Tax Benefits of Furnished Holiday Lets (FHLs)

simon

Simon Misiewicz

10th June 2020

What is a Furnished Holiday Lets (FHL)?

A holiday let is a place where people stay for a few nights or a few weeks. A residential buy to let property is where someone stays in a house for a minimum term of say six months under an Assured Shorthold Tenancy agreement known as an AST.

Holiday lets usually charge per night stay. This is different to a buy to let property where you charge a tenant per month. Someone staying in a holiday let would not be expected to pay the utility bills. This is in contrast to a single buy to let property. Property investors can make more money from furnished holiday lets than single let property investments. The same investors can also save tax compared to those that invest in single let property investments.

Furnished Holiday Let HMRC conditions to be met

There are conditions that must be met for a property to qualify as an FHL as shown on the above HMRC help sheet 253.  Please find below a summary of the key points:

– Your property must be available for letting as furnished holiday accommodation of 31 days or less per letting for at least 210 days in the year.  You are not able to count any days when you stay in the property since HM Revenue and Customs (HMRC) don’t consider the property to be available for letting while you’re staying there.

– You must let the property commercially as furnished holiday accommodation to the public for at least 105 days in the year. Don’t count any days when you let the property to friends or relatives at zero or reduced rates as this isn’t a commercial let. Don’t count longer-term lets of more than 31 days, unless the 31 days is exceeded because something unforeseen happens.

– You must not let the property on lets of longer than 31 days for more than 155 days during the year.

– The furniture and furnishings must be provided with the property and must be sufficient to enable the property to be occupied as holiday accommodation

– The property/ies must be let on a commercial basis with a view to the realisation of profits.

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Stamp duty on holiday lets

It is true there is stamp duty on holiday lets. SDLT and the 3% SDLT surcharge will apply to holiday lets and serviced accommodation as HMRC state that they are a dwelling.

HMRC explains where cases involving bed and breakfast establishments or guest houses will be treated on their merits. However, a bed and breakfast (B&B) establishment which has bathing facilities, telephone lines etc. installed in each room and is available all year round would be considered non-residential,  in line with s.116(3)(f) which states that “a hotel or inn or similar establishment” is not used a dwelling.

The above also means that guest houses and B&B will not be subject to the 3% SDLT surcharge.

Your property would be deemed to be mixed-use if your holiday let, guest house etc has an office where you keep paperwork. This means that the non-residential rates of SDLT would apply. The 3% SDLT surcharge would not be applicable.

UK landlords looking to invest into furnished holiday lets will need to consider stamp duty on holiday lets. The SDLT rate applied to the majority of transactions will be set at the residential-use stamp duty.

Up to £125,000Zero
From £125,001 to £250,0002%
From £250,001 to £925,0005%
From £925,001 to £1.5m10%
Over £1.5m12%

There are ways to minimise stamp duty on holiday lets and you are advised to work with property tax accountants to minimise tax wherever possible. Please note that the stamp duty paid is a capital cost. This will help you reduce your capital gains tax liability when the furnished holiday let is sold.

Furnished Holiday lets and pension Contributions  identified by your property investment accountant

The one thing I haven’t written about before is the fact that with holiday lets the profits count as earnings for pension purposes, whereas rental income from standard lettings does not. You can invest up to £40,000 into a pension each year (recent developments may decrease this annual allowance but we will ignore this for now) and you can get tax relief on the money you invest into a pension.

If you invest in a pension as a basic rate taxpayer then you will receive a tax credit of 20%. If you are a higher rate taxpayer then you will receive 40% tax relief.

Let’s look at an example:

Mr A has taxable earnings from his property investments of £20,000, after his personal allowances have been taken into account. He would pay 20% tax on this amount, so £4,000. Mr A would not get any tax relief if he invested £10,000 into a pension. Because he only has income from residential property investments.

However, if Mr A had income from commercial properties/furnished holiday let investments, had a profit of £20,000 and invested £10,000 into a pension. Then he would only pay tax on £10,000. So he’d save £2,000 in tax by putting his money into a pension scheme.

As you can see. This is yet another tax break available to those owning holiday lets/commercial properties rather than normal residential property investments. This is why it is important to work with a property tax accountant to help you mitigate tax.

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Furnished holiday lettings capital allowances to reduce taxable profits

Where a property meets HS253 conditions, you can claim furnished holiday let capital allowances. These allowances are for fixtures/fittings (e.g. items including furniture, equipment, fixtures, wiring, plumbing and heating installation equipment). The furnished holiday let capital allowances scheme can be applied to the profits of the business. This, in turn, brings down the amount of tax you will pay.

Capital allowances are mainly only available on commercial property and furnished holiday lets. Typically such allowances can be 25% of the property cost. This % figure varies considerably according to the property type.

You will most likely require a specialist survey report to be completed to establish the furnished holiday let capital allowances you can claim. The furnished holiday let capital allowances scheme is now very popular.

A furnished holiday lettings capital allowance will not be available where you have already claimed. Claims made may be under repair or replacement on your self-assessment tax return.

An example of the furnished holiday lets capital allowances in action.

John and Mary buy a holiday let in Devon at £300,000. The property was already furnished and refurbished to a high standard.

They get a furnished holiday lettings capital allowances survey that identifies 25% cost, which can be used as a tax deduction on their personal self-assessment tax return.

They are both high-rate taxpayers. As a result of the £300,000 furnished holiday, let capital allowances claim they would be able to save £30,000 income tax on their UK self-assessment tax return.

The workings are as follows

£300,000 property purchase price

£75,000 capital allowances claim identified in the survey (£300,000 X 25%)

£30,000 income tax saving from the capital allowances on furnished holiday lets (£75,000 X 40% high-rate income tax band.

I hope that you can see the benefit of working with a property investment accountant to help you mitigate tax when investing in furnished holiday lettings.

Do you own a commercial building or holiday let?

Did you know the building itself could attract a tax relief called Capital Allowances? It is possible to claim between 15% and 30% of the purchase price of the property against your tax bill

Complete our online form:

FHLs and Section 24 mortgage interest relief cap

We wrote an article about Section 24 mortgage interest relief cap. We also explored the many ways in which Section 24 mortgage interest relief cap may be mitigated.

You can offset all the mortgage interest if you meet the HS253 conditions. Unlike buy to lets where the amount of interest you can claim is now 0%.

Furnished Holiday Lets and Value Added Tax (VAT)

As part of the 2021 budget announcement from Rishi Sunak, it was announced that he temporarily reduced rate of VAT at 5% will be extended until September 30th 2021. It was also announced that a new rate of VAT at 12.5% will run from October 1st 2021 until March 31st 2022.

Once you reach an income level of £85,000 on holiday let/serviced accommodation then you need to register for VAT. This brings about your very first issue.

Who pays your VAT bill? It is a good question. You could start to lose the competitive edge if you need to charge an extra 20%. This is especially the case if your clients are unable to claim back VAT.   The alternative is that you absorb the 20% VAT charge. This means that you will not lose clients but will lose profit margin.

What are you to do? You will need to work out what you can afford to absorb the VAT bill. For example, you may charge £100 per night in your property but the cost of running it is £70. If you absorb the full rate of 20% VAT to keep the price at £100. The money you will receive will be reduced to £83.33 after VAT.

This now gives you a nightly profit of £13.33 rather than the previous £30. This may not be sufficient so you may decide to increase the price to the client to £110 including VAT. This means the money in your pocket of £91.67 is reduced from the original £100. This provides you with an improved profit compared to you attempting to absorb the VAT payment.

There will always be a compromise as to what VAT you absorb and what VAT you pass onto your clients.

Who pays your VAT bill?

It is a good question because you could start to lose the competitive edge if you need to charge an extra 20%. This is a problem if your clients are unable to claim back VAT themselves.  The alternative is that you absorb the 20% VAT charge and keep the prices to your clients the same.

This means that you will not lose clients but you will lose profit margin.

What are you to do?

You will need to work out what you can afford to absorb the VAT bill. For example, you may charge £100 per night. If you absorb the full rate of 20% VAT to keep the price at £100 (including VAT) then the money in your pocket will be reduced to £83.33 after VAT.

This may now give you a nightly profit of £13.33 rather than the previously assumed £30. This may not be sufficient so you may decide to increase the price to the client to £110 including VAT. This means the money in your pocket of £91.67 is reduced from the original £100. However, this provides you with an improved profit compared to absorbing the VAT payment.

There will always be a compromise as to what VAT you absorb and what VAT you pass onto your clients.

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10.5% VAT flat rate

The government introduced a flat rate of VAT for use by UK businesses where they meet specific conditions.

For hoteliers and holiday let operators the flat rate is 10.5%.

This simply means that you pay 10.5% of the price of the room (inclusive of VAT) to HMRC and you retain the rest. In the above example, a night charge of £110 including VAT would require you to pay HMRC £11.55, leaving you with £98.45. This is better than the above example where you would normally pay VAT to HMRC at the full rate of 20%.

If you use the flat rate you need to know that you will not be able to claim back VAT on everyday expenses of your holiday let business. However, you are still allowed to claim back the VAT you paid when buying them:

– All VAT paid on VATable services invoiced in the 6 months prior to your date of VAT registration.

– All VAT paid on VATable goods invoiced in the 4 years prior to your date of VAT registration that is still owned and used within the business at the date of reclaim.

Flat rate VAT administration

Do keep in mind this may cause you an administration nightmare as you would reduce the costs from the profit and loss account and may affect your tax position if you have already submitted your accounts. It may be better from an administration and stress point not to go back to accounting years.

All VAT is paid on capital goods on or after your date of VAT registration e.g. goods which you buy to use within your business, like furniture or laptops – if the invoice total is more than £2,000.

The VAT flat rate also provides an advantage in that there is little administration. Whatever you charge your clients (inclusive of VAT) you will need to pay HMRC 10.5%. This is much better than those that wish to go on standard VAT accounting, where all invoices need to be lodged in their bookkeeping system and pay over to HMRC the net VAT position.

Please note that you can only join the VAT flat rate scheme when your income is less than £150,000, as per HMRCs website. You must leave the VAT flat rate scheme when your income exceeds £230,000, as per HMRCs website.

Reduction of 1% for the first year – also for VAT flat rate users

Do not forget that you also get a reduction of 1% for the first year of using the flat rate scheme. Instead of paying a 10.5% VAT flat rate in the first year, you would pay out just 9.5% over to HMRC.

Have a question about property investments, tax or being an expat?

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VAT Flat rate applies to all income streams

Flat rate VAT is applied to all turnover within the business – even VAT exempt and VAT zero-rated turnover. This is a good reason to have a separate company for holiday lets. If you have both residential and holiday let rental income then the VAT flat rate scheme would be less attractive.

As an example, if you have £5,000 non-holiday let rental income and £1,000 holiday let income in the same limited company then you would need to apply the 10.5% VAT rate to all income. Both holiday lets and residential rental income. This creates a £630 VAT bill which is actually higher than the £200 that would be paid at normal rates!

Limited cost businesses for VAT flat rate users

These changes took effect on 1 April 2017. You shouldn’t use the limited cost business rate before this date.  This is also a type of flat rate scheme and the rate is 16.5%.

You’re a limited cost business if the amount you spend on relevant goods including VAT is either:

– less than 2% of your VAT flat rate turnover

– greater than 2% of your VAT flat rate turnover but less than £1000 per year

If your return is less than one year the figure is the relevant proportion of £1000. For a quarterly return, this is £250.

For some businesses, this will be clear but for other businesses – particularly those whose goods are close to 2% – they may need to complete this test each time they complete their VAT return. This is because it is possible to move from a limited cost rate of 16.5% in one period to the relevant sector rate in another. This would happen if your costs fluctuate above and below 2% from one quarter to the next.

If you’re a limited cost business this means that you may pay more VAT than you do on standard accounting – you may want to check to make sure the Flat Rate Scheme is still right for you.

Example 1

A business has a flat rate turnover of £10,000 a quarter. It spends £260 on relevant goods.

This is more than 2% of the flat rate turnover and more than £250 so the rate they need to use is the VAT flat rate used for their sector their business.

Example 2

A business has a flat rate turnover of £20,000 a quarter. It spends £325 on relevant goods.

This is more than £250 but less than 2% of the flat rate turnover so the rate they need to use is VAT flat rate of 16.5%.

Example 3

A business has a flat rate turnover of £10,000 a quarter. It spends £225 on relevant goods.

This is more than 2% of the VAT flat rate turnover but less than £250 so the rate they need to use is 16.5%.

Do you own a commercial building or holiday let?

Did you know the building itself could attract a tax relief called Capital Allowances? It is possible to claim between 15% and 30% of the purchase price of the property against your tax bill

Complete our online form:

Reclaiming VAT on buy-to-let property expenses

Buy-to-let property owners are being targeted by the taxman. However, we are always on the lookout for ways to redress the balance! One of them is the VAT flat rate.

Renting out the residential property (other than furnished holiday lets & serviced accommodation) is always VAT exempt. It would not usually be possible to recover VAT on costs relating to the rental activity, since it is an exempt supply.

However, if the property is owned by a VAT registered entity (individual or limited company), then partial exemption de-minimus rules should usually allow recovery of VAT on the rental expenses, in most cases.

Where a VAT registered entity makes both taxable supplies (i.e., its normal business activity) and exempt supplies (i.e., renting out residential property) then it will be partially exempt. It is possible to reclaim up to £625 per month of exempt input VAT. This being VAT on costs relating to the rental activity, plus a proportion of VAT on mixed costs and general overheads. This is provided that this exempt VAT is not more than 50% of the total input VAT being reclaimed.

This allows up to £7,500 per annum of the extra VAT to be recovered.

So, can property investors reclaim VAT?

A VAT reclaim is only possible where the property is owned by a VAT registered entity. This could be where the property is used in the business as an office or shop.

You cannot recover the VAT on your running costs if you use the flat rate scheme. You will also be liable to pay flat rate VAT on the rent from residential properties. This is because the flat rate scheme also captures zero-rated and exempt income.

Reclaim VAT on purchased before registration

You can claim VAT made on certain purchases that were incurred before registration per the HMRC website. This is irrespective of whether you use the VAT flat rate or not.

– 4 years for goods you still have, or that were used to make other goods you still have

– 6 months for services. This may include cleaning, solicitors, accountancy fees.

You can only reclaim VAT on purchases for the business now registered for VAT. They must relate to your ‘business purpose’.

You should reclaim them on your first VAT Return (add them to your Box 4 figure) and keep records including:

– invoices and receipts

– a description and purchase dates

– information about how they relate to your business now

If you claim back the VAT you will need to put in the credit against your profit and loss account.

For example, the full invoice cost of £100 if you purchased cleaning services against your income. Once you are registered you could claim back the VAT paid of £16,67 (£100 charges less £83.33 cost before VAT). You would claim back the £16.67 from HMRC.

You will pay 19% corporation tax on this credit as it will be seen as additional profit. This can be a tricky transaction, so a bookkeeper will be required going forward to get this right.

VAT can be a very complex area. It is essential that you work with a property investment accountant to help you mitigate the risk of getting it wrong and to save tax.

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Capital Gains Tax (CGT) benefits of owning a Furnished Holiday Let - Rollover Relief

In addition to the other tax benefits, there are also capital gains tax (CGT) benefits if you have a holiday let/serviced apartment. You can claim roll-over relief for commercial buildings if you sell your property. You buy another commercial property (such as another holiday let) intended for business purposes. The CGT may be mitigated, provided that the entire capital gain is reinvested. There are a few caveats, however:

– The roll-over relief is only available to items affixed to the building rather than the furniture within

– To claim roll-over relief, the property must have been used on a commercial basis (holiday let/serviced apartment) during the entirety of its ownership

– The roll-over relief must be claimed within four years of disposal of the asset. For example, if the disposal was made by a sole trader in 2006-07. And the consideration received is reinvested in replacement business assets in 2008-09. The time limit for a claim to roll-over relief is 5 April 2013

– To claim roll-over relief, you have to use the appropriate form

Examples of roll-over relief:

An individual disposes of an asset in June 2004 for £250,000, making £100,000. In his tax return for 2004-05, he declares that he intends to reinvest the whole of the consideration in new assets for a claim to roll-over relief.

No tax was paid on 31 January 2006 on the gain of £100,000. The relevant date by which the proceeds must be reinvested is 31 January 2009. Suppose no valid claim to roll-over relief has been made by that date. Then the individual will have to pay tax on the gain, together with interest from 31 January 2006.

Is it time for you to invest in furnished holiday lettings? Be sure to work with qualified property tax accountants to ensure that you are set up in the right way.

Have a question about property investments, tax or being an expat?

There are a number of free events that will help you build investments/businesses with more comfort and move forwards with confidence.

Free

Book on a seminar

FHL VAT and the Capital Goods Scheme

The capital goods scheme (CGS) is a method of recovering the VAT paid on purchasing a capital asset in line with its taxable use over, usually, ten years. The CGS is carried out in the VAT quarter following your partial exemption annual adjustment and is revisited each year for ten years to ensure you have claimed the correct refund of VAT based on the assets current usage.

As HMRC’s website points out, CGS is based on any asset valued at £250,000 (Exc VAT) or more. Here is one exception: computers that cost more than £50,000 is also covered by CGS.

CGS does not cease to apply because an asset is sold in a transaction outside the VAT scope (e.g. Transfer of a Going Concern). The purchaser of the business/property must continue the annual adjustments for the balance of the adjustment period (i.e. takeover the VAT reporting responsibilities of the previous owner of the building/land up to and including the 10th anniversary of the CGS reclaim commencing).

This means that the buyer must ensure that the records transferred from the seller include the necessary details of the date of acquisition, the input tax incurred at that time, and the percentage of that tax that the vendor recovered. T also means that the buyer may be able to reclaim, or have to pay, some of that tax with a consequent reduction or increase in the asset’s effective cost.  When buying an asset, the new owner will have to consider the potential changes in VAT recovery made by the original owner. Ask your conveyancer to gather all the information from the seller to establish if there are additional liabilities/costs you will take on concerning VAT that would be prudent for you to know about before finalising your negotiation of the purchase price.

For more understanding of the scheme, HMRC has created VAT notice 706/2.

Example:

A business purchases a building for £1 million and incurs £200,000 VAT.  The building will be used for 60% business purposes and 40% non-business purposes (for example, charitable use).  Before 1st January 2011, £600,000 (60% of £1 million) determined the value for CGS purposes.  Under the new rules that took effect from 1st January 2011, all of the expenditure on the building (£1 million) is the value for CGS purposes. The CGS threshold for buildings remains at £250,000. The building is a capital item in both scenarios.

Our furnished holiday let accountants are on hand to work through the complexities of the capital goods scheme.

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