Introduction
When property is let out, any profits that are made are subject to tax.
This guide gives the overview of the requirements for calculating, reporting and record keeping for individual landlords in the UK.
Self-Assessment Tax Return
Individuals that let property in the UK must be registered for Self-Assessment, regardless of whether there is tax to pay or not.
If you do not usually send a tax return, you need to register for Self-Assessment by 5 October following the tax year you had rental income.
If you do not register HMRC are likely to charge penalties and fines.
Record Keeping
Landlords are required to keep records for at least 5 years after the 31 January tax return deadline for each tax year.
These include the following:
- rent books
- tenancy agreements
- receipts
- invoices
- bank statements
- mileage logs (for journeys that are solely for your property business purposes)
HMRC can charge you a penalty if your records are not accurate, complete and readable or if you do not keep them for the required period of time.
You may also have to pay a penalty if you submit an inaccurate tax return.
Basis of Accounting
When calculating your profit from rental income, you are able to prepare accounts using tow methods:
- Cash Basis Accounting
- Accruals Basis Accounting.
Cash Basis – The tax point for all income and expenditure is when the monies are actually received..
Accruals Basis – This is the standard accounting basis for income and expenditure and the tax point of income and expenditure is when the service takes place as opposed to when monies are received. If you want to use this basis, you must check the box on your tax return “opt-out of the cash basis”.
Allowable Expenses
In calculating your taxable profit or loss from the rental business, certain costs are allowable as deductions against rental income.
Note: Allowable expenses do not include ‘capital expenditure’, such as buying a property.
To qualify as an allowable expense, these costs must fall into the definition of “wholly and exclusively for the purposes of renting out the property”.
Qualifying Expenditure:
- general maintenance and repairs to the property, but not improvements (such as replacing a laminate kitchen worktop with a granite worktop)
- water rates, council tax, gas and electricity
- insurance, such as landlords’ policies for buildings, contents and public liability
- costs of services, including the wages of gardeners and cleaners
- letting agent fees and management fees
- legal fees for lets of a year or less, or for renewing a lease for less than 50 years
- accountant’s fees
- rents (if you’re sub-letting), ground rents and service charges
- direct costs such as phone calls, stationery and advertising for new tenants
- vehicle running costs (only the proportion used for your rental business) including mileage rate deductions for business motoring costs
Non-Qualifying Expenditure
- the full amount of your mortgage payment – only the interest element of your mortgage payment can be offset against your income
- private telephone calls – you can only claim for the cost of calls relating to your property rental business
- clothing – for example if you bought a suit to wear to a meeting relating to your property rental business, you cannot claim for the cost as wearing the suit is partly for your rental business and partly to keep you warm – no identifiable part is for your property rental business
- personal expenses – you cannot claim for any expense that was not incurred solely for your property rental business.
Finance costs restricted
Finance costs restricted include interest on:
- mortgages
- loans – including loans to buy furnishings
- overdrafts
Other costs affected are:
- alternative finance returns
- fees and any other incidental costs for getting or repaying mortgages and loans
- discounts, premiums and disguised interest
If you take a loan for both residential and commercial properties, you’ll need to use a reasonable apportionment of the interest to work out your finance costs for the residential properties, as only the residential properties finance costs are restricted.
This also applies if your loan was partly for a self-employed trade and partly for residential property.
Increasing your mortgage
If you increase your mortgage loan on your buy-to-let property you may be able to treat interest on the additional loan as a revenue expense or get relief against income tax as long as the additional loan is wholly and exclusively for the purposes of the letting business.
Interest on any additional borrowing above the capital value of the property when it was brought into your letting business is not tax deductible.
If the mortgage is for a residential property then the restrictions on interest from April 2017 will apply.
Maintenance and repairs costs
Allowable expenses include the costs of maintenance and repairs to the property (but not ‘capital’ improvements).
A repair restores an asset to its original condition, sometimes by replacing parts of it.
Property repairs can include:
- replacing roof tiles blown off by a storm
- replacing a broken-down boiler
- redecoration between tenants to restore the property to its original condition
- Replacing a part of the property with the nearest modern equivalent is still a repair if the improvement is incidental to the repair, such as replacing a single-glazed window with a double-glazed window.
If you have an insurance policy that covers the cost of some repairs to your property, you can only claim the additional expenses that you incurred for repairs which the insurance pay-out did not cover.
This also applies if you keep your tenant’s deposit from a Tenancy Deposit Scheme to cover damages they’ve caused to the property.
You can only claim expenses incurred for repairs in excess of the amount of the deposit that you kept.
You cannot claim the costs for replacing furnishings or equipment in a property.
These are not allowable as costs of maintenance and repairs, but from 6 April 2016 they may qualify for Replacement Domestic Items relief.
The costs of renewing fixtures such as baths, washbasins or toilets are normally allowable as they are considered repairs to the building, as long as they are a like-for-like replacement and not an improvement.
The cost of replacing small items, such as cutlery, crockery, cushions, bed linen and similar is also allowable.
To qualify the items have to be:
- of low value
- have a short useful life
- need to be replaced regularly (almost annually)
Capital Expenditure
Expenses are ‘capital expenses’ if they will be used in the business over a longer period of time, such as when you:
- add something to the property that was not there before
- alter, improve or upgrade something that was existing
- include the purchase of furnishings and equipment for the property
Capital expenses are not allowable and cannot be claimed against your rental income but you should keep records of them as you might be able to set them against Capital Gains Tax if you sell the property in the future.
Examples of capital expenses that would not normally be allowable:
- adding an extension
- installing a security system if there was not one before
- replacing a kitchen with one of a higher specification
Work on a property before leasing or renting
Some costs of work on a property before you lease or rent it will be capital expenses, and therefore not allowable expenses.
This includes if you buy a property in a derelict or run-down state, and either you paid a substantially reduced price for it or it was not in a fit state for rental.
Any works done to put it back into a fit state for letting are unlikely to be repair works.
They will be capital works as they will improve the property.
The costs for these works will not be an allowable expense.
Losses
If the allowable expenses are more than your rental income you will make a loss.
Normally you can only offset that loss against any profits that arise from the same rental business in future years.
If more than one property is being let out, the income and expenditure from all properties should be added together to work out an overall profit or loss for the year.
This means that expenses for one property can be offset against income from another property.
If there is a loss from one property, it is automatically offset against the profits from another.
Useful Links
UK property notes (2022) – GOV.UK (www.gov.uk)
Work out your rental income when you let property – GOV.UK (www.gov.uk)