properties are in areas with a demand for holiday accommodation may find that a Furnished Holiday Let (FHL) is a more tax efficient alternative to buy-to-let properties.
But how do you know if your property is a FHL? A FHL is a separate category of buildings that stands apart from residential and commercial properties as HMRC deems FHLs as a trade. If a property qualifies as FHL, it attracts certain taxes and enjoys several tax benefits.
In order to qualify as a FHL the property must be:
• in the UK or in the European Economic Area;
• furnished - there must be enough furniture provided for normal occupation and visitors must be entitled to use it;
• meet the occupancy tests (see below).
The property must be commercially let (i.e. you must intend to make a profit) and, if you let the property out of season to cover costs but didn’t make a profit, the letting will still be treated as commercial.
There are three occupancy tests and all three need to be met for a property to qualify as a FHL. For a continuing let, apply the tests to the tax year – 6th April to 5th April the following year. For a new let, apply the tests to the first 12 months from when the letting began and again for the 12 months up to when the letting finished.
In order to decide if your property is a FHL you need to fulfil the following 3 conditions:
1. If the total of all lettings that exceed 31 continuous days is more than 155 days during the year, this condition isn’t met so your property won’t be a FHL for that year.
2. Your property must be available for letting as furnished holiday accommodation letting for at least 210 days in the year.
3. You must let the property commercially as furnished holiday accommodation to the public for at least 105 days in the year.
The advantages of a Furnished Holiday Let include the following:
1. Furnishing your property can be tax redeemable
Capital allowances can be claimed on your FHL property. This means the cost of furnishing your holiday let to a luxury standard (and in return, increasing your potential rental income) can be deducted from your pre-tax profits. This isn’t an option available for long-term rental properties.
2. Income generated from an FHL property is classed as ‘relevant earnings’ – this means you can make tax-advantaged pension contributions.
3. If you should come to sell your FHL property, you are able to claim certain Capital Gains Tax (CGT) reliefs. These are unavailable to long-term rental properties and include:
• Entrepreneur’s Relief
• Roll-over Relief
• Hold-over relief
4. With long-term rental properties, profits would be distributed according to the official ownership split (e.g. If you owned 50 per cent of the property, you would share 50 per cent of the profits). With an FHL property, you can portion the profit to everyone’s beneficial interest in the property or by reference to the actual work done in letting the property, where there is sufficient evidence to support this.
5. The biggest bonus of all is that mortgage interest is fully deductible, unlike other residential property letting which currently has a restriction against how much you can claim relief for.
Whilst there are numerous tax advantages of treating a property as a FHL, it is also important to consider some of the disadvantages.
These include :
- Like all holiday accommodation, if the turnover from your FHL property portfolio exceeds the VAT threshold (currently £85,000), you will need to become VAT-registered.
- Losses from an FHL or other property businesses cannot be offset against other income, instead these losses are carried forward and offset against future profits. These losses can accumulate and be carried across multiple years.
- There is more day-to-day work involved with these as you must monitor the days that is let for, ensure you advertise and fill it for the required days. This takes a lot of time and effort.
:: Feargal McCormack (firstname.lastname@example.org) is the managing director of PKF-FPM Accountants (www.pkffpm.com). The advice in this column is specific to the facts surrounding the question posed. Neither the Irish News nor the contributors accept any liability for any direct or indirect loss arising from any reliance placed on replies.