THE TENANT TAX
The most important, but damaging of the measures introduced in Section 24 is the restriction to relief of all finance costs to a level equivalent to basic rate of income tax, to be phased in from 2017 to 2020. This restriction applies only to private residential landlords, not to corporate landlords or institutions.
Landlords are currently able to offset all their finance interest against their rental income, before calculating their rent profits and therefore their tax bill. This is quite normal in business as the general taxation principle is that tax is applied on profit.
The Government proposes to break this normal age-old taxation practice and require some landlords to pay tax on part of their costs. By the year 2021, it will still be possible to get a deduction for finance interest, but the amount will be capped at 20%. However this is applied after calculating the tax payable, so overall it has the effect of artificially inflating the (fictitious) income by the amount of your interest
This is a much bigger change than it sounds because in most cases, finance costs will be the landlord’s largest cost. No other business is taxed in this way. No other business is taxed on interest on loans taken out to buy assets that generate taxable income. We believe that individual landlords who provide valuable housing across the UK are being unfairly discriminated against by the Government.
You may say “So what? Landlords deserve to pay a bit more tax”, but for many landlords the changes will be absolutely enormous. The tax payable could be many times what they pay now. It could exceed the profit on their properties and it could exceed profit and any other income. Bizarrely there could be enormous tax bills generated when there is no profit.
Government says that the change will only affect around 1 in 5 of the ‘wealthiest’ landlords but do not appear to be able to produce their workings on that. It is not actually the wealthiest landlords that will be affected as they are usually the corporate ones (therefore unaffected,) or those private landlords that are truly wealthy and do not have mortgages. The British public have been grossly misled.
It is actually those with the greatest borrowings that will be affected most and that will often mean that they have a large number of tenants. Thus the tax is linked to the landlords that provide greater numbers of homes, and that is why it’s being called The Tenant Tax.
So, the way the tax change will actually work is to add the loan interest from mortgages (and any other finance costs) to the profit and other income to create a totally fictitious profit figure. This may move the landlord up into the higher rate tax band. It may mean they lose their personal allowance and it may move them into the additional rate band.
What will be the effects of The Tenant Tax?
If you ask an economist to give you a list of products or services that suffer a tax increase which isn’t passed on to the end user, they’ll probably respond by saying that the question is like one from basic economics. The question usually goes something along the lines of ‘Describe a business that does not pass on a tax increase’. The answer is that it’s a monopoly. If the business is not a monopoly then it has to pass the costs on to survive.
Government and HMRC have lots of economists so they know very well what the outcome will be!
Mortgaged landlords are therefore faced with some options:
Increase rents proportionately over the next 4 years in an attempt to cover the additional taxes.
If the tenant can’t afford higher rents then they will be evicted to be ‘upgraded’ to ones that can afford George Osborne’s stealth tax.
If the tenant can’t afford higher rents then they will be evicted and the landlord will sell the property.
The landlord can attempt to subsidise the extra tax burden from other earnings, but as already explained the extra tax burden could be considerable, therefore this is not a likely option.
Cut back on other expenses such as property maintenance.
For some landlords the decision will be simply to sell up, others will use a combination of some or all of the options. Many are already taking action resulting in hiking rents and a surge in evictions. Alas the tenants that will be hit most hard by the Tenant Tax are those on low incomes, and particularly those in receipt of housing benefit. Official figures have just revealed that we have the worst homelessness situation in 10 years but it is likely to get so very much worse if the Tenant Tax is not reversed.
Of course not all landlords have finance costs so currently they are not under the same pressures, though this might change if the Government continue their assault on the Private Rented Sector. They may choose to immediately start raising rents in line with other landlords or they may wait until there is a change in tenant. As most full-time ‘professional’ landlords rarely increase rents on a tenant in-situ then we’re likely to see the unmortgaged landlords continue to pass the changes on over a longer period of time.
Overall we forecast that rents will rise significantly over the coming years, and there is a model that we can refer to…
In Ireland a far milder form of Mr Osborne’s stealth tax was tried. The restrictions to mortgage interest relief were nowhere near as Draconian as are being imposed here, and they only applied to future borrowings, but rents shot up because of them. As the former Chancellor used to refer to Ireland as an example of how an economy should be run, we must assume he was well aware of the effects there.