As an owner of rental property, you’ll accrue many expenses, from mortgage interest to repair bills. Counting these expenses against taxes can increase your profits, but it’s not a straightforward process. Let us take you through the tricky process of dealing with buy-to-let expenses.
What is and isn’t allowed as a tax expense can be confusing, and that confusion brings risk with it.
Miss the wrong thing out and you’ll lose money but include the wrong thing and you’ll fall foul of the tax man.
So how can you get it right?
Knowing the case for your expenses is important, as is having solid evidence for why you’ve included the expenses you have. But to do that, you need to understand the rules behind those expenses.
First, some fundamentals.
If you’re running several properties, then they count as a single business. That means that, instead of calculating income and expenses separately, you have to total them up for your whole property portfolio.
This won’t be an issue for your first property, but it’s worth bearing in mind if and when your business expands.
Just as important as combining costs is splitting them the right way. If you’re the sole owner, then it’s easy – everything goes on your tax return.
If you own it jointly with someone else, then the income, less expenses, can be split as you see fit, though you’ll have to fill in the appropriate HMRC form to show how this is being done.
If the property is jointly owned by a couple in a marriage or civil partnership, then the split is fifty-fifty.
Regardless, all the owners have to include the appropriate part of the property’s income on their tax returns.
Standards to Meet
Now we’ve cleared up the broad picture, let’s look at the nitty-gritty.
To be included in accounts for tax relief, an expense must meet three criteria:
- It must be wholly and exclusively for the letting business.
- It must fit into one of two allowable categories.
- It must not be capital expenditure.
Let’s start with the easy one. To be included, the expense must be purely for your business.
So buying a bottle of bleach to clean both the rental and your home doesn’t count, but one used solely for cleaning rentals is OK.
Next come the categories that allow an expense to be included, which are:
- Repairs and maintenance.
- Replacement of domestic items.
That bottle of bleach? That’s fine on these criteria, as it’s part of maintaining the house in a habitable state. The same goes for getting in an electrician to fix a broken light.
Buying a new microwave would be included as long as the old one was no longer working – the grounds for replacing domestic items. But that suit you bought to look professional while showing tenants around?
Not repair, not maintenance, not replacing a domestic item, and so not allowed.
Finally, there’s capital expenditure. This is any expense that adds to the value of the property, rather than maintaining it in its previous state.
If you add an extension, that’s increasing the property’s value, so isn’t an allowable expense for purposes of tax relief.
Installing a better carpet isn’t allowed either. If the previous carpet was damaged, then you could include the cost of one of equal value, but if you put in something better, then the difference in cost would have to come at your own expense.
There are exceptions when an improvement is unavoidable or unintentional.
The legal standard for windows is now double glazing, so replacing a single glazed window with a double glazed one would be an allowable expense, as you can’t do less.
But generally, if it makes the property more valuable, it’s capital gains.
There are times when an expense meets one of these three rules but not the others.
Remember, to be allowable as a tax expense, it must meet all three.
These rules all apply once your business is up and running.
But when you’re starting up your business and buying your first property, there are some important caveats.
Anything you do to get the property ready for renting, including repairs and maintenance, counts as capital expenditure.
You can include the costs of safety checks in tax expenses, but not the costs of repairs stemming from those checks.
Repairs that wouldn’t stop the property being lettable, such as a dripping tap, are allowed, but this doesn’t give you free rein to include all those starting costs.
Once your business is up and running, the costs for getting future properties ready are allowed. They no longer count as pre-letting expenses, because you’re already letting somewhere.
Advertising a property is also an allowable expense.
Mortgage interest relief is a whole issue in itself.
It’s worth reading up on, but the most critical point is that it’s provided as a tax credit, so can’t be included in your regular expenses.
It’s a good way to recoup some of your costs, but one to deal with separately.
The rules are gradually changing over the next two years, so check on the HMRC website for what the rules are at the time you apply.
If you know the rules, then it’s easy to include rental expenses in your tax accounts, and so increase your profits.
Just make sure that you know the standards and that you have the evidence to show that you’ve met them.