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Are limited companies best for landlords?

certificate of incorporation of a limited company on an ipad held by a landlord

Until 2015, the answer to this question was fairly straight forward. It was not worth the time and effort for all but the largest landlords to set up companies for their buy to let businesses. It was cheaper and easier to own them directly as an individual. Consequently, very few landlords used limited companies for their property investments.

However, the tax treatment of borrowing costs for landlords changed radically following the introduction of Section 24 announced by George Osborne in July 2015, and fully implemented by 2020. Section 24 which largely tipped the balance in favour of limited companies.

Buy to let mortgage specialist Paragon Bank published data in October 2023 saying that 74% of their customers would use a limited company for their next property purchase. For context, this compares with around 10% in 2016, before the Section 24 tax changes came into force.

That said, whether or not a limited company is right for an individual landlord, is not always simple.

In order to try and answer the question, I’ll start by explaining in more detail the reasons for the increasing popularity of limited companies. Then I’ll discuss the pros and cons of limited companies for buy to let landlords.

What is a limited company?

First of all, what is a limited company, or a company limited by shares?

It’s a corporate entity that is legally separate from the people who own and manage it. A limited company has its own finances, separate bank account, different tax rules and can keep any profits after paying tax.

Businesses routinely operate using limited companies in all sectors of the economy, not just landlords.

Why is Section 24 important?

George Osborne holding the despatch box before his 8 July 2015 budget speech which introduced section 24 Finance Act 2015
George Osborne holding the despatch box containing his 2015 budget speech announcing what became Section 24

The long-term consensus in favour of landlords owning properties in their own names changed considerably in the summer of 2015.

In his budget speech of 8 July 2015, George Osborne announced grand reforms to “level the playing field between those buying a home to let and those buying a home to live in”. That all sounded laudable in principle. However, what became Section 24 actually penalised individual landlords, giving corporate landlords a tax advantage. So much for the level playing field.

Individual landlords lost the ability to set off the full cost of their borrowing as allowable expenses for income tax purposes. Instead, they were restricted to claiming a 20% tax credit for the interest. However, landlords who used a limited company continued to benefit from the full tax relief. This is because companies pay corporation tax, not income tax, and Section 24 doesn’t impact corporation tax.

Consequently, instead of making things fairer, George Osborne created a two tier private rented sector. Section 24 perversely penalises individual landlords, and gives tax advantages to those who use limited companies for property investing. In 2015, these were the larger landlords and corporate landlords.

With successive increases in base rates during 2022-23, Section 24 has become an even bigger issue for sole-trader landlords. This is because they’re now paying tax on a paper profit that doesn’t disregard their full (higher) interest payments. This has led to many long-standing landlords selling up, which has fuelled the housing shortage in the private rented sector.

Undeniably, there are tax benefits to setting up a limited company for rental properties, particularly for higher and additional rate tax payers.

However, investing in property through a company can be complicated, costly and time-consuming. The decision over whether or not to invest via a limited company is not all about tax.

>> Related Post: What landlords need to know about Section 24

The advantages of limited companies for landlords

disadvantage turning into advantage using letters

1. Financing costs are business expenses for companies

First and foremost, the financing costs are a business expense for corporation tax purposes, which is what companies pay. (Individual sole trader landlords pay income tax, which is caught by Section 24).

This means that landlords who invest using limited companies can deduct their mortgage payments from their taxable profits. Consequently, they pay corporation tax on their actual profit, rather than a nominal profit that excludes the financing cost.

2. Corporation tax

The rate of corporation tax of 19% is lower than the basic rate of income tax of 20%. However, it has been 25% for companies with profits over £250,000 from 1 April 2023.

The rate is staying at 19% for companies with up to £50,000 profits, and there is a complicated tapered rate between £50,000 and £350,000. Here is a link to the government calculator which estimates a company’s effective tax rate.

Even with these increases, the rate of corporation tax will still be significantly lower than the higher and additional rates of income tax (40% and 45%).  

3. Inheritance tax planning

Companies offer more scope for inheritance tax planning. This is a topic for specialist advice, and outside the scope of this blog.

4. Dividends

Dividends are tax more favourably than personal income. Shareholders can also currently withdraw up to £1,000 in tax free dividends from a limited company. However, that reduces to £500 in April 2024. The tax payable on dividends over this threshold is lower than for income tax.

The rates are set out on the government website. The rate is 1.25 percentage points higher for dividends from companies that pay the 25% rate of corporation tax.

5. Capital gains

Chargeable gains on property sales are taxable to corporation tax, rather than capital gains tax (28%). Companies are not subject to the obligations relating residential property gains. Individuals are required to notify HMRC of any gains within 30 days and make a payment on account of the CGT.  

On the other hand, there is no free annual CGT allowance for companies. That said, the annual CGT allowance for individuals is reducing to £6,000 in April 2023.

6. Joint ventures

Limited companies are very useful for joint ventures, where a shareholder agreement can set out what each party contributes, who gets what, how decisions will be made and the exit terms.

7. Pension contributions

Landlords who are sole traders and have no other “earnings” can only contribute up to £3,600 gross per year to a pension (£2,880 before grossing up), assuming they are under 75. This is because ental income as a sole trader is not earnings for pension purposes.

Landlords who operate through a limited company and draw an salary on the other hand do have “earnings”. This means that landlords can contribute up to £60,000 of their salary from any limited companies to their pension, and benefit from the tax relief, subject to the annual allowance limit.

Click here for HMRC guidance on pension contributions, published after the Spring Budget on 15 March 2023.

8. Limited liability

Finally, a company has limited liability, which means that the shareholders aren’t responsible for the debts of the company. However, in practice, shareholders routinely provide personal guarantees for buy to let mortgages, which “pierce” the corporate veil.

The disadvantages of limited companies for landlords

paper chase for limited company landlords, man trying to get control of bureaucratic paperwork
The additional paperwork needed for limited company buy to let mortgages is not to be under-estimated

Although there are many advantages to owning a property portfolio via limited companies, there are also disadvantages.

1. Little benefit for mortgage-free landlords

If the property investor is mortgage-free, the treatment of mortgage payments for tax purposes is irrelevant, as they have no financing costs.

Equally, if the investor is a basic rate tax payer, the impact of Section 24 is likely to be low, as they’ll benefit from the 20% tax credit. In both cases, a limited company is unlikely to be the best choice.

A surprising number of investors are mortgage free. Research from Hamptons published in March 2023 estimates that 59% of buy to let purchases in 2023 are mortgage free, up from 53% in 2022. This increases to 67% in London.

2. Costly transfers and tax risk for restructuring

Limited companies are more beneficial for buying new properties from scratch. This is because it’s can be expensive to transfer existing properties to a limited company, stamp duty and CGT are usually payable.

Consequently, it might not be worth transferring your portfolio to a company. It’s important to get specialist tax advice to check whether this is correct for your circumstances.

Some companies such as Less Tax 4 Landlords have been marketing limited liability partnerships and hybrid property business schemes as a way of restructuring ownership, to get around Section 24. However, HMRC published guidance (Spotlight 63) in October 2023 saying they “do not work” and constitute tax avoidance.

>> Related Post: What landlords need to know about Section 24

3. More bureaucracy

It costs time and money to set up and manage a company – click on this gov.uk link for a handy list of what you need to do. There’s the additional tax computations and accounting for the companies, that are more expensive than for individuals.

4. Financing is more bureaucratic

When it comes to buying a new property, taking out a a buy to let mortgage or bridging loan, there’s considerably more paperwork involved. This adds cost, time and hassle. Also, the buy to let mortgage rates are higher for limited companies than individuals.

5. More hassle

It also can take longer for a company to buy a property, making an individual a more attractive buyer from the seller’s perspective. This is something to bear in mind when in a competitive situation for a property.

The legal costs for conveyancing are also higher due to the extra complexity eg the legal implications of giving a personal guarantee.

6. Enveloped dwellings

Properties worth more than £500,000 are “Enveloped Dwellings”, and an Annual Tax on Enveloped Dwellings (ATED) is ordinarily payable. However, if it’s a ‘qualifying rental business’, it will be eligible for relief from the tax, but the company will need to submit an annual Relief Declaration Return.

Here is a link to the government guidance on ATED.

7. More complicated tax

Finally, as the company is a separate legal person, if the shareholders wish to use the profits personally, they will need withdraw them.

Personal income tax may need to be payable by the shareholder, and possibly National Insurance for both the company and the individual, if profits are taken as a salary instead of a dividend.

Final thoughts

In view of the legal and tax complexities, it’s really important to get specialist advice before deciding whether a company is right for you.

In simple terms however, if the amount you would lose by only being able to claim the 20% tax credit for interest payments is materially more than the cost and hassle of setting up and operating a company, it’s likely to be worthwhile for you.

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