Why is rent being charged?

Didn't find your answer?

I have recently taken on a new client with the following history:

Individual – higher rate tax payer, owns a 2nd property with no mortgage on it (& never has had).

Company – above individual is the sole director & shareholder. The Company rents the individual’s property out as a furnished holiday let.

The old accountants advised to charge a rent (approx. market rate) from the individual to the company (no formal lease / agreement drawn up).

It has resulted Company getting CT relief at 19% on the rent but the individual paying income tax at 40% ion teh rental income....... am I missing something here???

I cannot see a reason for doing this & would welcome others thoughts please 

Replies (24)

Please login or register to join the discussion.

avatar
By David Ex
16th Aug 2022 16:22

Amy Victoria Wood wrote:

am I missing something here???

 

Think you’re missing the bit where you ask the client for their recollection of the rationale for the arrangements.

Does seem odd for the company to be letting out a property it doesn’t own so the client’s response should be interesting.

Thanks (0)
By SteveHa
16th Aug 2022 16:26

I suspect that it's because a lot of accountants automatically default to "charge the company rent" without consideration of the overall cost of doing so.

Personally, I'm starting to think that there are very few situations where it's economical.

Thanks (0)
Replying to SteveHa:
avatar
By David Ex
16th Aug 2022 16:32

SteveHa wrote:

I suspect that it's because a lot of accountants automatically default to "charge the company rent" without consideration of the overall cost of doing so.

Personally, I'm starting to think that there are very few situations where it's economical.

No idea what the tax issues are but it appears the company is letting the property which belongs to the director (and presumably accounting for the rent as its own income). The director then receives rent from the company, possibly for the use of the property.

It will be interesting to see the supporting legal agreements.

Thanks (0)
Replying to David Ex:
By SteveHa
16th Aug 2022 17:07

That is almost certainly the model. But then the rent charged to the company is taxed at 40%. The rent charged by the company is charged at 19%, and then extraction of those profits by the director/shareholder is charged at (probably 33.75% and possibly 39.25%), so a very false economy.

EDIT: for clarity, there are cascading tax issues when a director/shareholder charges a company rent for a personally owned property which generates income simply by existing, and many accountants fail to see that cascade effect costs more. It is almost (but not quite) a tax on tax.

Thanks (0)
avatar
By Tax is always taxing
16th Aug 2022 16:29

So does the furnished holiday let income go into the company rather than to the individual?

Thanks (0)
Replying to Tax is always taxing:
avatar
By Amy Victoria Wood
16th Aug 2022 16:42

Yes, the FHL income goes into the company along with incidental costs ie cleaning, consumables, upkeep etc.

There is no rental agreement between the individual & company, formal or other wise.

There client has no knowledge why the rent charge was suggested / accounted for!!

Thanks (0)
avatar
By SJRUK
16th Aug 2022 16:47

Maybe the client set the company up thinking he was being clever and without the accountants input and ran the holiday let income through that.
And in order to avoid transferring the property into the company and the resulting CGT, the accountant decided it would be easier for the client to charge the company rent for use of the property.

Just one of many scenarios it could possibly be. Definitely a strange arrangement though.

Thanks (0)
Replying to SJRUK:
ALISK
By atleastisoundknowledgable...
18th Aug 2022 17:47

I can see that scenario playing out, in fact I’ve done a tax return(20/21) & accts (YE 30/4/21) that we implemented the same.
It was a late late job and on 31/1/22 just before filing the accounts, I had a glance and spotted that the company didn’t own any property despite receiving income on 5. As you say, easiest thing was for the co to lease them from the Director.

Thanks (0)
Replying to atleastisoundknowledgable...:
avatar
By Tax Dragon
18th Aug 2022 20:28

I would suggest being able to consider counteracting this sort of solution (if counteraction seemed appropriate in a particular case - this isn't a comment on yours) is one of the drivers for MTD - far more so than quarterly payments.

Thanks (0)
Replying to Tax Dragon:
avatar
By Winnie Wiggleroom
19th Aug 2022 08:30

Tax Dragon wrote:

I would suggest being able to consider counteracting this sort of solution (if counteraction seemed appropriate in a particular case - this isn't a comment on yours) is one of the drivers for MTD - far more so than quarterly payments.

The individual is being paid rent for a property he owns, a) why on earth would MTD "counteract" that and b) why is any counteracting required?

Thanks (0)
Replying to Winnie Wiggleroom:
avatar
By Tax Dragon
19th Aug 2022 09:15

My comment was probably on the wrong thread. HMRC has this silly notion that people know what they are doing when they do it. Accountants believe they can decide what people did after the event. ('Stick it to DLA' is one of the most common suggestions on Aweb. Another example is that HMRC says that interest can be paid only if it has accrued. [It says that because that's what it thinks the law is.] Accountants though think they can decide to charge interest after the event if it looks like it reduces tax. Loads more examples - and, while I wasn't commenting on ALISK's case, his description of it put me in mind of the issue.)

Who is right and who is wrong - I'm not commenting. But MTD (and in particular MTDforCT when it eventually arrives) seems to me to be motivated by HMRC's desire to get more real-time information, so that - maybe - it can query stuff like when interest is a year-end adjustment. But maybe I'm wrong - I'm just guessing. But seems much more likely than the common perception that it's all about quarterly payments. Those have been around for CT ever since I can remember, without any need for MTD.

Thanks (1)
Replying to Tax Dragon:
avatar
By Hugo Fair
19th Aug 2022 11:19

Certainly one of the general 'drivers' of real-time as an aspiration of HMRC is to make it harder to 're-write history' (and much more visible when attempted).

It wasn't openly stated, but I knew plenty of people in HMRC watching with glee during the introduction of PAYE RTI ... specifically as OMB type businesses realised they could no longer wait until after year-end to decide how much of their in-year drawings could be retrospectively 'treated' as salary (or indeed dividends).

For those focused on the iniquity of Quarterly reporting, be aware that real-time is the planned end-game. The only thing that may save those of an apoplectic nature is HMRC's inability to design/build/release software to any kind of plan.

Thanks (1)
Replying to Hugo Fair:
By SteveHa
19th Aug 2022 15:34

I doubt it's really worked. All that's happened is that for the worst offenders they've been forced to engage in a little foresight.

It may be more effective when the accounts and tax year ends are forced to align, but until then, the same dodgy practices can continue, albeit reported at the time, for any business with a non-6 April Y/E.

Thanks (0)
Replying to SteveHa:
avatar
By Hugo Fair
19th Aug 2022 17:46

True - but it was the being "forced to engage in a little foresight" that was seen as a little triumph (vs the old trip to their accountant with all the paperwork that could be found and the sole instruction of "sort these out so as to minimise the tax ... oh and deal with the tax return will you").

But their hopes are (ludicrously) higher for MTD in general!

Thanks (1)
Danny Kent
By Viciuno
16th Aug 2022 16:53

Income from a FHL will most likely be significantly greater than the MV rent being charged for the property from the director (assuming on a standard AST, or SAT if in Scotland, basis rather than FHL rates).

Profits can then accumulate in the Co to be drawn down on later on or whatever, after tax of only 19% rather than higher rate?

Thanks (1)
avatar
By rmillaree
16th Aug 2022 16:50

I am guessing the tax may be broadly neutral if the alternative is that the individual would have the rent and pay 40% anyway if the company did not exist.

Could it be for limited liability purposes just in case something went wrong with the letting trade ?

Perhaps what was efficient at the outset may not be now - ie was individual not higher rate taxpayer.

I do feel there is something obvious i am missing here though - step up to the plate inspector ............

Thanks (0)
paddle steamer
By DJKL
16th Aug 2022 16:55

BADR in future looks problematic

Thanks (0)
By ireallyshouldknowthisbut
16th Aug 2022 17:23

What has happened has happened, all you can do it add it up.

If you can do better in the future, then you will have a happy client.

It doesn't sound very challenging to improve on this situation....

I have seen unscrupulous accountants suggesting company formation and complex set up simply to boost their fees.....

Thanks (0)
Lone Wolf
By Lone_Wolf
16th Aug 2022 17:37

Does the company make a profit on the FHL, after taking into account this rental charge?

Perhaps the accountant felt that the individual had to charge a market rent to avoid a deemed lease premium arising for CGT purposes.

Can't think of any other reason at the moment.

Thanks (1)
Replying to Lone_Wolf:
avatar
By Tax Dragon
16th Aug 2022 20:04

Deemed lease premium, yes, but also 21% is less than 32.5%, as SteveHa notes. But then why have the company at all (again, SteveHa's point... I'm just stealing here!)?

Thanks (0)
avatar
By IWantToLearn
17th Aug 2022 08:45

I have an extremely similar scenario from a new client who owns two companies: one where the rental income comes to, the other that actually owns the building. Still waiting for the full professional handover..

Not helpful I know, but had to tell someone.

Thanks (0)
Replying to IWantToLearn:
avatar
By 97mwill
17th Aug 2022 15:26

Similar to IWantToLearn, spoke to a new client a couple weeks ago, numerous rental properties all in wife's name on deeds (but considered joint assets by H&W), however rental income being taxed 50:50 between wife and now ex-husband (arrangement still in place). Furthermore there is a Ltd Co owned by them in place that for some reason cross charges what i can only assume is a management charge.
Both wife and ex-husband are basic rate taxpayers, can't think of any logical tax/legal reason for the company as it surely just increases the tax liabilities. Also struggling to think of reasons why/how income can be split 50:50. (Am i right in thinking Form 17 can only be used if property held jointly in first place?)
To complicate things they now want to sell properties and i need to work out if CGT is all on wife in line with deeds or split 50:50 in line with how the income has been taxed.
Awaiting handover from previous accountant which will hopefully shed some light, but am not too hopeful.

Thanks (0)
avatar
By Arcadia
17th Aug 2022 09:25

Could be they think that having a company looks more 'official' and businesslike when dealing with the tenants/customers.

Thanks (0)
avatar
By Winnie Wiggleroom
18th Aug 2022 07:03

So, if I understand this correctly, Mr A Ltd rents a property from Mr A and uses that property as a FHL.

So from a liability point of view the company is there as an extra layer of protection in case a holiday maker trips on the step after a few glasses of Prosecco, breaks his little finger nail and sues for severe emotional damages.

As far as the tax is concerned, the company will probably make zero profit because of the rent paid out to the Director, the Director of course will pay 40% tax but he would have anyway if it were not for the company

Whats wrong with that? (apart from the lack of paperwork)

Thanks (0)