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Tax on a let property

I have paid my mortgage completely on my property which is valued at 180k. I want to move to a bigger property. The bigger property is 230k. I want to rent out property one ( hopefully, over 20 years house prices will go up and I'll make a profit). So property one will become a business (residential let). In order to be able to do this I will take out an interest only mortgage on property 2 (175k), and pay 55k cash.
My question is, do I have to pay ax on the £600 rental income on property one? Or is this offset by the £600 interest I'll be paying on property 2.
The only reason I will be taking a mortgage on property 2 is to fund the business (property 1).

Thanks in advance!


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17th Jun 2012 21:41


The mortgage will have to be on property one if you want to use the mortgage interest paid to reduce your taxable profit.

So, re-mortgage property one and use the cash from the loan to purchase property two. Interest cost is then a tax deductible expense.

Thanks (1)
18th Jun 2012 08:07

Why must it be on Property One?

The requirement is for the loan to be wholly and exclusively for the purposes of the rental business. PIM2105 says the following:

 "A taxpayer cannot, for example, deduct interest on a private loan, such as a loan used to buy their private residence." 

and BIM45685 says the following:

"The security for borrowed funds does not determine the use of those funds. It is very common in small businesses for loans to be secured on the proprietor’s home, because that is the only substantial owned asset. This is not relevant to the consideration of the use of the funds borrowed. Similarly guarantees given by another person do not affect the use of the funds." 

It is "the use of the funds" which is relevant - not the asset on which the loan is secured.

Surely, therefore, if the purpose of the loan on Property Two is to repay the owner's capital in the rental business (not to buy the owner's private residence), the interest on the loan (or part of it) would be allowable?

John Perry

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18th Jun 2012 08:28

You are correct

It is the purpose of the funds that is correct. For example, see example 2 at BIM45700, The distinction there is that there is already a mortgage on the rental property. The additional cash extracted is then used to fund the 2nd property. In your case, where there is no existing mortgage, it may be difficult to argue that the new mortgage is for any purpose other than the purchase of the 2nd property. You would need, according to that example, to ensure that the 2nd mortgage is taken out against the first property.

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18th Jun 2012 09:04

Example 1 of BIM45700 says:

"Proprietors of businesses are entitled to withdraw their capital from the business, even though substitute funding then has to be provided by interest bearing loans. This is on the basis that the purpose of the additional borrowing is to provide working capital for the business." 

Nowhere is it specified that the loan must be secured on a specific asset - indeed there is nothing to say that the loan has to be secured, so unsecured lending would be ok too. It is the purpose of the loan which is relevant and capital withdrawal is an acceptable purpose.


John Perry

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18th Jun 2012 09:45

Working capital and purpose

jpcentral wrote:

Example 1 of BIM45700 says:

"Proprietors of businesses are entitled to withdraw their capital from the business, even though substitute funding then has to be provided by interest bearing loans. This is on the basis that the purpose of the additional borrowing is to provide working capital for the business." 

This is on the basis that the purpose of the additional borrowing is to provide working capital for the business.

Some careful accounting may achieve the desired result but at first glance I still see a problem with what is proposed. The OP has suggested that the mortgage is to be used to purchase the 2nd property. Therefore, by no stretch of the imagination can the new borrowing be said to provde working capital for the business. Example 2 in HMRC's guidance is much more pertinent to the OP's position. If funds raised from the new mortgage are put into the rental business - and subsequently used to purchase the new property - that should be OK. But it is difficult to see how one could raise a mortgage, on property that they don't yet own, for other purposes. As with Example 2, I would expect the borrowing to be against the let property, with the capital then extracted.

At the end of the day, the accounting entries will achieve the same result. The point is that the OP, if he proceeds as he suggests, can expect a challenge from HMRC. Whether that challenge would prove successful, time will tell.

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18th Jun 2012 11:01

Thank you for your replies. I know it would be easier to get a mortgage on property one but therein lies the difficulty. The property is worth 180-200k and I couldn't get a mortgage on it (interest only) because they want a LTV 75%. Hence the mortgage has to be on property 2. But if I wasn't starting a business I wouldn't need this mortgage.

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18th Jun 2012 11:40

Again, purpose

But if I wasn't starting a business I wouldn't need this mortgage

In your opening post it is evident that the mortgage is required not because you're starting a business but because you want to move to a larger property. Your decision to hold on to the first property is a consequence of that. If instead you had said that you were thinking of starting a rental business, and as a consequence had to find somewhere else to live ...

Would that make a difference? I'm not sure, but I do think you would have a fight with HMRC on your hands.

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18th Jun 2012 11:56

No, I want to move to a larger property but that is not why I need a mortgage. I could just sell up. The mortgage is needed because of the decision to start letting. The whole purpose of getting the mortgage is to enable me to let.
If I don't let, I don't need to remortgage. The 2 decisions have been made at the same time really. I wouldn't be checking out my tax obligations beforehand otherwise. If I can't offset the loan against the rent I won't take a mortgage. My only reason for taking the mortgage is to release equity to start a business.
It's very complicated I know. I appreciate all of the feedback, thank you.

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18th Jun 2012 12:35

Don't confuse ...

... purpose with consequence.

You want to buy a larger property, but don't have the cash. You therefore have a choice:

You can sell the existing property, and use the cash to finance the purchase; or

You can keep (and let) the existing property, and take out a loan to buy the new property.

If you decide to to the latter, that is a matter of choice. The fact that this requires you to borrow is a consequence of that free decision - it does not necessarily follow that the new borrowing is for the purpose of the letting business.

Take a reverse, rather extreme argument - my business needs £40k cash injection. I have £40k in my own bank account. I could decide to either pay in that £40k or I could blow the lot on a once-in-a-lifetime luxury holiday, with the business borrowing the money. If I take the latter course then, following your logic, the only reason for taking the loan is to allow me to go on holiday. The interest on the loan would therefore be non-deductible? Of course not. The loan, which is a consequence of my decision not to invest personal cash, is nevertheless for business purposes. It is the exact reverse of your situation.

The third choice, which you have already ruled out but which would be much safer as far as HMRC are concerned, would be to raise funds which are paid into the letting business and then extracted to fund the purchase. Whether you could find a lender that would be prepared to grant a mortgage, pay the funds to yourself with immediate transfer to the seller I don't know - but that is the only hope that I can see of persuading HMRC to allow relief on your proposed arrangements.

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18th Jun 2012 13:09

Bridging Finance

Sorry BKD, but I think you're seeking to set the bar too high, at least in the way you're expressing your point.

The reason example 2 is allowable is not because the property in the rental business has a mortgage on it; it's because the proprietor in the business has a capital account already in the businees that he's entitled to withdraw. When he announces his intention (to himself) to withdraw it, the business must find an alternative funding source, making the borrowing for the purposes of the business.

In the OP's situation the block on deductibility arises because there's not yet a business. There can't be a business until he moves out. He can't move out and start the business until funding to purchase the alternative accommodation is in place. And if he borrows to do so, it's not for the purposes of the business, as there's no capital to withdraw yet, because the business hasn't commenced.

There's no need for any "funds" to go into the letting business though. There just needs to be a business; when the property goes into that business, there will be capital (representing the market value of the property introduced to the business per BIM45700) for the OP as proprietor to withdraw, for which alternative loan funding will be needed.

A way of achieving this might be to take bridging finance to purchase the new property, then start the property business (ideally wait until you've got a tenant, but the business has commenced once it's on the market for letting) and take loans (secured on either property) to enable the capital (value of property 1 going into the business) to be withdrawn to repay the personal bridging loan finance. It'll probably cost you a fortune in arrangement fees though.

Thanks (1)
18th Jun 2012 13:16

I've just spent half an hour on the phone to HMRC.
Ok, basically the interest CANNOT be offset. They said that firstly my scenario breaks the "wholly and exclusively " rule (see PIM2010).
Also, it's seen as buying personal assets. Below is a quote from PIM2105

Similarly, the interest on a loan or overdraft may not be allowable, or only part may be allowable, where the taxpayer, for example, uses the borrowing:

to buy non-rental business investments (which may be shown in the balance sheet as assets),
to buy private assets or assets for their family,
for the provision of private funds to be taken out from the rental business.

Back to the drawing board then. Thanks again.

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18th Jun 2012 13:22

They also pointed me in the direction of bim45700 example 2. Ive read it but don't see how it relates. Anyway, HMRC were pretty sure that the interest cant be offset.

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18th Jun 2012 13:38

@cariad71, why don't you just remortgage

property one up to the highest possible value and then get a mortgage for the second property for the balance?  

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18th Jun 2012 14:06

Now there's an idea! Buy to let on property one for say 150k and 25k interest only on property two. Its certainly worth thinking about! Thank you.

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18th Jun 2012 14:15

Do not ever trust tax advice from HMRC

The ones on the phone just do not have enough experience. George has the correct solution.

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18th Jun 2012 14:22

Isn't it just shocking how simple

things can be done?! (and as per Chris - never take your advice of HMRC....)

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18th Jun 2012 17:02

Advice from HMRC over the telephone

Really have to echo the comments above from Chris Smail and justsotax about not placing any trust or reliance on telephone advice from HMRC.

As Chris says, HMRC telephone handlers really do not have the training or experience to cope with anything beyond the basics. 

And for this particular question they are quite clearly wrong. John Perry and George Attazder have got the esential point just about right but perhaps it is worth noting that is the purpose for which the interest expense is incurred that matters and this does not always necessarily coincide with the purpose for which the loan funds were used.

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19th Jun 2012 08:53

Provision of working capital

Referring to BKD's earlier comment when he takes just one sentence from my post (which was an extract from BIM45700.

"This is on the basis that the purpose of the additional borrowing is to provide working capital for the business." 

This has to be read in conjunction with the sentence before it,

"Proprietors of businesses are entitled to withdraw their capital from the business, even though substitute funding then has to be provided by interest bearing loans ."

Reading the two together, my conclusion is that the proprietor can withdraw capital from the business and replace that capital with a loan and that the purpose of the additional borrowing would therefore be to provide working capital and the "wholly and exclusively" rule is met.

I would also advise caution when seeking advice from anyone on an HMRC Helpdesk.

John Perry

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19th Jun 2012 10:01


jpcentral wrote:

"Proprietors of businesses are entitled to withdraw their capital from the business, even though substitute funding then has to be provided by interest bearing loans ."

I was aware of the above wording, but looking at it carefully, including the word "then", I don't believe that it applies in this case.

The OP has a property, with no mortgage attached. Assuming that he could draw up accounts for a rental business - which, as George points out, will be rather difficult until he actually moves out of and lets the property - the balance sheet should be fairly simple. Dr Investment Property Cr Capital Account. So, I ask, in what form is that capital going to be withdrawn? In HMRC's example, additional cash has been injected through re-mortgaging the existing rental property. That additional cash can then be extracted and used for other purposes.

I agree that George has the solution - to use bridging finance. Otherwise, I cannot see HMRC accepting that the new mortgage has been used for any purpose other than acquisition of the second property - unless the mortgage funds are paid into the rental business, I would exepct them to reject any argument that they were used to fund the rental business. In their own words - Where a separate loan is obtained to buy a specific asset that is not used for business purposes, the interest on that loan is not an allowable deduction in computing business profits

We may need to agree to disagree on the point - ultimately it will be HMRC (or the Courts) that will decide.

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20th Jun 2012 11:29

George has the right answer.

For the amounts involved I recommend that you take some priofessional advice so that you get the procedure right.  THe bridge may be cheaper than you think because it can be secured and only needs to be in place for a short while.

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20th Jun 2012 12:09

Is there a business yet

The key points here are whether there is a rental business, and the HMRC opinion on the purpose of any loan.

A business may incur expenditure in advance of the business actually trading and therefore, presumably, may borrow money for that business.  In this case your view is that you are borrowing money not to buy another property, but so that you can physically move out of the property you currently live in and rent out that property as a business.

Personally I feel HMRC will take the view that the business is currently a medium/long-term plan and is not yet close enough (in terms of planning).  They will also consider the loan being to buy the house where you live.

Tax advisors are expensive but may be worth it as already advised.  I would consider setting out your plans and asking 'for advice' as to what steps need to be in place for them to consider pre-commencement expenditure, how long after you buy your new property that you rent for the 2 transactions to be considered linked.  You may get some surprising advice; but I think not!

Another optinon, as suggested, is to mortgage your existing property up to 75% taking on a 'portable' mortgage.  You then rent out your existing property (thereby starting your rental business), and rent another property to live in, for 6 months.  During this period you source out another property and 'port' your existing mortgage to the new property hopefully borrowing more money from that lender to go up to 75% of the value of the new property.  A mortgage advisor will be able to help in this matter.

Points to consider are: even though you are borrowing the extra for the 'new' property, it should be allowable as offset against the currently rented out property as this is an existing business now (and if you can show that the ported mortgage alone could have purchased the new property it would be harder for HMRC to argue that the addtional amount was actually required to purchase the new property).

Another point is that you may be in breach of your mortgage loan be renting out your property - but most mortgages these days state the 'penalty ' if you do this.  You may be able, therefore, to simply pay higher interest during the let period before you 'port' - but take care this will not prevent you 'porting' the mortgage. 

Good luck!

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By cfield
20th Jun 2012 12:41

What about renting out the new house first?

If the OP rents out the 2nd property immediately after buying it (perhaps on license to a friend for a few weeks), the letting business would commence before he moves out and the mortgage would (initially at least) be for the purposes of the business.

Then he could re-arrange his finances using his capital account so that the money is used to fund the 1st property. Not sure how this could be achieved without running up arrangement fees and other costs, but might be worthy of consideration.

Maybe that would get round the Catch 22 situation described by George with the business not yet existing. He would need to get the lender on-side though as it would be a BTL mortgage.

Always worth pointing out to new landlords that they should:

a) make a PPR election within 2 years; and

b) inform HMRC of a new source of income by 5th October following the end of the tax year (if they haven't filed their tax return by then).

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20th Jun 2012 12:41

Alternative scenario


I find myself in a very similar situation but i rented out the second property first. I bought a 2nd bigger house and took out a £300k interest only mortgage (value £700k) and rented out the property. After 6 months i moved into the new house and rented out my first house £200k mortgage (value £400k). As there is already a business and the capital account is not overdrawn is the £300k interest only mortgage still fully deductible against my original property when it is subsequently let out do you think ? (rather than the £200k repayment mortgage that is actually on the property) ? Many thanks


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20th Jun 2012 14:26

I believe this is what is happening

When you buy the larger property you are essentially putting £400k (£700k less £300k mortgage) into the business.

When you move property, you are withdrawing the larger property from the business (around £700k but it will be the value at the time of move).

When you are rent out your new property you are adding £400k to the business (or value of property at that time).

The 2 transactions mean you have withdrawn a net £300k capital from the business.  The business therefore has property of £400k, a business loan of £300k and capital of £100k.

You may therefore may be able to withdraw a futher £100k from the business by a remortgage of the lower value house (but depends on interest rates etc.) or alternatively may be able to 'class' The £200k as a business loan whilst restricting it to £100k.

Don't forget your PPR declaration and as you have lived in both both should be allowable for last 36 months deemed ownership.  Wait before doing declaration as once made you will be unable to get a tax loss should you sell the new property at a loss.

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By ACDWebb
02nd Jul 2012 12:02

I don't think a PPR election would be relevant to the OP

brian.barrett wrote:

Don't forget your PPR declaration and as you have lived in both both should be allowable for last 36 months deemed ownership.  Wait before doing declaration as once made you will be unable to get a tax loss should you sell the new property at a loss.

They will be moving into property 2 and that will be the only property available to them as PPR/OMR. That they lived in property 1 previously, and that was also their PPR/OMR as the only property in which they lived will mean that the relief will be a matter of fact on both properties, and throughout they will only have had one PPR/OMR.

Just do the usual of notifying everyone, including HMRC, of the new address, which no doubt would be done as a matter of course. By the sounds of it this is unlikely to be one of the many cases on the PPR/OMR relief that have hit tribunal in recent months where the taxpayer was trying to back into the relief on a property that it was pretty clear relief was not due.

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02nd Jul 2012 22:47

Look at the whole picture

I know the focus has been on the short term tax implications of your situation, but have you really thought of the bigger picture?

If you buy another property and make a decision to rent out the one you are living in now, then what you are doing is making an investment decision to keep your existing property.  You mentioned figures of £600pcm rent and £600pcm interest.  On a property worth £180-£200k that means both your gross yield and mortgage interest rate is around 3.6%-4%.  

That figure is about right if you could borrow the money on a residential mortgage of around 75%-80%, but it would cost you more to borrow the money on a buy to let, plus there are generally more fees involved.  As for bridging finance then you really are starting to pour money down the drain on arrangement fees.

There would also be additional costs such as gas/electrical certs, letting agent fees, general repairs and property refurbishment every few years such as new furniture / kitchen / bathrooms / repainting / carpets etc, plus you have the real risk of defaulting tenants and void periods.

Most people don't take this into account but they will build up over the years and eat into any profits if there were any, or on the figures you have mentioned would require additional investment from yourself. The larger the house the more these costs would be.

In this instance, the house wouldn't be 'paying for itself' as you would end up paying into it over a period of time. These losses would also remain unused as they could not be offset against any tax you pay on earned income, only on profits from rental income.

What you are left with then is a one way bet on the UK housing market that is costing you money each year.  By having two properties you are also doubling your previous exposure to one narrow asset class, so any fall in house prices will hit you twice as hard. 

House prices have been falling now for 5 years and there is no guarantee that they will go up in the next 20.  House prices in Japan started falling 20 years ago and they are still falling.  I am not an oracle and I do not pretend to know where house prices are going over the long term as there are convincing arguments for them to go lower, go higher or stay the same. Certainly If you had done the same thing 20 years ago then you would have made a fortune but there are no guarantees as to what will happen in the next 20 years.

The other thing you should take into consideration over the long term is CGT.  I don't know how much of a gain you have made on the property or how long you have owned it but PPR reduces over time so if you sold in 20 years time you could end up paying a lot more tax than if you sold it now.

I'm qualified to give mortgage and investment advice and when I come across clients who are in this situation, I would always look at a decision to rent out a property as an investment decision, and as such, is it right for the client to make a £200k investment into UK housing?

If the answer is yes, then the next question should be is this the right property? A house with a gross yield of 3.6% may not be the best long term solution if you can still find 1 bedroom flats with a 5% yield and lower maintenance costs, or student houses with gross yields of 7%-8% - both of which are just as likely to go up in value as the house you lived in but may present a better investment opportunity due to higher net yields, which in turn will act to underpin their capital value.


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By keffo1
11th Feb 2015 07:40

rent out a property I have owned for years


I have a property which I live in, it has increased in value over the years, partly due to economics, and partly due to improvements, rewire, heating, kitchen, bathroom, windows etc.

I wish to buy another house for myself and my partner. I don't have enough for a deposit, as I have spent my savings over the years improving this property.

I could remortgage this property to raise funds for a deposit for my new one, and rent out this one, or I could sell this one, in order to raise funds,

What will HMRC calculate my mortgage interest payment on, my original mortgage amount, or the new one? As I understand it, it would be only on my original mortgage amount, but I couldn't afford to buy a new home without remortgaging or selling.

If I sold my original property, then bought it back for the same price, with a larger mortgage, then rented it out, I could claim back my interest payments on the larger loan, but not if I raise funds on it to buy my new house? Is this correct?

If I don't raise funds on it, then there will be no business, seems very unfair to me?



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