William Mackenzie provides an outline of the most important
tax and commercial factors to be taken into account by dentists
when deciding whether or not to invest in property to let.
Record numbers of individuals - including dentists and other
professionals - are putting their money into property in the form
of buy to let investments. According to statistics recently
released by the Council of Mortgage Lenders, banks and building
societies lent a total of £7.7bn to landlords in the first
six months of this year - a 40% year on year increase. Dentists
need to be aware of the commercial factors driving this surge in
investment and also the tax considerations to be borne in mind if
they are considering investing in this sector.
COMMERCIAL
CONSIDERATIONS
With interest rates at a 50 year low and a poor stock market
performance in recent years, property is seen as a relatively save
haven. Investing in residential property is viewed as a means by
which:
* Relatively secure capital gains can be achieved on eventual
sale
* Steady income returns can be achieved throughout the period of
ownership
* Mortgage finance is covered in repayment terms by the security
of the eventual sale of the property and in interest terms by the
rental income
Many dentists view an investment in the buy to let market as a
useful supplement to the NHS Pension Scheme and other traditional
pension plans.
PROCEED WITH CAUTION
Short term considerations
Due to the significant investment in buy to lets and low interest
rates, gross rental yields are at historically low levels. With
interest rates widely expected to rise soon and the major banks
beginning to tighten their buy to let lending criteria the short
term looks decidedly rocky. However, taking a long-term view,
demand for rented property is expected to grow substantially -
mainly on account of demographic factors.
Other key factors to be taken into
account
The trouble with national statistics is that they are averages
across the whole of the country and they mask significant regional
variations. By all accounts the North is presently far more buoyant
than the South and yields are higher on account of the fact that
property prices are more realistic. University towns are always
more popular on account of student demand which underpins the
market. Two bedroom flats are in greatest demand as they appeal to
the greatest number of prospective tenants.
TAX CONSIDERATIONS
The major taxes impacting on property consist of income tax,
corporation tax - where investing through a company and capital
gains tax (CGT). Inheritance tax (IHT) and stamp duty are also
important but are beyond the scope of this article. An initial
decision has to be made as to whether the property is going to be
owned by:
* An individual
* A partnership or joint ownership - usually but not necessarily,
a spouse
* A limited company
There are significant differences in the tax treatment of
property owned by an individual or partnership on the one hand and
a limited company on the other. This will be dependent on a number
of factors.
Investing through a limited company
One of the most frequent questions I am asked in practice is
whether buy-to-let property should be bought through a company or
not? It is easy to see why clients ask this question. After all,
the first £10,000 of profits in a company are taxed at 0% and
the small companies corporation tax rate is only 19% as opposed to
the higher rate of income tax of 40%. The trouble is that things
are not quite what they seem! As long as the profits are retained
in the company there is no problem. The problems start when
extracting profits from the company. Should the owner/s draw money
out of the company - either in the form of salary or dividend then
further income tax is payable. Also, each time a property is sold
corporation tax will be payable - assuming that the sales proceeds
are not re-invested.
Tax deductions - individuals and
companies
Similar rules apply for income tax and corporation tax. Rental
income is usually taxed as investment income. This does not have
too much affect for income tax purposes but it does have a marked
affect for CGT purposes, which is referred to below.
Allowable expenses include mortgage interest, insurance, management
expenses (including advertising for tenants), repairs and
redecoration. Improvement expenditure on such items as building
extensions, installation of central heating and major works are not
allowable as a deduction for income tax purposes although they are
deductible in calculating any capital gain. In addition, wear and
tear tax allowances of 10% of rental income can be claimed to cover
the cost of normal renewals of furniture and equipment, where
furnished accommodation is let.
Capital gains tax
As if tax is not complicated enough, there are two different
systems for calculating CGT - one for individuals and a different
system for companies. In this article I only refer to the system
insofar as it affects individuals.
Investment property does not qualify for business asset taper
relief. Taper relief reduces gains on a sliding scale according to
the number of years that the asset has been held and a higher rate
of taper relief applies to business assets than to non-business
assets. As most dentists will be higher rate taxpayers, the
effective minimum rate of tax that will be paid on disposal and
assuming maximum reliefs will be 24% as opposed to a minimum of 10%
for business assets.
William MacKenzie is a chartered accountant specialising in the
tax affairs of dentists. Contact him on 01483 419922, email wtm@accmac.plus.com or visit
his website at www.wesaveutax.co.uk