Section 24 has had a profound impact on the private rented sector since George Osborne decided it was a good idea to restrict of individual landlords to the deduct mortgage interest payments and other financing costs from their rental income.
In this blog post, I explain what Section 24 did, how it has impacted individual landlords but not short term lets or corporate landlords, and HMRC’s dim view of schemes which use limited liability partnerships to avoid mortgage interest relief restrictions.
Section 24 and the taxation of mortgage interest at a glance
What is Section 24?
Section 24 of the Finance Act 2015 was introduced by George Osborne in what he claimed would “create a more level playing field between those buying a home to let and those buying a home to live in” (UK Parliament).
Section 24 restricted the ability of unincorporated landlords to deduct mortgage interest and other finance costs (such as mortgage arrangement fees) against their rental income for tax purposes. These costs had previously been treated as an expense for tax purposes, which meant landlords had been able to offset financing costs against and profits and reduce their tax bill, like any other business.
After Section 24 was fully implemented in the the 2020-21 tax year, landlords who own properties in their own names have been unable to set off the full financing cost against rental income. Instead, individual landlords only get a 20% credit on interest payments.
How has Section 24 impacted landlords?
With the increases in interest rates in 2022 and 2023, landlords are now in the situation where they are making a loss in real terms, as their costs are more than the rent they receive. However, they are taxed on a paper profit that doesn’t recognise how much they’re paying in interest.
This has unfortunately contributed to many landlords deciding to sell up, and leave the private rented sector. According to data from CBRE, there has been an estimated net reduction of 400,000 rental properties from the private rented sector since 2016, with 126,000 being sold since 2022.
Of course not all of these sales will be a direct result of Section 24, but it will have been an important factor.
Are limited companies affected by Section 24?
No, Section 24 doesn’t apply to incorporated landlords who own their properties through a limited company, as Section 21 only impacts income tax, not corporation tax. Unfairly, these companies may still set off all financing costs against rental income for corporation tax purposes, but unincorporated landlords can’t do the same for income tax.
Consequently, instead of creating a level playing field for all, George Osborne introduced unequal treatment between individual landlords and corporate landlords.
As section 24 does not apply to limited companies, many landlords now buy new rental properties through a limited company. Hamptons have estimated that around half of investor purchases in 2021 were by a limited company. They have also calculated that there are now 270,000 buy-to-let companies in operation.
Research published by Paragon Bank in September 2023 showed that almost 75% of those intending to buy a rental property in the next 12 months were planning to use a limited company, up from 62% in Q1 2023.
For lower-rate taxpayers the benefits of using a limited company are far more marginal.
Does Section 24 affect short-term lets and serviced accommodation?
As the tax rules currently stand, income from “furnished holiday lettings” are treated differently from normal rental income. If a property quailifies as furnished holiday lettings, Section 24 won’t apply. This means the owner can set off their full mortgage costs against their income from guests.
You can find out the 2023 rules for qualifying as furnished holiday lettings here, but here’s an overview:
- The Pattern of Occupation: No single let in a tax year may be more than 155 days
- The Availability Condition: The property must be available for letting as furnished holiday accommodation letting for at least 210 days in the year
- The Letting Condition: The owner must let the property commercially as furnished holiday accommodation to the public for at least 105 days in the year. Lets to friends or relatives at zero or reduced rates are excluded. Lets over 31 days are excluded, apart from some exceptions.
Can hybrid property business partnership schemes help landlords reduce tax?
On 4 October 2023, HMRC published guidance (Spotlight 63) stating that a tax planning option marketed to individual landlords known as a hybrid property business scheme “do not work”.
The hybrid business scheme involves individual or joint property landlords transferring their properties to a limited liability partnership (LLP) with a corporate member, which allocates profits on a discretionary basis to members so that the individual members remain basic rate tax payers. The LLP then allocates the remaining profits are allocated to the corporate member.
As well as explaining four reasons why these hybrid business schemes do not work, HMRC warns that “people who use these arrangements may have to pay more than the tax they tried to avoid as well as paying interest, penalties and high fees for using such schemes”.
These schemes have been promoted by tax consultants such as Less Tax 4 Landlords. If landlords have used this structure or similar structures, they should obtain independent legal advice from a tax specialist about the appropriate way forward.
George Osborne sought to level the playing field between landlords and owner occupiers, the latter having lost tax relief on mortgage interest payments in 2000.
However, in doing so, he created a punitive tax regime for individual landlords, and inequality of tax treatment between individual landlords and corporate landlords. The punitive tax regime has directly led to individual sole trader landlords selling their buy to lets, or switching to furnished short term lets, which has had the knock-on effect of reducing the supply of properties in the private rented sector.