HMRC Benchmarking Landlord Taxes

Being a landlord comes with certain tax obligations and allowances that can help offset your property income. With changes to mortgage interest tax relief and HMRC’s increasing scrutiny of landlord finances, landlords must understand how to minimise their tax bills legally. This article will provide an overview of the key tax allowances landlords can claim, explain how HMRC benchmarks rental income, and offer tips for ensuring your tax returns withstand scrutiny.

Allowable Expenses

One of the main ways landlords can reduce their taxable rental income is by claiming allowable expenses. These are costs directly related to letting your property, which can be deducted from your rental income before tax is calculated. Allowable expenses include:

• Mortgage interest – Interest on property loans can be deducted, subject to restrictions. From 2020/21, mortgage interest can have a basic rate tax reduction.
• Letting agent fees – Fees from letting or managing agents can be claimed in full.
• Property maintenance and repairs – Any costs for repairing and maintaining the property, such as materials, contractor fees, etc. However, upgrades and improvements cannot be deducted.
• Utility bills – Gas, electricity, water, and phone bills can be apportioned between rental and private use. Only the rental portion can be deducted.
• Property insurance – Insurance to cover loss of rent and rental liability can be deducted in full.
• Council tax – If the property is only rented for part of the year, council tax can be apportioned between rental and private use.
• Services – Gardening, cleaning, security alarms, etc. Costs can be deducted solely for property rental.
• Advertising – Any advertising costs to find new tenants.
• Accountancy fees – Fees for an accountant to handle rental accounts and tax returns.
• Landlord license – Mandatory licensing scheme fees in certain areas.
• Wear and tear allowance – Up to 10% of rental income can be deducted annually for wear and tear, regardless of actual costs.

Keeping good records of these expenses is crucial to evidencing allowable deductions. Landlords should retain invoices, bank statements and tenancy agreements.

Mortgage Interest Relief Changes

One major change for landlords in recent years is the mortgage interest tax relief restriction. Before 2017, landlords could deduct all finance costs related to their rental business from profit before tax. However, the government has been phasing this out.

In the 2019/20 tax year, only 25% of mortgage interest could be deducted as an allowable expense. The remaining 75% is given as a basic rate tax reduction. By the 2020/21 tax year, all mortgage interest is given as a tax reduction. This has increased tax bills for higher-rate taxpayers especially. To mitigate the impact, some key strategies include:

• Transferring property ownership into a limited company structure – Companies can still deduct 100% of mortgage interest.
• Making overpayments on the mortgage – To reduce interest payments.
• Accepting rent arrears – As this delays receipt, income is declared over later years.
• Maximising other allowable deductions.

Property Running Costs

Aside from mortgage interest, property running costs remain fully allowable expenses. This includes maintenance, repairs, utility bills, letting agent fees and other costs essential for managing your rental property. Landlords should take advantage of this by diligently recording all related spending.

Keeping detailed records and receipts will help evidence legitimate tax deductions. Agent fees and property insurance are straightforward to prove. For repairs and maintenance work, get contractors to provide full invoices detailing the work. For utilities and council tax, request statements that show exact costs for the entire tax year.

Being methodical with paperwork makes tax reporting easier while minimising your property income tax liability.

Rent a Room Scheme

Another useful tax relief scheme for landlords is Rent a Room relief. This allows you to earn up to £7,500 per year tax-free from letting out furnished accommodation in your home. This includes renting:

• A single room to a lodger
• Your entire property while you’re on holiday

To qualify, you must live on the same property as your tenant. Council tax and utility bills, not mortgage interest or letting fees, can be deducted. The tax break applies per landlord so couples can earn £15,000 tax-free. Those with higher earnings can opt out of the Rent-a-Room scheme and deduct allowable expenses.

Tax-Free Property Allowance

Since April 2017, landlords can maximise tax relief further with the £1,000 property allowance. This means you can earn up to £1,000 annually from residential property before paying any tax. Both income and expenses are exempt from this threshold.

Types of income this applies to include:

• Rental income after allowable deductions
• Income from property services, e.g. cleaning or gardening
• Income from letting parking spaces

The allowance applies per landlord, not per property. So an individual with multiple properties can still only earn £1,000 tax-free. It cannot be used alongside the Rent-a-Room scheme or for furnished holiday letting. But for many landlords with low-profit margins, the property allowance provides an extra tax break.

Furnished Holiday Letting Rules

Landlords of furnished holiday accommodation may benefit from more advantageous tax rules. Furnished holiday lets (FHLs) cover properties rented short-term – usually for at least 25 weeks a year – to temporary holidaymakers.

Key tax benefits of being an FHL landlord include:

• Capital Gains Tax treatment – FHLs are treated as business assets, benefiting from valuable Capital Gains Tax reliefs when sold. These include Entrepreneurs’ Relief and rollover relief.
• Allowable expenses – These can be deducted from turnover before tax without any restrictions on mortgage interest.
• Business Property Relief – Reduces Inheritance Tax liability by 100% after two years of ownership.

To qualify as an FHL for tax purposes, there are strict conditions. Properties must be available for commercial holiday lettings for at least 210 days a year and let for at least 105 days. The rent should not amount to a person’s sole residence. Detailed record keeping of occupancy is essential.

As furnishing a property can be expensive, FHL status mainly benefits landlords with higher turnover and profit levels. Meeting the occupation thresholds requires a major commitment. But the tax incentives can be significant for landlords who achieve FHL status.

HMRC Benchmarking of Rental Income

In recent years, HMRC has increasingly focused attention on landlord finances. One initiative is benchmarking rental incomes to gauge whether declarations seem accurate and reasonable.

Benchmarking uses third-party data and statistical modelling to estimate a rental property’s expected turnover. This is based on factors like:

• Property type, e.g. two bed flat
• Location, e.g. central London
• Condition, e.g. furnished, garden, parking
• Local rental market prices

HMRC can identify discrepancies by comparing declared turnover to expected benchmarks for that area and property type. Significant under-declarations may trigger a tax investigation. In 2021, HMRC estimated that around £200 million of rental income went undeclared by landlords who made obvious errors or inflated expense claims. Benchmarking helps target possible cases of tax evasion.

How can landlords ensure their declared incomes withstand scrutiny?

• Research market rent levels in your area, e.g. on Rightmove. Base your rents around typical prices for comparable properties. Don’t declare significantly lower incomes without good reason.
• Review rents regularly and keep evidence of market rates. Be prepared to increase rents when appropriate.
• Avoid excessive or dubious expense claims, e.g. over-claiming mileage. Only declare allowable expenses you can evidence.
• Keep meticulous rental income and expenses records with invoices, tenancy agreements and bank statements.
• Use an accountant familiar with property tax rules to prepare your Self Assessment returns.

While most landlords declare honestly, HMRC benchmarking aims to catch the minority who deliberately evade tax. By pricing intelligently and keeping good records, responsible landlords have little to fear from the initiative. But it makes thorough tax compliance more important than ever.

Top Tips for Landlord Tax Returns

Submitting landlord tax returns accurately and on time is essential. Here are some top tips for staying compliant:

• Declare all your UK and overseas property income. Tax must be paid on global rental earnings.
• Submit by the deadlines – 31 October for paper returns, 31 January for online returns. Late filing penalties apply.
• Pay your tax bill on time – By 31 January for income tax or quarterly for corporation tax. Interest accrues on late payments.
• Keep meticulous records throughout the tax year – Tenancy agreements, invoices, bank statements etc.
• Review expenses to maximise allowable deductions. Claim wear and tear allowance if eligible.
• Watch out for common errors like personal and rental expenses mixing in accounts.
• Disclose all other income sources like employment, savings, investments and pensions.
• Use HMRC’s free online tools for record-keeping, return submission and payments.
• Consider using an accountant, especially if you have multiple properties.
• Inform HMRC promptly if you sell a property or lettings business. Capital Gains Tax may apply.

Accurately reporting property letting activities is complex but essential. With good record-keeping and an organised approach, landlords can ensure their returns withstand scrutiny. Maximising allowable expenses also helps minimise overall tax liability. Seeking professional advice can be worthwhile for landlords with more extensive property portfolios and tax affairs.

Owning a rental property in the UK comes with tax obligations that must be handled carefully. Key allowances exist to help offset property income, but mortgage interest relief has now been restricted. Detailed record keeping is more important than ever, given HMRC’s rental income benchmarking initiatives. Landlords can remain fully compliant by maximising deductions, submitting timely returns, and using an accountant if needed while reducing their overall tax bill. With some planning and discipline around paperwork, rental property can remain a tax-efficient investment.

For tax compliance, please contact Tax Accountant at 0800 135 7323 or email info@taxaccountant.co.uk for expert advice.