Incorporating your personal property portfolio into a limited company can provide good tax benefits if done carefully.

Company tax

Limited companies usually pay tax at lower rates on rental profits than individuals, and companies are not affected by the Section 24 restriction on tax relief for mortgage interest that applies to individuals.

Company property rental profits and residential property capital gains are taxed at 19% Corporation Tax, compared to the individual rates of Income Tax at up to 45% or Capital Gains Tax (CGT) at up to 28%.

There is no personal Income Tax liability on company rental profits reinvested in mortgage capital repayments, property improvements, or acquisitions. Income Tax only applies to profits that are extracted for personal use.

Companies face no restriction on tax relief for mortgage interest, unlike individuals, who may pay tax at up to 45% on rental profits without deducting interest and then receive only a 20% tax credit for some of the mortgage interest paid.

Transferring personal properties to a company

A limited company is a separate legal person and pays tax in its own right. Transferring personal properties to a limited company without proper advice could trigger substantial tax charges.

Capital Gains Tax would be payable as if you had sold the property at full market value. The capital gain is calculated as the open market value of the properties less the acquisition cost and capital improvements.

Stamp Duty Land Tax would also be payable based on the market value of the property at the time of the transfer.

Mortgages would also need to be replaced on transfer although sometimes this can be deferred until the end of any fixed mortgage period.

Company mortgages are usually more expensive than personal mortgages, but the tax savings usually outweigh the cost. Perhaps that is why lenders know they can charge companies higher rates?

Personal income from your company

You will have to submit annual accounts and corporation tax returns for your company. Your self-assessment returns will no longer include your property profits, but instead, you will include your directors’ salary and shareholder dividend income.

Your income will probably contain director pay and shareholder dividends. Your company gets tax relief on your director pay, but not on your dividends.

If you set your director pay at the correct level, no National Insurance is payable, but the year still qualifies towards your new state pension. Personal landlord income cannot do this, without paying voluntary NI contributions.

As a shareholder, the first £2,000 of your dividend income is taxed at 0%, and then 8.75% while your overall income is less than £50,271. Remember, your company already paid 19% on these profits, so the effective tax rate is 7.1%, not 8.75%, and it includes the new Health and Social Care levy.

Section 162 Incorporation relief

Taxation of Chargeable Gains Act 1992 (TCGA92) S162 relief is available to property businesses but not to those who merely own property investments. When the relief is available, the Capital Gains Tax referred to above is not triggered. The difference between a property business and mere property investment is the number of properties and the amount of time the owners work in the business.

Ramsay is the famous tax case that established that property letting with a sufficient number of let properties and engagement by the owner constituted a business.  and the is the main piece of case law in this respect. Mrs Ramsay spent 20 hours a week managing her properties and had no other occupation during this time. The court held that the level of activity and taking the activities of the taxpayer “in the round”, was sufficient to deem her work in respect of the portfolio as being beyond the mere passive receipt of income and therefore satisfied the “business” test for the CGT relief.

HMRC generally accepts that a business exists where a person works 20 hours a week on the properties. The property portfolio should contain a sufficient number of properties to justify the time spent working in the property business. The whole property business has to be incorporated as a going concern to qualify for the relief.

Capital Gains Tax

The individual property owners could transfer the whole property business to a limited company and receive shares in that company in exchange for the properties. Capital Gains Tax is not triggered because the new shares in the company have a reduced base cost for tax purposes, equivalent to the original cost of the properties. Any future disposal of those shares could trigger Capital Gains Tax based on that value.

Interestingly, the company acquires the properties at their current value. If the company disposed of a property, it would be taxable on the growth in the value of the property since the transfer, but not the growth prior to the company.

Stamp Duty Land Tax (SDLT)

SDLT relief is available when incorporating a partnership into a company in exchange for shares, but not when the business isn’t a partnership. Full relief from SDLT is available as long as the ownership of the new company matches that of the original partnership.

What is a partnership?

A partnership is a business that is carried out by two or more people. A couple in a personal relationship can qualify as two business partners, whether they are cohabiting, married, or civil partners.

The partners in a partnership must show that they are in business together. They must each, separately have sufficient scale to their property activities that they are each in business rather than just holding investments. The test here is that each partner spends at least 20 hours a week managing the properties. Partnerships should also have a partnership agreement, and bank account, and be registered with HMRC.

Timing

HMRC has anti-avoidance provisions that stop partnerships from being formed simply to benefit from SDLT relief on incorporation. There is no specific time limit, but many practitioners suggest that a partnership should exist for two to three years before incorporation.

Companies and Inheritance Tax (IHT)

Trading companies often benefit from Inheritance Tax relief, but this relief is not usually available to property businesses. For IHT purposes, your estate owns the shares, and the value of those shares reflects the value of the properties owned by the company.

Property companies can still provide IHT savings. Typically, setting up a Family Investment Company, with special types of shares to shelter future growth in the value of the properties from IHT. Loans on the properties and directors’ loan accounts can also be used to reduce IHT exposure.

HMRC Anti-abuse regulations

Any business restructuring must be done for proper commercial motives rather than an artificial arrangement with tax savings as the only motivation.

HMRC has Anti-abuse rules it can use to overturn any artificial arrangements. Commercial decisions should reflect the underlying reality of the taxpayers’ position. For example, a landlord might attempt to transfer the equity in a property portfolio into a limited company while retaining personal legal ownership so as not to affect existing borrowing arrangements. HMRC could question the commercial basis for such an arrangement.

How we can help

Moving personal properties into a limited company can produce significant benefits, but there are also problems to manage.

We produce tax planning reports to model the profits and tax positions with and without incorporation.

Every situation is different, so we assess whether you have a property business or are merely investors and look at the proof necessary.

Does a partnership already exist in your case, or could you create one? We can review partnership agreements for efficacy or assist you in preparing one.

Liaising with you and your solicitors and lenders so that you meet the conditions for incorporation relief and report the transactions correctly.

Advising on any Inheritance Tax planning opportunities that may arise on incorporation, for example, “Freezer” shares, or Family Investment Companies (FIC).

Get in touch today for a no-obligation discussion and to see how we can help.