The tax treatment of interest payments on loans used by individuals to purchase property has featured recently in the press. This has largely been driven by recent publicity that (HMRC) is finding errors in individuals’ tax returns where tax payers have not segregated the capital and interest elements of loan repayments. Only interest can potentially be claimed and HMRC is increasingly raising enquiries into returns.
Nevertheless, there are still planning opportunities available. For example, take a buy-to-let property acquired some time ago for £200,000 with a £150,000 mortgage and now valued at £300,000. Assume a further loan of £50,000 is agreed, increasing borrowing to the original cost of £200,000. The interest arising on the further loan of £50,000 would always attract tax relief, even if it was used to buy a holiday home or a car. The key point is that the loan should never exceed what the property cost originally.
Even more interesting is where a property is let out by an individual who has formerly used it as their principal residence. If the property was bought for £300,000 with a loan of £250,000 and has a current value of £550,000 but is now wholly let out, the loan can be increased to £550,000 and the interest paid will be fully deductible for tax purposes against the rental income received. Technically, the property owner has transferred the property into a new business at open market value.
One further point that is often confusing concerns security on a loan used to purchase property. Whatever security the lender requires is irrelevant when it comes to deducting loan interest for tax purposes. Take the case of an individual who acquires a property for £250,000 with a £100,000 loan secured on their private residence. The loan has been used to purchase a separate buy-to-let investment property and on that basis, the interest paid to the lender may always be offset against the rental income arising on the property.
So whilst a simple point highlighted by HMRC is clearly relevant, the wider applications of the general rules still offer some opportunity to ensure borrowings are as tax efficient as possible.
For more information on how much interest you can deduct in your property investment business, please contact Paul Belsman using the online form below.