27 April 2018
As we begin to deal with UK tax returns for the year to April 2018, much attention has been focused on the partial removal of the mortgage interest on which landlords can claim a full tax deduction from the rental. This will increase the tax bills of individual landlords who are higher rate taxpayers (and can impact on others) but is unlikely to affect overseas landlords with no other UK income, as long as their rental profits are less than £34,500.
Cash basis for landlords
What is less well known and not so publicised is that, from April 2017 onward, landlords must use a ‘cash basis’ to work out their income unless their property income is more than £150,000 a year or they are companies or partnerships. This might sound an esoteric accounting point but in reality it could have a large impact on individual landlords’ tax bills.
Previously, the income to be taxed was the rental due for a period, regardless of when it was received. Most landlords receiving a regular monthly rent will see little difference because, if they are receiving a regular monthly rent, they have more or less been using a ‘cash basis’ anyway.
The problem comes where rents are paid in advance for a longer period. Under the previous rules, as an example, if six months’ rent was received in advance on 31 March, only six days’ of the rent came into the tax year ending on 5 April, and the rest would be taxed in the following tax year.
Under the new rules, the entire six months’ rent will now be taxed when received – on 31 March. Overall, the landlord will pay tax on the same amount, but this change in rules will bring forward the payment of the tax which will cause a ‘catch-up’ higher tax bill for the 2017/18 year. In other words, in these circumstances, landlords will pay tax on more than 12 months’ rent.
It is possible to opt out of the new rules in some circumstances, and there are provisions to spread the adjustment over a maximum of six years (although in many cases the amounts involved may be outweighed by the simplicity and certainty of having paid the tax).
On a brighter note, the same applies to expenses paid – there will no longer be a requirement to spread service charges, agents’ commission etc. over the period to which they relate.
It remains to be seen whether this will cause landlords to avoid longer tenancy agreements beginning late in the tax year, but for those who changed from monthly rents to longer terms before 6 April 2018, the damage may already have been done and they may need to consider ‘opting out’ or the ‘spreading’ provisions if the amounts are sufficiently large.