If you are renting out a property, you should be aware of the tax implications that are associated with it. Tax on rented property can involve things like self-assessment tax returns, Rent-a-Room scheme and capital gains tax.
The Property Allowance
The government’s Autumn statement in 2016 announced a new property allowance of £1,000 per year. It can be claimed by individuals who receive income from renting out properties.
People with income from land or property of up to £1,000 a year can claim a tax exemption under the property allowance. In fact if a persons income from Land and property is less than £1,000 that person does not have to inform HMRC about that income.
However, there are some limitations. You can’t claim the property allowance if you claim mortgage interest. Similarly, it’s not available to individuals who use the rent-a-room relief scheme. Neither is it available to Limited Companies.
While you don’t need to declare your property income of less than £1,000 to HMRC, you do need to keep records of your earnings. If you earn more than £1,000 from your property, you’ll have to fill out a tax return.
Self-assessment tax return
If you own a rented property in the UK, you are likely to have to complete a self-assessment tax return. The purpose of a self-assessment is to tell HMRC that you need to pay tax on rented property and how much income tax you will owe. It is not a Pay As You Earn (PAYE) system and there is no separate tax rate for rental income.
In order to file a self-assessment you must first register with HMRC. This will give you a unique taxpayer reference number. You will need this if you want to pay tax on rented property to HMRC.
Once you have registered, you will receive a user ID and password that will allow you to set up your own personal tax account. Go to Government Gateway to set up your account.
To submit your Self Assessment you must have a valid Unique Tax Reference (UTR). You must also follow the instructions in the letter with your UTR.
You can also file your self-assessment online. You must do so by 31 January of the following tax year.
How Tax on rented property works
Keeping good records can help you prepare a proper financial statement. It also can help you determine which receipts are deductible. This will help to ensure that you are paying the correct tax on rented property.
Rental income includes payments for use of the property. This can include advance rent, normal rent payments, and services received instead of rent.
Rental income is taxed at the same rate as ordinary income. Property owners can deduct expenses related to the property to reduce the amount of tax they pay. However the type of expenses that is deductible is not always the same as ordinary income.
When an individual rents out a property or properties, any rent received is taxable after deducting direct expenses related to the property or properties. Allowable expenses include the following:
Estate agents’ fees.
Repairs to the premises.
Insurance.
Rates for empty periods.
Service charges and ground rents.
Cost of garden upkeep and maintenance.
Accountancy fees.
Costs of arranging for finance.
Legal and professional fees.
The above list of expenses is not exhaustive but should be taken as a guideline. As a general rule, any direct expenses related to the property can be claimed as expenses except if it of a capital nature. Where the expenses is of a capital nature, it will be added to the cost of the property and used in capital gains tax calculation when the property is sold
A landlord can also claim tax relief for money spent on replacing fixtures and fittings in the rented property. This is called “relief for replacement of domestic items”. Items which come under this category include, bed, refrigerators, Cookers, fridges, and household furniture.
The relief for interest on let property loans and mortgages is given in a different way. When calculating tax on rented property relief for interest is allowed at the same rate as the basic rate of income tax.
Rent a Room Scheme
The Rent a Room Scheme allows people to earn up to ₤ 7,500 each year tax-free by renting out furnished accommodation in their home. This is cut in half if the income is shared with someone else such as a spouse or partner.
People are allowed to rent out as much of their home as they wish.
The exemption from tax is automatic for those who get less than ₤7,500 per annum. This means no action needs to be taken by the tax payer.
If the amount received from rent a rooam is in excess of £7,500, the individual must fill in an income tax return.
An individual can as such opt into the scheme and claim the tax free allowance. This is done through their income tax return.
One can decide not to opt into the scheme and as an alternative report their earnings and related expenses on the property section of their tax return.
Capital gains tax
The rules around capital gains tax are complex. In short, it is a tax assessed on the difference between the price you buy the asset and the price you sell the asset.
It is also assessed on the sale of a rental property. Buy-to-let landlords are responsible for paying capital gains tax when they sell their properties. When it comes to CGT, there are different rules for each type of asset.
Reporting undisclosed rental income
If you are a landlord who earns money from renting a property, it is important to report the income to HM Revenue and Customs (HMRC). It is a criminal offence not to do so.
The fines for not reporting undisclosed rental income can be extremely high, especially if related income is overseas. This can reach as high as 100% of the unpaid amounts.
The best way to avoid this is to report all of your rental income to HMRC. If you fail to do this, you will be sent a letter demanding payment.
You will then receive 90 days to report and pay the tax on rental property that you failed to declare. However, the penalties will be much lower if you are able to report the undisclosed income to HMRC before HMRC finds out through other sources.
HMRC will use a range of sources to find out if you are required to pay tax on rental income. HM Land Registry, for example, possesses information on every property that has been sold in England and Wales since 1993. Using this data, HMRC can seek out those who are liable to pay tax on rental income but failed to do so.