With buy-to-let landlords looking to increase their portfolios in 2017 facing tax changes from April, it is likely that more will set themselves up as limited companies with the aim of being more tax efficient.
Already more buy to let mortgage applications are being made via limited companies but experts are warning that there are pros and cons attached to taking such a step and landlords are urged to take advice before taking the leap.
Overall buy to let loan applications made through limited companies surged at the end of 2016 with the latest data from Mortgages for Business showing 69% of total purchase applications made in the fourth quarter of 2016 were made through limited companies, a rise of 6% compared to the previous quarter.
The firm pointed out that this is substantially higher than the 21% recorded before the changes to tax relief on mortgage interest were unveiled by former chancellor George Osborne in July 2015.
The proportion of remortgage applications made through limited companies is also increasing, up from 23% in the third quarter of 2016 to 31% in the final quarter of the year.
Mortgages for Business says this suggests greater numbers of landlords are also transferring their properties into limited company names. This then cuts the proportion of remortgaging applications made by individuals.
But the index also shows that the choice available to limited company landlords remained flat despite the increased interest in the option. As quarter on quarter the number of lenders offering products to limited companies stayed at 14.
Meanwhile, the number of buy-to-let products available to limited companies increased slightly from 195 to 198 quarter on quarter and the proportion of products available to landlords using a limited company as a total of all buy-to-let products was unchanged at 16%.
“The sharp increase in purchase applications made by landlords using a limited company structure is unsurprising given the financial incentive to do so, and it is encouraging to see growing numbers of landlords approaching their investments intelligently,” said Mortgages for Business managing director David Whittaker.
“With the changes to tax relief set to be phased in from April 2017, this trend is unlikely to be reversed any time soon. Although many mainstream lenders do not yet have an offering for investors using limited companies, many smaller lenders have significant expertise when it comes to servicing this part of the market,’ he added.
According to Alistair Hargreaves of mortgage broker John Charcol, putting buy-to-let investment in a limited company allows a landlords to benefit from advantageous tax rates that can be lower than high rate income tax and capital gains tax rates which could apply if property is held in a personal name.
“Those who hold property in limited companies will also be unaffected by the tax relief changes coming into force in 2017, meaning that buy to let lenders may continue to offer lower rent stress tests and improved lending affordability to such landlords,” he said.
Higher tax relief being introduced from April from 2017 in increments until 2020 means that the amount of buy-to-let tax relief individual landlords will be able to claim back, will be progressively cut from a maximum of 45% to 20% for top rate taxpayers.
“This change does not affect limited companies though, so if you are a top rate tax payer, the amount of tax you’ll pay via a limited company will be lower than tax on your individual income,” said Hargreaves.
Such a switch to a limited company would also mean no income tax when reinvesting profits to secure further properties and Hargreaves explained that this means a landlords could grow his buy-to-let portfolio quicker within a limited company as there will not be income tax on the retained profit and although corporation tax is payable on trading profits, this is lower than the higher income tax rate.
The other advantage is that personal funds can be drawn back out of the company so any advances made to a limited company, for example the mortgage deposit, can be drawn back out of the company by way of a directors loan which he says is a tax efficient way of withdrawing the money.
But there are also possible disadvantages of using a limited company, for example, no capital gains tax (CGT) allowance when a property is sold, whereas individuals selling a property would have £11,100 CGT allowance.
There are additional cost of running a limited company such as the preparation of accounts, company tax and corporation tax calculations for HMRC, filing at Companies House, legal fees, and annual auditing if applicable. An accountant may also charge higher fees when preparing the accounts for a limited company.