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Furnished holiday lets have long benefited from favourable tax treatment giving them advantages over other property lettings.
Those advantages mean that they are treated more like trading businesses than property investments meaning that:
• Capital allowances can be claimed on expenditure that are not claimable by other residential property businesses. Such capital expenditure might include integral features such as air conditioning, lighting and other fixtures and fittings.
• Capital gains tax reliefs such as entrepreneurs’ relief, holdover relief and rollover relief are potentially available since furnished holiday lets are treated as business assets rather than investments. For example, gains arising on the disposal of a furnished holiday let could be taxed at the reduced 10% entrepreneurs’ relief tax rate rather than the 28% rate applying to gains on the disposal of residential properties. Furthermore, if the proceeds of disposal are ‘rolled over’ into the acquisition of another furnished holiday let or other business assets, then no tax liability would arise.
• Profits from a furnished holiday let are treated as relevant earnings for pensions purposes whereas rental profits from other properties are not.
• The mortgage interest relief restriction applying to residential properties from 6 April 2017 onwards does not apply to furnished holiday lets and therefore full relief will be available for interest costs even for higher and additional rate taxpayers.
Previously losses from a furnished holiday let could be sideways loss relieved against other income; however, these rules changed with effect from 6 April 2011. Consequently, FHL losses can only be carried forward and set against any future profits from the same rental business. For these purposes a taxpayer’s UK FHL business and EEA business are treated as separate and therefore losses from one cannot be offset against the other. Nor can FHL losses, whether from the UK or EEA, be offset against other rental profits.
The advantages need to be viewed alongside other issues including VAT, inheritance tax and business rates.
The provision of FHL accommodation is within the scope of VAT. If the income from the FHL exceeds the VAT registration threshold, the owner must register for VAT. The supply will be standard-rated meaning that VAT will need to be charged at 20%. This will of course have implications for the economics of the operation since customers will not be able to reclaim the VAT and in a price sensitive market the owner may not be able to raise prices without becoming uncompetitive.
Of course, it does mean that the proprietor will be able to reclaim input VAT including VAT incurred on refurbishment of the property, construction work and ongoing maintenance costs.
The conversion of non-residential buildings such as farm buildings to holiday accommodation can qualify for the reduced 5% VAT rate, resulting in a significant saving from the 20% VAT normally incurred on building works. That 5% could itself be recoverable if the owner is VAT registered.
Furnished holiday lets were long considered to potentially benefit from business property relief and would therefore be exempt for inheritance tax purposes.
The Upper Tier Tribunal in HMRC v Pawson  UKUT 50 denied the taxpayer relief because of the low level of additional services being provided as part of the holiday letting business. Following that decision, it was thought that FHLs might still potentially qualify for BPR provided sufficient ancillary services were offered.
Subsequently, in the more recent case of The Executors of Ross v HMRC  FTT 507, the First Tier Tribunal also denied BPR on a FHL business despite the services provided exceeding any other FHL case heard to date. In the latter case, the taxpayer had an agreement with a neighbouring hotel allowing the FHL guests to make use of the hotel’s services. Nevertheless, the First Tier Tribunal ruled that the services were incidental and that the reason the FHL guests chose to stay there was to enjoy the holiday property exclusively with the result that it was an investment property. Business property relief was therefore denied.
If upheld on any appeal, or in further cases, the Ross decision would appear to make it difficult for a FHL business to benefit from business property relief; however, every case should be considered on its own merits.
Qualifying FHL properties in the UK will be subject to business rates which are based on the property’s estimated annual income. The liability will vary between local authorities due to the availability of various reliefs.
To qualify there are several conditions to be satisfied:
(1) The property must be within the UK or the European Economic Area, the latter comprising the EU, Iceland, Liechtenstein and Norway. Note that Switzerland is therefore excluded, as are the Isle of Man, Channel Island and Gibraltar.
(2) The property must have furniture for ‘normal occupation’ and the tenants of the property must be entitled to make use of it;
(3) The letting should be carried out commercially with a view to profit.
During the year the property must be available to the public for at least 210 days and occupied for at least 105 days.
The total of any longer-term occupation lettings, defined as being more than 31 days is no more than 155 days in the year, the property will no longer qualify as a furnished holiday let.
The latter conditions will typically be in relation to the tax year except in the case of those years in which letting commences or ceases in which case the three occupation requirements are applied to either the first or final twelve months of letting as appropriate.
Satisfying the 210-day availability condition, and the short-term lets condition, is relatively simple. However a poor summer or other exceptional circumstances might result in the property not being let for the requisite minimum 105 days.
If the owner has more than one such let, it is possible to elect to average the rate of occupancy across all the properties, subject to all the properties meeting the 210 availability and the short-term lets conditions. It is not possible, however, to average lettings of UK-based lets with those in the wider EEA; these must be kept separate.
Further relief may be available if there was a genuine intention to let the property and the 105-day let condition was met in the previous year. If so, then a period of grace election can be made. Moreover, it can be made in the following tax year too if the 105-day condition is still not met. If, however, that is not met in the third consecutive tax year, the property will cease to qualify as a furnished holiday let.
The obligations of the non-resident landlord scheme apply to FHLs just as they do to other rental properties.
The holiday rentals market has been radically altered by the growth of ‘sharing economy’ businesses such as AirBnB, particularly in London where tens of thousands of properties are listed as available and occupancy rates are high.
The result is that provided the conditions outlined above in relation to availability and occupation of the property, many such Airbnb properties will qualify as FHLs.
This may be particularly attractive for those who would otherwise be caught by the restriction of relief on mortgage interest and therefore there may be an incentive to move from more traditional longer-term lettings to Airbnb type lettings.
If the conditions above are not satisfied, the property will be treated like any other rental property. In certain cases, rent-a-room relief may be available so that gross receipts of no more than £7,500 in a ear are not taxed and do not need to be declared on a tax return.
Enterprise Tax Consultants are specialist tax advisers. If you have a question about furnished holiday lets contact our Chartered Tax Advisers.