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Interest on qualifying loan to letting company

Borrowed against personal property to fund deposits for residential properties bought by company

Client has bought three rental properties via a new limited company.

Mortgages were raised by the company for the majority of the cost but significant deposits were funded by the client re-mortgaging his existing personal buy to let properties. He is paying the repayments on those personally.

I see two possibilities:

1. He could charge interest to the company which in turn then pays him, less a tax deduction which he claims relief on later. The company is not likely to be profit making for a few years so I then look at the alternative....

2. It is claimed as interest on a qualifying loan under ITA 2007 s392-395 on his personal return to offset tax paid on his other personal income. He owns more than 5% and the properties are let to third parties rather than any connected parties which I believe would block the claim as the company would then be deemed a CIC. I have seen nothing to say you cannot do this and, so far, neither have two HMRC technical officers but they've passed it onto a third one as, in theory, this opens the door for 40% tax relief? The last officer I spoke to said "Qualifying Loan interest relief - I haven't had anyone ask about that for donkey's years!"

I'm reading it and seeing no problem with making the claim but knowing HMRC as we do has anyone heard anything that makes this a non-starter?

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13th Nov 2018 17:35

Just noticed that, randomly, a similar question was asked a couple of hours ago! Hope my client scenario is a bit more black and white though?

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to youngloch
14th Nov 2018 06:36

It could be that the other scenario is more robust, in the sense that there interest appears to have been written into the terms. You talk (below) of interest as if it can be random. Try telling that to the bank. Or try looking up HMRC's view on that point.

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By Ruddles
13th Nov 2018 18:42

1 and 2 are not mutually exclusive alternatives (depending on what the "It" at the beginning of 2 is).

And I'm not sure what you mean by "claiming relief" in 1.

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13th Nov 2018 18:53

Under paragraph 1 then if the company paid him interest on the loan then it would deduct tax from that interest payment which, in due course, he would then declare on his tax return and claim relief on the tax which the company had stopped him on that taxed interest.

Under paragraph 2 he won't bother charging the company interest and will instead claim tax relief directly on the tax return on the basis it is a qualifying loan.

But are you suggesting that in fact he could charge the company the interest, (only declare that interest income on his own return if and when the company pays him e.g. add it to the d/loan in the meantime) and then still claim relief on the qualifying interest?

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By Ruddles
13th Nov 2018 19:41

1. He doesn’t claim ‘relief’ for tax deducted at source. It is taken into account as Tax already paid when calculating his tax bill for the year. That might be what you meant, but it is not what you said.

2. Whether or not the company pays him interest doesn’t affect his entitlement to a claim under s352. [typo - 392]

3. As soon as interest is credited to his loan account it will be treated as paid.

Of course, whether it would be sensible to charge interest to the company will depend on information which has not been provided.

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13th Nov 2018 19:26

Excellent thank you Ruddles - it is s392 though not s352 isn't it?

Company currently with a hefty loss and has not filed any CT61's

Taxpayer has no other interest income so there would be availability of some nil rate band for him

I assume that the charge of the interest to the company can be made as and when the director desires - it will be declared as income in 18/19 if necessary with a CT61 then completed and filed and the interest charged to the DLA.

The claim for interest on the qualifying loan will of course be calculated exactly to the tax year.

Good to get the clarification so thank you again

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14th Nov 2018 06:46

Does the use of an existing BTL business as security (for the borrowing) render the interest cost (of that borrowing) an expense of that BTL business? That's what accounting principles (agreed by HMRC in BIM45700) say, I believe. Does that in turn render s392 irrelevant to your scenario?

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to Tax Dragon
14th Nov 2018 06:50

That's another point of difference, incidentally, with the other scenario, in which the borrowing was against (assumption alert) a non-income-producing asset.

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to Tax Dragon
14th Nov 2018 06:52

And if I'm sounding negative, please don't take it that way. Tax planning should be as robust as possible - I'm just helping you to identify possible areas of concern, to help you robustify yours.

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By Ruddles
to Tax Dragon
14th Nov 2018 10:03

I don't believe that is what BIM45700 says. Looking at it in reverse, if one were to borrow to purchase a BTL, with the borrowing secured on the owner's main residence, your logic would dictate that no relief would be available for the interest.

Of course, it would be possible to arrange matters, draw up accounts etc, in such a way that your scenario would hold true. eg borrow from bank, pay money into BTL account, draw cash to lend to company. But that would be foolish.

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to Ruddles
14th Nov 2018 10:29

BIM says that the interest IS an allowable expense, not just that it may be claimed as such. That tells me HMRC's view of the accounting principles. Never mind what my logic dictates (I don't agree with what you say in that regard, by the way) - my question (it was no more than that) was: is HMRC right?

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By Ruddles
to Tax Dragon
14th Nov 2018 10:58

BIM says that interest IS an allowable expense if the facts and circumstances dictate. But none of the facts and circumstances of any of HMRC's examples fit with the OP's scenario (at least my interpretation of that scenario).

To clarify the point that I was making regarding your logic, and please correct me if this is wrong - you appear to be suggesting, based on HMRC's guidance or otherwise, that interest on a debt secured on a BTL property but which borrowing is used directly for a non-BTL purpose should be treated as an interest expense of the BTL business. Thus suggesting that the treatment depends on the asset on which the debt is secured rather than the purpose of the borrowing. Why then would the reverse not apply, in the case of borrowing for business purposes but with security over a personal asset?

Or are you suggesting that because the loan is secured over a business asset, accounting principles dictate that the debt must be reflected in the accounts of the business? (If so, could you clarify exactly which accounting principle so dictates.)

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to Ruddles
14th Nov 2018 11:12

A business loan I secure on my home is a business loan. I would render a true and fair account of the business if I included the interest it bore. If I personally borrow against the business assets, I think it would be necessary for me to include that in any true and fair account of the state of the business.

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By Ruddles
to Tax Dragon
14th Nov 2018 11:21

A has two businesses. 'Business 2' borrows £100k, interest-only, for the purposes of its business, with security over assets of 'Business 1'. Business 2 pays interest of £3k pa. What would your various accounting entries and disclosures be?

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to Ruddles
14th Nov 2018 11:44

How many set of accounts am I preparing for A?

Anyway, why not just analyse the situation at hand, rather than evermore complicate ones? We won't be able to sort out the complex if we can't handle the simple.

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By Ruddles
to Tax Dragon
14th Nov 2018 12:22

Two separate businesses, two sets of accounts.

I have already analysed the situation at hand. IMO, accounting and tax treatment of interest paid on a debt both depend on the purpose of the borrowing and not on the status of any assets over which the debt may be secured.

It may be appropriate for accounts to disclose any security given over assets of the business, but I disagree that monies paid into a non-business account, and the corresponding loan creditor, should hit the balance sheet of a business that has no connection with the borrowing apart from the security.

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to Ruddles
14th Nov 2018 14:18

Fair enough.

And all I was saying (badly, undoubtedly) was that the reference in the OP to re-mortgaging put me in mind of Example 2 in BIM45700.

Well, no, let's be honest... what I was saying is that the OP should consider the accounting position before getting too excited about the tax one, as the former might inform the latter. But, since we've got talking, I've looked at BIM45700 and now think the scenario not entirely dissimilar to Example 2.

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By Ruddles
to Tax Dragon
14th Nov 2018 14:31

I don't disagree that with appropriate accounting one could have the result that you suggest (bearing in mind that HMRC currently appear to think that their own guidance is wrong) - in order to secure tax relief that would not otherwise be available. However, if tax relief is already otherwise available on the interest I see no need to go to the trouble of trying to make things fit with BIM45700.

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to Ruddles
14th Nov 2018 15:05

Mea culpa, in that ‘twas I that introduced the (loose) reference to security for new borrowing, when the OP clearly referred to re-mortgaging, replacing existing borrowing. What you are suggesting is that the new mortgage be split, to be treated as two liabilities, partly business, partly not. To my mind, the BIM treatment is probably truer and fairer – certainly more natural. If I’m guilty of ”trying to make things fit with BIM45700” (when it’s plainly obvious that they fit without any trying), then you are guilty of trying to draw up accounts to get the tax treatment you want, rather than drawing them up to reflect what has happened and then dealing with the tax position that falls out of those accounts.

Two, three years ago, you wouldn’t even be arguing with me. Now, because the tax (not the accounts) rules have changed, your view of what the accounts should say seems to have lost impartiality.

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By Ruddles
to Tax Dragon
14th Nov 2018 15:27

Bollox

If a BTL owner re-mortgages, borrows, whatever, and the funds are paid into the business bank account, and subsequently drawn, I'd have no problem with the accounts reflecting the facts.

If a BTL owner borrows etc, with the funds being paid directly into his company's bank account (or via his private bank account), I'd have no problem with the accounts reflecting the facts.

As for splitting liabilities, interest etc I have no problem with that at all - it is exactly what my husband and I did when increasing the mortgage over our house in order to finance BTL purchases.

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to Ruddles
14th Nov 2018 16:05

Yes, but that was an incumbrance on a private (off balance sheet) asset.

The OP('s client) is drawing on a business asset. Or are you saying that the incumbrance only partially relates to the the BTL asset?

What the OP('s client) has done is convert part of the asset to cash and used that cash for other purposes (simply, withdrawn it) - exactly as per Example 2.

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By Ruddles
to Tax Dragon
14th Nov 2018 16:25

Tax Dragon wrote:

What the OP('s client) has done is convert part of the asset to cash and used that cash for other purposes (simply, withdrawn it) - exactly as per Example 2.

How do you convert part of a property into cash (without disposing of that part)?

How do you withdraw something that was never there in the first place? You are creating a fiction, in suggesting that the end result (cash being paid directly into the company account) is the same as if the funds had first been deposited in the BTL bank account and subsequently withdrawn. It is one thing to disregard artificially inserted steps - it is quite another to reflect steps that don't actually exist.

How about answering my question about two businesses?

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to Ruddles
14th Nov 2018 16:48

What makes you think the funds were paid directly to the company account? (Directly by the bank, do you mean? Seems unlikely.)

This would not be the first time that you and I have argued opposite positions based on different understandings of the underlying facts; is this just déjà vu?

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By Ruddles
to Tax Dragon
14th Nov 2018 17:01

We don't know what the underlying facts are. The funds could equally have been transferred directly to the individual's personal account instead, however likely or unlikely you may consider that.

I had believed that we were debating a point of principle - namely that the accounts, and tax, should reflect the facts, and the substance, of what happened. If the facts, and the substance, are that the individual borrowed money in his own name, paid into his personal bank account, albeit secured over a business asset, I see no reason why the business balance sheet should be affected.

If on the other hand the facts are that the business borrowed additional funds, with the cash deposited in the business bank account and later withdrawn, I see no reason why the business balance sheet account should not be affected. The end result - vis-a-vis where the cash ultimately ends up - might be the same but as you well know taking different routes to the same destination can have different implications.

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to Ruddles
14th Nov 2018 18:57

An excellent summary/clarification, thank you. Mostly indisputable too, I'd say.

Can we just dwell on the substance of "albeit secured over a business asset" scenario a little longer?

I think my logic (if that's the word... I will accede to "confusion" if that seems more appropriate) here runs something like:

1) P has an interest in a business that has assets
2) The business is represented by its balance sheet
3) P can offer security over his asset (the interest in the business) - not a balance sheet event
4) If instead security is provided directly over the assets of the business, the business must be a party to that provision
5) That brings the security onto the balance sheet.

Of course 1) is a fiction, as it treats "the business" as an entity separate from the proprietor. Tell that one to the courts when "the business" fouls up and you have to sell your house. But that's perhaps not so dissimilar to the fiction that Portia was relying on in that interminable dentist thread. Nor from the fiction that gives BPR for an "interest in" (rather than for the assets used in) a business.

The accounts, do they not, thrive on that fiction. They are indeed the embodiment of it - [oversimplification alert] asset on the balance sheet, BPR; asset off balance sheet, you're struggling. There isn't a "veil of the business(/balance sheet)" to pierce in the same way that there's a "veil of incorporation" - but for many purposes (especially, perhaps, accounts ones), there's a pretty good approximation.

I may well be wrong (the longer I do this job, the more I appreciate my overwhelming ignorance), but I hope I'm not being ridiculous. Oh, and to answer your two-businesses question, one might consider recognising that B1 had, in substance [by allowing its balance sheet to be pierced], lent to B2. Whether B1 had equal in-and-out entries for the interest that B2 paid direct to the bank... I dunno, but it would seem a fair representation of the substance. [B1, B2 and P all being aspects of the same individual renders this a little farcical, but sometimes truth and fairness - based on fictions - perhaps has to be!]

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to Ruddles
14th Nov 2018 19:27

I'd just add.... you are relying on that balance sheet veil to say "this account is business, that one is personal". They're both P's, really. Where does the fiction start and stop? Can B2 sue B1? No, of course not. Is the liability "in" B1? No, of course not (so my previous answer is probably wrong). BUT...if B2 fails does that liability go away? No, of course not...

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to Tax Dragon
14th Nov 2018 21:07

One last (then I'll go away, promise): I posit that the fiction starts with the notion that the business is distinct from the individual (it's really just something s/he does) and finishes with a set of accounts that gives a true and fair view of (the outcomes of) those activities. Flipping it around, I don't see that it would be untrue or unfair to include encumbrances on assets if you include the assets. It could be untrue or unfair to fail so to do.

I wish I'd said that hours ago.

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