Is incorporating a property business still flavour of the month?

We are approached by a number of clients directly, and through their advisors, who are looking to incorporate their property portfolios.

This is something that we have been involved with for many, many years. However, various tax changes over the last couple of years and the prospect of increased Corporation Tax rates have made this become particularly germane of late, but whereas incorporating property portfolios was the ‘in-thing’ many years ago, is it still the right thing to do?

Why are landlords looking to incorporate?

The economic landscape for property investors has shifted significantly over the last five years – the introduction of higher rates of SDLT for additional residential property and withdrawal of mortgage interest relief has had a notable impact on property investors. 

Investors who have grown a portfolio held in their own names are now looking to invest and manage the portfolio through a company. Why? Well, companies offer several advantages over personally owned portfolios including: 

• Companies currently pay tax at 19%, rather than up to 40% or 45% for some individual taxpayers;
  
• Capital gains arising from the sale of property in a company are taxed at 19% rather than higher rates of up to 28%;

• Companies are not subject to the restrictions for mortgage interest relief removing what is essentially a tax on ‘phantom’ profits;
  
• A combination of the above allows profits to be reinvested or built up within the company tax efficiently
  
• A company provides greater flexibility for family income planning, inheritance tax planning and succession planning
  
• You are able to control the timing and extent of your income tax liabilities on income withdrawn from the company. For basic rate taxpayers, taking a dividend can often be particularly tax efficient 

• However, be mindful of the increase in Corporation Tax to 25% from 1 April 2023 as announced in this years Budget and how this could affect future intentions, especially if there were intentions to dispose of properties in the immediate years following incorporation as the new CT rate would be closer aligned to the higher CGT rates.

Does incorporating create any tax issues?

Once again, tax legislation does not favour the buy-to-let investor. For most entrepreneurs, moving from personal ownership to a corporate comes with a host of tax reliefs to remove the barriers from the natural progression of a business. 

For buy-to-let landlords, they are instead faced with potentially significant tax barriers including capital gains tax and stamp duty land tax. 

For both taxes, incorporation the transfer is treated as taking place at market value. This can crystallise significant tax charges:

1. 1) Capital gains may be crystallised and subject to capital gains tax at up to 28% – unless of course, there are no capital gains! 
2. 2) The company must pay stamp duty land tax together with the higher rates for residential property

More often than not, these charges will act as a barrier to incorporating. 

What can be done to mitigate these issues?

Ultimately, that depends on each individual case and each individual’s specific objectives! However, one common strategy is to take advantage of certain reliefs which may apply to mitigate the potential capital gains tax and stamp duty land tax liability. 

Where the portfolio constitutes a business then incorporation relief may apply to mitigate any capital gains tax liability. This relief was not generally thought to apply to landlords, but this was clarified in the case of Ramsay. 

There are two key reliefs which may apply to minimise the stamp duty land tax liability – multiple dwellings relief and the ‘six pack’ rule. However, this will typically still crystallise a material stamp duty land tax liability – at ETC Tax we have innovated to help investors manage this liability without any immediate cashflow disadvantage and recovering the upfront cost over the longer-term. 

Special rules can apply to certain partnerships which mean that the stamp duty land tax liability is mitigated all together. However, these rules are complicated and do not apply in all circumstances. 

Inheritance Tax (IHT)

An incorporation should not create any IHT problems. However, one should bear in mind that the shares in the property investment company will not qualify for Business Property Relief (BPR). Some relatively simple steps could be taken to take the value of the shares outside of UK IHT.

So… Should an incorporation be considered?

Whilst many investors will benefit from operating via company – especially where the intention is to reinvest the profits and grow the business, this will not necessarily be appropriate in all circumstances and it is critical that any restructuring takes account of your clients objectives and to ensure that you don’t end up making their tax position worse. Some examples of where incorporating might not meet their objectives could include:

• • Where all of the rental income is required to meet personal expenditure; 

• • They want to gift ownership of individual properties to your children outright; 

• • They will remain a basic-rate taxpayer despite the restrictions to mortgage interest relief

Do I need lenders consent?

Ultimately, this is down to the specific terms and conditions of the mortgages. However, we would typically recommend that lenders are notified and kept in the loop – our experience is that lenders generally take a favourable view of company structures and offer similar, if not better, interest rates via a company. 

SDLT super charged rate

The 15% super charge applies to ‘non-natural persons’, such as Companies, acquiring residential property to be used as a residence (ie it is not let). As such, where there is an underlying commercial activity (such as letting), then it should be possible to claim a relief.

Annual Tax on Enveloped Dwellings (“ATED”)

This applies an annual tax based on the value of a property owned by a company. However, again, this is designed to discourage the ownership of private residences and would not apply where the property is let.

Ultimately, an informed decision will need to be made based on the advantages and disadvantages of each individual case. 

Inheritance Tax (IHT)

An incorporation should not create any IHT problems. However, one should bear in mind that the shares in the property investment company will not qualify for Business Property Relief (BPR).  Careful planning at the early stages of an incorporation can still mean that effective IHT planning can be implemented.

How can we help?

We are experienced in advising property investors, developers and entrepreneurs on structuring their businesses both from a commercial and tax perspective. 

We can review your clients position and give an overview of the options for them to consider which situation is best for them and their intentions. Get in touch.