Section 24: Mortgage Interest Relief Cap & Impact on Property Investors

simon

Simon Misiewicz

8th December 2017

By Louise Misiewicz

Article relevant to the tax years: 2017 to 2021

Are you concerned about Section 24 (Mortgage Interest Relief cap)?

Have you worked out how this will affect your tax position?

Ever since our budget article was written in July 2015, we’ve constantly looked at the negative impact that mortgage interest relief will have on people’s financial and tax affairs. We’ve also spent a lot of time to identify the solutions to mitigate the impact of Section 24’s mortgage interest relief for our investor clients across the UK.

The solutions to mortgage interest relief cap may be obtained by downloading the Budget announcement spreadsheet (see below).

In this article, I’ve pulled together all of the research that we conducted across a number of articles.

There is a misconception that basic rate tax payers will avoid the impact of Section 24.

Sadly, this is not true. HMRC in all its wisdom will say that the mortgage interest that you pay on your property portfolio will be treated as zero cost. Therefore, the higher geared your property portfolio, the greater income you will be deemed to have received.

This of course means that someone with no income, including rental income, but who pays out a substantial amount of mortgage interest could be treated as though they are a high rate tax payer.

Basic Rate Tax payer 2015/16 2020/21 Notes
Employment income (1) £20,000 £20,000
Rental income £50,000 £50,000
Mortgage costs £35,000 £0 Not allowed in 2020/21
Other costs £5,000 £5,000
Property profit (2) £10,000 £45,000
Taxable income (1) + (2) £30,000 £65,000

Section 24: Basic rate tax payers becoming high rate tax payers

As you will see from the above, this person has moved from being a basic rate tax payer to being a high rate tax payer from 2020/21 because of the mortgage interest relief cap. This means that the top rate of tax the above person will pay now becomes 40% rather than 20% before the tax changes.

Section 24 impact: Loss of child benefit 

If the person was claiming child benefit allowance they would be asked by HMRC to repay this. Child benefit may be claimed by individuals with children that earn typically less than £50,000. Anything above this amount will result in a child benefit reclaim by HMRC using the below formula, as we explained in another article here.

Earned salary less £50,000

———————————     (% result) X Child Benefit Received

100

Someone earning £55,000 would therefore have a tax charge of:

50% = £5,000 (£55,000 less £50,000) divided by 100

£538.20 = 50% (above) £1,076.40 (52 weeks X £20.70).

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By now you would have noticed that the number of tax changes means that you need to plan for the future to ensure that you keep more of what you earn.

Property investors: How does Section 24 (mortgage interest relief) affect you? How are your properties going to perform once Section 24 (mortgage interest relief) comes into full effect?

Doctors/Dentists: Have you incorporated your private practice work into a limited company? Have you structured it to ensure that you and your family takes advantage of the tax breaks?

Stephen Covey said that “people climb to the top of the ladder, only to find out that it is set against the wrong wall”.

Many people go about their business and at the end of the year they feel that they have not moved forwards.

The finance, tax and wealth sessions have been designed to review your financial and tax plans for the next five years by reviewing your income streams, lifestyle costs, investment returns, legacy and estate planning needs.

Learn more about my Finance, Wealth and Tax Planning service – Click Here. 

Please use the redeem code “Article 33” to get 33% off your next wealth planning call, face-to-face in our Nottingham office.

High rate tax payer 2015/16 2020/21 Notes
Employment income (1) £50,000 £50,000
Rental income £50,000 £50,000
Mortgage costs £35,000 £0 Not allowed in 2020/21
Other costs £5,000 £5,000
Property profit (2) £10,000 £45,000
Taxable income (1) + (2) £60,000 £95,000

As you can see from the above, high rate tax payers will be deemed to be earning more than they actually are. As such, they will pay more tax on this income.

High rate tax payer 2015/16 2020/21 Notes
Employment income (1) £85,000 £85,000
Rental income £50,000 £50,000
Mortgage costs £35,000 £0 Not allowed in 2020/21
Other costs £5,000 £5,000
Property profit (2) £10,000 £45,000
Taxable income (1) + (2) £95,000 £130,000

Section 24 impact: Loss of personal allowance

Some of you reading this will see that the person above has a taxable income of £95,000.

However, once the Budget announcement changes kicks in (mortgage interest relief) fully the taxable income will be restated as £130,000. This means that the person will lose their personal allowance as we described in another article here.

If you earn more than £100,000 then you will be aware that your personal allowances are being eroded by £1 for every £2 of earnings above £100,000.

Someone that earns £120,000 would lose an element of their personal allowance, as follows:

  • £20,000 Excess of earnings limit =  (£120,000 earnings less the £100,000 limit)
  • £10,000 Reduction to personal allowance (£20,000 excess divided by 2)
  • £1,500 Revised personal allowance (£11,500 less £10,000)

Section 24 impact: Loss of pension allowance

In the above example, you will see that their earnings has increased from £95,000 to £130,000. This also means that the person above will start to lose the pension contributions allowance.

You usually pay tax if savings in your pension pot goes above the annual allowance.

This is currently £40,000 a year, provided that you earned this amount of money. We have written more information about tax relief on employee and employer pension contributions in our article here.

As shown from the Government website from April 2016 you’ll have a reduced (‘tapered’) annual allowance if both the following apply:

  • your ‘threshold income’ is over £110,000 – this is your income excluding any pension contributions (unless they’re paid as a salary sacrifice by your employer)
  • your ‘adjusted income’ is over £150,000 – this is your income added to any pension contributions you or your employer make

For every £2 over the above-mentioned amounts you’ll will see a reduction of £1 to your pension contribution allowance.

Our team of property tax experts are on hand to best advise our clients on how to mitigate the impact of Section 24 and to make you just as tax-efficient as before.

Download your free spreadsheet tax calculator here

You should be aware by now that mortgage interest costs will not be allowed to be offset against your residential property income. We wrote an article here that illustrated how the Budget changes will affect most landlords in the UK.

There are a number of solutions that people have identified.

One of the suggestions is to incorporate your property business into a Limited company. There are ways of incorporating your properties but you need to consider three things 1) the cost of refinancing your properties in the Limited company 2) Capital Gains Tax (CGT) of selling properties to your limited company and 3) Stamp Duty Land Tax (SDLT) as you will be transferring properties into a Limited company and therefore SDLT applies.

We wrote an article to illustrate how you can incorporate your property business into a Limited company without paying CGT or SDLT using a partnership structure. See our article here for more details.

However, before you jump off into the world of incorporation you need to ensure that the finance costs (re-mortgage) does not outweigh the tax benefits. We wrote another article that highlighted why many property investors should not look to incorporate their property business. See this article for more details.

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