Furnished holiday let tax is due for a huge overhaul in the next budget with 20,000 owners losing tax breaks that let them set off holiday home losses against other income.

The shake-up will also see the creation of UK and overseas holiday letting businesses along the lines of current buy to let rules.

The Treasury says the new rules are on the way to bring UK tax law in line with European law from April 6, 2011 for indivduals and April 1, 2011 for companies.

The changes mean holiday homeowners should plan now to make maximum use of tax breaks before they are scrapped in just a few months.

The main proposals are:

• Increasing the minimum period a property is available for letting from 140 to 210 days
• Increasing the minimum period over which a property is actually let to the public from 70 to 105 days
• Continue to treat furnished holiday lettings the same for capital gains tax and calculating relevant UK earnings for pensions
• Changing loss tax breaks from a UK qualifying furnished holiday lettings business so they are only available to set against future profits from that business.
• Only allowing losses from a European qualifying furnished holiday lettings business for setting against future profits from that European qualifying furnished holiday lettings business.

Effectively, the new rules split a furnished holiday letting business in to two along the lines of UK and a European buy to let businesses.

A European holiday letting business will cover all the countries in the European Economic Area – that includes the European Union and a wider number of places like Iceland.

The big change is only allowing the losses of one business to be set off against future profits of the same business.

For instance if in 2011-12, a European furnished holiday lettings business made a £5,000 loss and the UK arm of the business made a £5,000 profit, the loss could not cancel out the profit, leaving the owners to pay tax on £5,000 at their highest rate.

Current rules allowing losses to cancel out other profits will be scrapped.

Approximately 20,000 taxpayers set furnished holiday letting losses against their other income.

Capital allowances will change at the same time as tax breaks as well – by creating a new additional residential property pool to separate furnished holiday let assets from other business assets.

“This could require complex legislation,” says the consultation document. “However, allowing businesses to maintain a notional pool may be potentially less burdensome than a strict application of the existing rules. These would impose a valuation requirement and balancing adjustment on each occasion that the business qualified or failed to qualify for treatment as a furnished holiday lettings business.”

The last government planned to scrap furnished holiday letting tax breaks, but they survived the election and the last budget.

The new government must make changes because the current rules flout European law.

“The current rules provide beneficial treatment to taxpayers renting furnished holiday accommodation in the UK compared to those renting similar properties elsewhere in Europe. As a result of this discrepancy, furnished holiday letting legislation may not comply with European law,” says the consultation document.

“The Government is obliged to ensure that its legislation does not contravene European law, and is committed to providing certainty of treatment for taxpayers. It is therefore considered unsatisfactory to leave the rules as they are.

“However given the benefit of this tax treatment to the tourism industry the Government does not wish to repeal the rules and withdraw that measure of support to the industry.”

The rule changes are estimated to impact on 65,000 furnished holiday home owners plus another 1,000 companies and business partnerships.

The Tourism Alliance suggests that 79% of UK holiday lets will remain within the rules after April 2011.

“The way taxpayers with furnished holiday accommodation in Europe calculate their profits or losses will not change,” said the consultation document. “

“Taxpayers with furnished holiday accommodation in Europe will continue to calculate their profits and losses under the property income rules if they are brought within the new rules.

“Any taxpayers with UK furnished holiday accommodation that no longer qualifies under the new criteria will also continue to calculate their profits in line with the property income rules and would still be able to claim business expenses, such as mortgage interest, rates, utilities and employees’ wages, as a deduction.”

Self assessment tax returns and tax payments

Any unpaid tax or Class 4 national insurance contributions plus the second payment on account for self assessment income tax returns submitted by January 31, 2010 is due on July 31.

For late filing of self assessment tax returns, a second £100 penalty is levied – making penalties to date £100 for missing the January 31 deadline, 5% of any tax payment due set against the taxpayer’s account on February 28 and a further 5% surcharge plus £100 late filing penalty if the return is not received by July 31. The penalties relate to the tax return due for the 2008-09 tax year ending on April 5, 2009.

The next step is chasing phone calls and letters from HM Revenue and Customs plus additional daily penalties of up to £60 a day until the return is submitted. Interest on outstanding tax and Class 4 NICS is charged at 3%.

Tax credits

HMRC must receive information about income and circumstances in 2009/10 by July 31  to finalise and renew the 2009/10 tax credits award for 2010/11

Missing this deadline could result in tax credits payments being stopped for the current year. Missing the deadline may result in a penalty of up to £300, plus up to £60 per day if the failure continues. There is also a possible penalty of up to £3,000 for fraudulently or negligently making an incorrect statement in response to an end of year notice.

Most property investors who plan to hold property and who are not higher rate  (40%) tax payers find their tax status unchanged – but higher rate taxpayers will find changing their tax strategy could highlight huge potential savings.

Income Tax

Unchanged until April 6, 2011.

Capital Gains Tax (CGT)

The tax rate of 18% remain unchanged for taxpayers paying lower rate tax (20% or less)

From midnight June 22, 2010, higher rate taxpayers (40% plus) will pay 28% CGT on disposals – which include gifts or sales.

The annual exempt amount for CGT remains at £10,100 and is index linked for future tax years.

Corporation Tax

Companies are set to see a five year plan to gradually reduce the rate of corporation tax to 24%.

The small company tax rate will fall to 20% from April 2011.

Furnished holiday lets

Tax breaks for qualifying furnished holiday lets in the UK and European Economic Area are reinstated – this means owners can benefit from capital gains tax reliefs to reduce the rate paid – 10% entrepreneur’s relief on business asset disposals totalling up to £5 million in a lifetime instead of paying CGT at 18% or above – and reliefs to defer CGT – like roll over relief and hold over relief.

Capital allowances

These are of particular interest to commercial investors, furnished holiday let owners and house in multiple occupation (HMO) operators.

The key change is the reduction in the Annual Investment Allowance (AIA) to £25,000 from April 2012.

Any asset purchase or improvement attracting capital allowances that might exceed the AIA threshold should be phased in before APRIL 2012 to take advantage of the higher AIA threshold until that date.

Strategy

Higher rate taxpayers (40% plus)

This budget reintroduces the tax avoidance strategy of top-slicing for married couples and civil partners.

Tax savings are available with no gain/no loss transfers between married couples and civil partners if one partner is a lower rate taxpayer, effectively keeping CGT payable at 18%.

New investment property purchases via a limited company may also be advantageous for higher rate taxpayers who cannot set off a share of ownership to a lower rate taxpayer, as companies pay corporation tax on disposals rather than capital gains tax.

All corporation tax rates will fall below the higher rate of CGT from April 2011 and will become progressively lower over ensuing years until they reach maximum forecast lows of 20% for small companies and 24% for other companies.

Warning – transferring existing buy to let holdings in to a company is a strategy that may unravel due to resistance to investors claiming incorporation relief from HM Revenue and Customs.

What to do now

Do nothing until you have completed a detailed property-by-property view of your portfolio to assess how the changes will affect your tax position – especially if you are a higher rate taxpayer selling or completing on a sale in the near future.

Every property business needs to look at tax-effective ownership now and to put a policy in place for acquisitions and disposals.

Book your property tax review

The proposals are one of the casualties of government spending cuts, especially as a similar scheme in Scotland has cost more than £16 million to run over the past three years and resulted in no prosecutions of landlords for failing to maintain their properties.

The regulation of the sector focused on three main proposals:

• Setting up a register of landlords in England
• Regulating letting and management agents
• Making written tenancy agreements compulsory

Shapps said: “With the vast majority of England’s 3 million private tenants happy with the service they receive, I am satisfied that the current system strikes the right balance between the rights and responsibilities of tenants and landlords.

“So today I make a promise to good landlords across the country: the government has no plans to create any burdensome red tape and bureaucracy, so you are able to continue providing a service to your tenants.”

The minister indicated he expected councils to use existing powers to tackle problems with landlords.

Responses from the National Landlord Association (NLA) and Association of Residential Letting Agents (ARLA) were mixed.

The NLA, which has set up an unofficial landlord register backed the scheme and ARLA, was ‘disappointed’ that anyone could set up a letting agency regardless of their background or qualification.

Both organisations are independent and have no government connection.

About 80% of landlords are in the black – and and 25% of them are making enough to put savings aside, says the poll from researchers BDRC Continental.

The bouyant rental sector is encouraging some to consider expanding their portfolios as mortgage funding eases slightly.

On the downside, unemployment and pay cuts force tenants into arrears,  which m,any landlords blame on new rules switching payment of local housing allowance to tenants rather than direct to them.

Rent arrears have doubled in the past two years, with 33% of landlords reporting that tenants have fallen behind with payments.

A total of 34% of private landlords have experienced arrears problems over the past 12 months, compared with 16% in the third quarter of 2008.

Worst for arrears is the London commuter belt and the East Midlands.

Mark Long of BDRC Continental said: “Although there are indicators in this quarter’s research that suggest the private rental market is stabilising, it is too early to refer to this as a recovery. Britain’s private landlords still have to cope with uncertain economic conditions and arrears are at the highest level since the research began in 2006.

“The research also shows that two-thirds of landlords don’t intend to change the price of the rent charged to tenants in the next three months.”

The landlord, David Thomson, admitted he was trying to exploit a loophole in HMO licensing rules that exempt some shared homes run by religious groups from paying for an HMO licence from the local council.

HMO licences can costs several hundred pounds and qualifying for a licence can also mean councils demanding a landlord invests significant sums in health and fire safety precautions.

Thomson, from Aberdeen, was before a city council committee because he now wanted an HMO licence for his property so he could hand the flat over to a university who needed extra accommodation.

The application was unanimously refused by the committee after neighbour Catherine Hepburn, read out a signed letter from the landlord’s current tenant at the flat, Vivien Leggate.

She claimed Thomson “manipulated tenants in to falsely signing a lease as a Mormon religious order” and he would stop by the flat to leave Mormon literature in case the council called round to check his claims.

Ms Hepburn, who lives in the flat below, also claimed former tenants, including a group of six casino workers, had signed a similar lease purporting to be Mormons.

Councillors asked Thomson if he knew tenants were not Mormon, and he told them: “Oh yes, there was no question of them being Mormons. I am not a Mormon.

“I don’t think what I am doing is in any way improper. It is within the parameters.”

There’s no cap on the number of properties in a portfolio – but don’t forget renting properties in the UK and overseas are separate businesses and have their own tax treatments and special sections on your tax return to complete.

Included in the package are letting accounts broken down by property and by owner, a self-assessment tax return with the relevant UK property or foreign income pages completed for each owner.

One of our property tax experts will look at your business and any improvements that you can make to save tax.

Split-rate capital gains tax, income shifting to offset higher rate income tax and possible tax advantages of running a property company for new acquisitions for higher rate taxpayers are all considered in the review.

Switch to Yardleystar for free

Don’t worry about switching from your current adviser – Yardleystar will handle that for you for free as well.

Working out what you pay is simple – annual accounts for each property work out at £60 per property and your self assessment returns work out at £125 each.

Multiply the number of letting properties by £60 and add £125 for each tax return. Then add VAT at 20%.

Booking your property tax review

Just complete and submit this form and one of our tax experts will get in touch with you for a free initial telephone consultation.

If you don’t want Yardleystar Property to complete your rental accounts and tax returns, the tax review is still available at a standalone price – £250 plus VAT up to 10 properties, £350 up to 20 and add £100 + VAT for every 10 properties above that.

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