Landlord Tax Guide: Paying Tax on Your Rental Income

Door Knocker

As the old saying goes, there’s nothing certain in this world but death and taxes. So, whether you're buying a property or making income as a landlord, you must meet your obligations with HMRC.

Firstly, understanding the rules makes it easier to maximise your income and stay within the law. As such, we've created a guide to the basic information landlords need to know about paying taxes, including:

Taxes landlords need to pay – updated in 2021

Stamp duty – buying a property

If you buy a property as a landlord, you're liable for stamp duty. Stamp duty is also called SDLT in England, LTT in Wales, and LBTT in Scotland.

Residential property purchased by landlords is subject to a minimum 3% stamp duty fee, applied to all 'second homes' and lettings. The typical bands for stamp duty are as follows:

  • 3% for a purchase price up to £125,000
  • 5% between £125,001 - £250,000
  • 8% between £250,001 - £925,000
  • 13% between £925,001 - £1.5 million
  • 15% above £1.5m

For example, if you buy a property that costs £250,000, you pay 3% on the first £125,000, followed by 5% on the amount between £125,001 and £250,000 – making a total of £10,000.

But during the coronavirus pandemic, Chancellor Rishi Sunak announced a stamp duty holiday, extended in the 2021 budget.

Therefore, from now until 1st July 2021, you only have to pay a 3% fee on the temporary threshold of £500,000. This can effectively halve the amount of stamp duty you spend on a £500,000 property.

Then, between 1st July – 30th September 2021, the threshold lowers to £250,000, but landlords still only need to pay 3% stamp duty up to that limit.

With this in mind, now is an excellent time to extend your portfolio and pay less when purchasing a property.

Rental income tax – letting a property

Having bought a rental property, you will need to pay tax on the respective income.

What counts as rental income?

Rental income is typically any money received from your tenants as a result of them living in your property; however, it does include:

  • Non-refundable deposits.
  • Utilities.
  • Cleaning, repairs, and maintenance of communal areas.

Calculating rental income tax

As a landlord, you pay tax on any profit earned, minus 'allowable expenses.'

To calculate your profit, you simply add up any income obtained from rent and other fees charged, then deduct 'allowable expenses.'

Allowable expenses include:

  • General property maintenance and repairs.
  • Utilities, including water, gas, and electricity.
  • Council tax.
  • Wages of service providers such as cleaners or gardeners.
  • Letting agency and management fees.
  • Accountant fees.
  • Phone calls, advertising for tenants, and stationery.
  • The cost of landlord insurance.

These costs must directly relate to charges incurred when renting out your property.

Let's run through an example. Let's say you charge £900 a month to rent your property, with no other fees. Your rental income is £10,800 per annum. Adding the cost of allowable expenses together, you spend £4,200 per annum on the upkeep the property. Therefore, your profit is £6,600 – and this is the figure you pay tax on.

How much tax do you pay on rental income?

How much rental income tax you pay depends on your circumstances.

Firstly, if your rental income is less than £1,000 a year before removing expenses, you typically don't need to make an HMRC declaration. In other words, you don't pay tax.

For rental income between £1,000 and £2,500, you need to contact HMRC. You should complete a self-assessment tax return if your income is between £2,500 and £9,999 after expenses, or £10,000+ before expenses.

Remember, rental income is added to other gains you receive. If you are employed in a full-time job and rental income is secondary, you must add both together to calculate your tax band. The latest personal allowances are found here.

If your income from rental and other employment does not exceed £12,570, you are not liable to pay income tax (at the time of writing). Any income between £12,751 and £50,270 is subject to basic rate tax at 20%. A higher rate tax of 40% is payable on any income earned between £50,271 and £150,000, and 45% on income above £150,000.

The more property you own as a landlord, the more likelihood there is of you entering a higher tax band. Landlords with large portfolios may wish to set up a limited company to hold property, but we recommend seeking professional advice in this regard.

Buy-to-let tax relief changes

Before April 2017, you could deduct mortgage interest payments from your rental income. For example, if you let property for £900 a month, you would earn £10,800 per annum. If the mortgage interest was £500 a month, you could deduct £6,000 from your income, leaving only £4,800 eligible for tax.

But this scheme has been gradually phased out. Now, you can claim 20% tax relief on your mortgage interest payments instead. You could claim £1,200 (20% of your £6,000 mortgage interest) from your tax bill in the example above.

This is significant for higher rate taxpayers, as you can only claim 20% tax relief on interest payments, rather than 45% and above. As a result, it could increase your tax bill significantly if you own multiple properties.

Holding property within a company could reduce your tax burden if you have an extensive portfolio. However, corporation tax is set to increase from 19% to 25% in 2023. Seeking professional advice from a tax expert can help you plan ahead of this change.

Selling a property - capital gains tax

You could be liable for capital gains tax when selling your property. Any profit made on the value of a 'second home' – whether it's a property you let out, renovate, or flip for a quick sale – is subject to tax.

The profit is calculated by taking the house's market value and deducting estate agent fees, solicitor costs, and any significant improvements, such as additional building work. There is a capital gains tax calculator on the HMRC website. You must pay capital gains tax within 30 days of making a sale.

As of April 2021, the first £12,300 of gain for individuals and personal representatives is exempt from this tax, or £6,150 for trustees of settlements.

The amount of tax payable on anything above these levels varies. For instance, higher and additional rate taxpayers will pay 28%, whereas basic rate taxpayers do not pay a set percentage.

You could also qualify for private residence relief. This reduces the amount of capital gains tax payable based on the time spent in your property, including the last nine months before you sell it.

Landlord insurance is an allowable expense

 Don't forget that you can deduct landlord insurance costs from your income before you pay tax.

With a range of quality insurers providing landlord insurance, Bollington can help you keep the cost of cover low while offering the protection you need. Get a quote online and see how much you can save with us, or for multiple properties, call us on 01625 365376 for expert advice.

Get a Landlord Insurance Quote Today