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If you come to the conclusion that a property company is the right way to go, the first step is to form a company. What happens next largely depends on whether you are looking to build up a portfolio from scratch or to put property you already hold into the company.
You can try a DIY approach at https://www.gov.uk/limited-company-formation/register-your-company. This will be fine to use if you are just setting up a company with a single shareholder.
However, if you are looking to use the company as an FIC (Family Investment Company) and involve children, spouses or different share classes, etc., you will almost certainly need specialist advice to get things right. The potential tax cost of getting it wrong could easily dwarf the initial professional fees you will be charged.
Once the registration process is set up, you will have an empty company ready to do business.
The process of transferring an existing business into a company is called “incorporation”. As you will control the company, you will be “connected” with it.
There are two problems arising from this.
Firstly, the transfer will be deemed to take place at market value for CGT purposes. This could trigger a dry tax charge, i.e. one where you have no proceeds to pay the bill.
Secondly, the transfer will be chargeable to stamp duty land tax (SDLT) (or the devolved equivalent), with the market value used as the consideration.
Incorporation relief applies where all of the trade and business assets (other than cash) are transferred to a company in exchange for shares, and reduces the base cost of those shares by an amount equal to the gain deferred. No CGT is then payable until the shares are sold. Relief applies automatically where the conditions are met.
The problem is that this only applies to transfers of an active business. HMRC is likely to argue that you are merely transferring a collection of investment assets, not a business.
However, one taxpayer managed to convince the Upper Tribunal that the transfer of a rental portfolio was a business, setting a precedent that you can potentially take advantage of.
In Ramsay v HMRC [2013] UKUT 0236 (UTT), the taxpayer (R) claimed the relief on the transfer of her properties into a company. The Upper Tribunal found that because R was a very active and hands-on landlady, it was more akin to a business than a mere investment.
If you are intending to take advantage of incorporation relief, first ensure that the amount of time you spend actively managing the property business is substantial. It really needs to be what you are doing in the main, for at least 20 hours a week. Popping in to inspect the property once a month will not qualify.
In Ramsey’s case, she and her husband spent around 20 hours a week on the following:
This was undertaken personally and wasn’t delegated to a letting agent.
If you think that you have a case, you need to be aware that incorporation relief applies automatically and does not need to be claimed as such. However, it is crucial to note that you have incorporated the property business in the additional information section of your tax return.
Unfortunately, it is almost guaranteed that you will be contacted by HMRC and asked to prove that the letting was a business and not an investment activity.
Following the Ramsay case, HMRC updated its internal guidance to say:
“You should accept that incorporation relief will be available where an individual spends 20 hours or more a week personally undertaking the sort of activities that are indicative of a business. Other cases should be considered carefully.”
Before deciding on whether incorporation relief is something that you may be able to claim I strongly advise that you discus your case with a specialist tax adviser. Anyone with experience in this area should carry out a tax risk assessment and not merely accept that you are spending 20 hours per week on the management of the property business.
A qualifying FHL being transferred to a company can utilise incorporation relief. If it is possible to restructure the business to meet the conditions of an FHL prior to transfer; this could be a route to relief.
Ordinarily, a property transaction is subject to SDLT based on the consideration paid. However, where the transaction is between connected parties, market value is substituted instead. Unfortunately, incorporation relief doesn’t extend to SDLT, so even if you qualify for the CGT break, SDLT is going to be in point.
Companies are always liable to the 3% supplement when acquiring residential property, so the applicable rates for companies are as follows:
| Market value | After 30 June 2021 |
| Up to £250,000 | 3% |
| £250,001-£925,000 | 8% |
| £925,001-£1.5 million | 13% |
| Over £1.5 million | 15% |
Note that there is a flat rate of 15% where a corporate body (or other “non-natural” person) acquires a property worth more than £500,000. However, there is relief from this where the property is acquired for exclusive use in a property letting business and is let to an unconnected third party, which we will assume applies here.
It is likely that the transfer of a number of properties into a company will be treated as a linked transaction for SDLT purposes. This means that the market value of all the properties must be aggregated to work out the charge. A transfer of five properties worth £200,000 each will be treated as a single transfer of a £1 million property, incurring SDLT of £63,750. This can make the incorporation look very expensive. Fortunately, there are a couple of options that can help to at least mitigate the charge.
A transfer of six or more properties will be deemed to be of non-residential property, which can reduce the charge slightly.
The non-residential rates are as follows:
| Market value | SDLT rate |
| Up to £150,000 | 0% |
| £150,001-£250,000 | 2% |
| Over £250,000 | 5% |
Six properties with an aggregate value of £1 million would be charged SDLT of £39,500. Of course, this depends on there being six properties to transfer.
A potentially more powerful saving is offered by multiple dwellings relief.
MDR applies where two or more residential properties are acquired from the same vendor, or from a group of connected vendors, at the same time. This can apply to either a single transfer of multiple properties, or to a series of transfers that are linked.
Using MDR means that the SDLT charge will be calculated based on the average consideration for each dwelling, multiplied by the number of dwellings. This can produce large savings. Let’s return to the example of five properties collectively worth £1 million. As we saw, in the absence of a claim to MDR, the SDLT charge will be £63,750. However, with an MDR claim the charge is calculated using £200,000 (the average value), i.e. £6,000. This number is then multiplied by the number of dwellings, i.e. five to give £30,000. This is a much better result.
Partnerships are subject to special rules. Where the business being incorporated is a partnership, the general market value rule is overruled by Schedule 15 Finance Act 2003. This ignores any actual consideration given, and instead applies a formula to determine what percentage of the market value is chargeable to SDLT.
The crux of the rules is that the chargeable percentage is (100 – SLP)%, where SLP is the “sum of lower proportions”, and SLP is found by following a five-step method. We’ll consider this in the context of a partnership consisting of a husband and wife with profits and capital split equally, i.e. 50% each.
Step 1. Identify whether the new owner(s) of the land were, immediately before the transaction, either a partner in the partnership or were connected to a partner. These are known as “relevant owner(s)”. The company is the relevant owner as it now owns the property and immediately before the transaction it was connected to at least one of the partners.
Step 2. Identify those individual partners who immediately before the transaction were connected to the relevant owner(s). These are known as “corresponding partners”. Both individuals are corresponding partners in relation to the company, as immediately before the transaction they were partners in the partnership, and they are connected to the company.
Step 3. Identify the percentage interest in the land and notionally allocate a proportion of that interest between the corresponding partners. The company is the only owner of the property so it has a 100% interest, which it notionally allocates across both partners, say 50% each.
There is no set method of performing the apportionment; it can be carried out to give the most beneficial result.
Step 4. Compare the interest notionally allocated to each corresponding partner under Step 3, to their share of the income of the partnership, and identify the lower of the two. This is known as the “lower of the proportions”. The interest notionally allocated to each partner under Step 3, of 50% each, is the same as the income share they each hold in the partnership. The lower proportion of each partner is therefore 50.
The partnership interest held by a partner is determined by their share of the income of the partnership, not by their share of the partnership capital or the land transferred.
Step 5. Add together the lower proportions of each corresponding partner to get the SLP. The lower proportion of each partner is 50 and therefore the sum of the lower proportions is 100.
The percentage of the market value chargeable to SDLT is 0% (100 – SLP of 100)%. SDLT payable would be £nil.
In fact, when the partners are all connected to the company, the SLP will be 100, so the chargeable consideration will be £nil, and does not need reporting to HMRC.
No, it isn’t quite that straightforward. The first hurdle is to convince HMRC a partnership exists. It will probably argue that mere joint ownership, e.g. of a property portfolio, does not constitute a formal partnership.
Forming a partnership, registering it with HMRC, drawing up a partnership agreement, submitting partnership tax returns etc. will all add weight to the argument but will not of itself be conclusive.
A further, more complicated, obstacle is presented by a number of anti-avoidance rules set out in ss.75A-75C Finance Act 2003, which mean that if HMRC can show that a partnership was inserted to avoid an SDLT charge, the charge will be based on market value instead. In order to succeed, the partnership itself must therefore not only be genuine, but also established for commercial purposes. A partnership set up shortly before incorporation is likely to fall foul of these rules.
This is a complex area of tax and extreme caution should be taken before taking steps to establish a solid commercial reasoning for using a partnership irrespective of any future incorporation.
In order to work, the partnership formation should take place as early as possible, preferably as part of long-term planning for growing sole traders, and in all cases SDLT avoidance cannot be the motive – it needs to be a mere side benefit of a commercial decision but even then it may be caught by legislation which in recent cases have concluded that SDLT cannot be avoided even if it was motiveless.
If you are starting with no property, or if you want to continue to hold the property you already own personally, e.g. if you don’t want to incur the CGT/SDLT charges on a transfer, you will need to get money into the new company to enable it to buy property. There are a number of options for doing this, including:
The mortgage market for lending to limited companies is now well established with all BTL mortgage providers offering mortgages for limited companies.
You might find that the mortgage rates on offer are slightly higher than those you would obtain personally. However, one of the advantages of a limited company is that all mortgage interest is fully deductible against rental income.
Making a loan to the company means that the company has a debt to you and is recorded in the company accounts as a directors loan (assuming you are a director). As a director whenever you introduce funds or assets into the company the amounts are credited to you on what is called a Directors Loan Account (DLA).
There are a number of consequences to this.
You are able to charge interest at a commercial rate for this with the company able to receive CT relief for the amount paid. This would of course be taxable in your hands, but will qualify for the savings allowance and possibly the savings starting rate of tax. In any event, interest is not subject to NI and so this can be a further efficient profit-extraction option in addition to the general salary and dividends route.
You should be able to secure income tax relief for the interest paid, as you have loaned it to a close company that you have a material interest in, and the company is using the funds for the purpose of its business. This relief is called “qualifying loan interest” and works by simply deducting the interest paid from general income.
One snag with this is that it is subject to the general restriction on income tax relief, i.e. it is limited to the higher of £50,000 and 25% of adjusted total income in each tax year.
It also allows you to withdraw profits from the company with no income tax or NI consequences. A repayment of a loan is simply a return of the amount owed, not income. This can be done on an ongoing basis, or in the event of a winding up.
The ability to charge interest and to withdraw the amounts owed with no tax and NI are also available if you fund the loan from existing capital.
If you use the loan you take out to fund a share purchase instead, you will not be able to charge the company interest. You should still be able to claim interest relief on the loan, but the major drawback is that you won’t be able to get the funds used to purchase the shares out as easily as you would with a loan. In order to do so you would need to effect a repurchase of the company’s own shares, a capital reduction, or other corporate restructuring.
All these are more complex than a simple repayment of a debt, and will probably require professional advice, costing you more money. It will almost always be better to opt for the loan route instead.
One possible exception to this is where you want to structure the company as a FIC. In this case it would be useful to invest in a small number of ordinary shares coupled with redeemable preference shares. This is a highly specialised area, and advice should be taken before attempting to set this up.
Putting existing property into a company will have CGT and SDLT consequences, even though no money is changing hands. It may be possible to claim incorporation relief from CGT if you run the business in a very “hands-on” way, and provide services over and above those expected from a landlord.
Where more than one property is transferred, consider taking advantage of multiple dwellings relief to mitigate the charge.
Borrowing to fund a company to buy properties can attract income tax relief, allows you to be repaid with no income tax consequences and opens up the possibility of charging the company interest, which is a useful profit extraction tool. For these reasons, using borrowings to lend to the company is generally better than subscribing for shares.
Key points
If you have any further queries on this subject please reach out to us at 01902 711370 or email enquiries@uklandlordtax.co.uk if you have any questions or require our expert assistance.
Eleanor
Thandi Nicholls Ltd
Creative Industries Centre
Glaisher Drive
Wolverhampton
West Midlands
WV10 9TG
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