Entering the buy-to-let market doesn’t seem too difficult and starting your own property portfolio could seem like a very attractive proposition. But, in reality, is it as straight-forward as you might think?
Just as with all big financial investments, there are some very important questions which you need to consider before you begin to take steps forward in property investment.
Below are the main issues that you may be faced with, along with the big considerations that should be looked into:
Do you opt for a limited company or personal ownership?
So, you’ve made the decision to set up a buy-to-let property portfolio. You’re now faced with the choice of owning these properties personally, as a private individual, or creating a limited company which will own these properties as a business concern.
One of the main factors in this decision is tax. If you choose to own the properties personally, you must pay tax on any earnings at your personal tax rate. This could mean that you’ll end up being taxed at the highest rate on income tax, which is currently set at 45%.
Alternatively, owning these properties through a limited company could mean that you would be eligible to pay corporation tax on any earnings. This is set at a much lower rate of just 20%.
However, this does not come without its own factors which should be considered. Some mortgage companies may not lend to a limited company, or else, they may charge an administration fee for taking out the mortgage as a company. Furthermore, a mortgage lender will no doubt want to see a significant amount of the financial information for your company before agreeing to lend you the required amount.
Both options have their own advantages and drawbacks, but having a good estimate of your earnings will definitely be helpful in making the decision.
Focusing on your profits…
The key to deciding between a limited company and personal ownership will be the projected profits from your buy-to-let properties. You need to consider what level of profits you are likely to making from the property business. You will also need to factor in any allowable expenditure, such as mortgage interest, wear and tear on furnished properties and repair costs.
If your overall rental profit is likely to total less than £300,000 in the tax year, then your limited company would only pay 20% tax on these profits.
As such there is a clear tax advantage to the limited company option, provided that you can meet the mortgage requirements and don’t exceed the £300,000 profit limit in that year.
Buying and selling properties…
If you are thinking of buying more properties over time, you will need to build up your reserves (profits) to use as deposits on any future purchases. Going for the limited company option may allow you to accumulate more reserves, given that you will be paying the lower rate of corporation tax.
However, if you are looking to sell, the personal ownership option does have the advantage of annual exemption from Capital Tax Gains (CTG). This exemption is currently set at £11,000; if you are a couple and own property jointly, there may be £22,000 of gains you can make before paying any CGT.
A company, on the other hand, does not get this and would instead pay CGT on all of its gains. With a company, you would also have to pay a CGT charge as and when you chose to wind up your company. As such, you would end up being taxed twice on these gains.
Are you in it for the long-term?
If you are looking at your properties as a long-term investment, with no intention of selling them any time soon, the limited company option may suit you.
To begin with, you have complete flexibility with regards paying dividends from the company. If you do not want to pay out, you can keep those funds back as reserves to use when buying other properties through the company.
If you do eventually decide to close the company, you could benefit from Entrepreneurs’ Relief. That you mean paying CGT at a rate of only 10%, compared to the 18% or 28% you would pay on any personal earnings.
Keeping it simple…
Simplicity can be a real advantage when you are looking at how to set up a property portfolio. Everything can become confusing if you have multiple properties owned by more than one person. If a third person wanted to join, or you wanted to add family members, the limited company is a significantly better option when compared with personal ownership. Companies are limited by their shares, so the shareholders are the property owners. This would make it a lot easier to add new shareholders, as well as simplifying the recording process with Companies House.
It is worth noting that if your company were to find itself in financial or legal difficulties, your property would be at risk. While any personal assets would be safe, since they are covered by your limited liability status, your properties would be at risk given that they are an asset of the company.
Running a property company could cost you more in the short term. As a limited company, your overheads would be greater, due, in part, to the increased accountancy fees you would have to pay to meet the compliance requirements for Companies House and HM Revenue and Customs. But these costs would be outweighed by the tax savings you make and the additional flexibility that a limited company allows you.
Existing company vs. New company?
Should you keep your property in an existing company, or set up a new company solely for property purposes? It could be that a mortgage company will look more favourably on lending to a limited company with several years of trading history. Or, it may be that the lender requires evidence of the shareholder’s earnings and personal tax returns. If it is the latter, there would be no benefit to keeping an existing company.
If you were thinking about pooling the resources from two or more businesses into one limited company, you should practise caution. You need to be certain that none of the interested parties are losing out from a tax or legal perspective when this move takes place. For example, if you decided to part company with any of your business partners, you need to ensure that it would be easy to do, as well as being as fair as possible. Additionally, if you prospective business partner closes their existing company to join yours, they will be faced with CGT charges, but you will not.
Get the right advice…
As you can see, entering the buy-to-let market is not as straight-forward as it may at first seem. It can be a complex business which requires a lot of careful thought in order to get the best out of the situation from both a tax and legal perspective.
If you are thinking about taking the steps towards building a property portfolio, come to talk with us. Our experience and expertise means that we can help you avoid the common difficulties and we can help you set up your portfolio in a way that works for you and your business partners.