There has been an increase in the number of residential property investors who manage their portfolio as a limited company, so what are the financial pros and cons of this approach? Gary Bailey, sales director at specialist lender Together, shares his expertise
With interest rates at an historic low after the Bank of England cut the base rate to 0.25% in an attempt to avoid a recession in the wake of Brexit, it is anticipated that a substantial number of people are going to look at moving savings out of the bank and into property in the hope of a better return on investment.
Whether you’re a professional landlord, an investor with a modest portfolio of residential properties, or you’re looking at your first ever buy-to-let property, the limited company strategy is one to consider.
The number of buy-to-let mortgage applications completed by limited companies in the first half of 2016 rose to 30% of all buy-to-let completions, up from 18% in the same period in 2015, giving you an idea of its increasing popularity.
Stamp duty
Prior to the 3% increase in stamp duty on second homes in April 2016, the number of approved buy-to-let mortgages shot up by a staggering 226% in March, from 8,800 the previous year to 28,700, as landlords rushed to borrow before the rate increase, according to figures from the Council of Mortgage Lenders.
The increase saw the stamp duty on a £250,000 buy-to-let property rise from £2,500 to £10,000, whilst for a £400,000 property it has more than doubled from £10,000 to £22,000. That said, at Together we saw a record month for buy-to-let lending in June; indicating that the increase has not deterred investors.
Mortgage tax relief
Although buying as a limited company won’t stop you being affected by the stamp duty increase, being a corporate entity will mean you avoid the impending changes to mortgage tax relief. Due to be phased in from April 2017, this is expected to price some landlords out of the buy-to-let market altogether.
Currently, landlords are able to claim the top rate tax relief of up to 45% on residential buy-to-let properties but this will soon be reduced to just 20%. The change will affect higher rate taxpayers who could see their profits plummet.
It’s been calculated that a landlord who pays the higher rate of tax, with a £150,000 buy-to-let mortgage on a property worth £200,000, charging £800 a month, would see annual profit drop from £2,160 to £960 a year.
If, however, you operate through a limited company, you are governed differently to landlords, and although you’ll pay different forms of taxes and fees, you will be exempt from these impending changes.
Managing your portfolio
All of these regulatory changes affecting landlords’ profitability suggest that now is a good time to explore managing your portfolio as a limited company.
Firstly, it’s important to stress that each investor is different and this is not a case of the more properties you have, the more financially beneficial it will be for you to become a limited company. Unfortunately, it’s not that straightforward and there are many dependable factors that will differ on a case by case basis. Financially savvy investors should be doing the maths according to their circumstances.
If you use the income from your buy-to-let portfolio as a regular wage or income source, then you will need to regularly remove profits from the company as dividends which, after the first £5,000, carry taxation each time you withdraw.
Typically, therefore, setting up a corporate entity to manage profits from property is more cost-effective if you’re planning to let money accumulate in the company until you need to remove a larger sum; for example, when you retire. Essentially, you would treat it more as a savings account rather than a current account. A tax-free dividend of up to £5,000 was introduced in April, however, that would allow you to draw out small amounts for emergencies.
If you already have properties and plan to set up as a limited company, the new company would effectively be buying the dwellings and so there are costs involved in this transition. You would incur capital gains tax and potentially even have to pay stamp duty at the new higher rate, but these are one-off fees, and it could still cost less to move property over in the long-run, particularly if you’re planning to expand your portfolio.
Dissolving a limited company
Another point to consider, although it may seem far in the future, is the cost of dissolving a limited company. Profit in the company is still taxable when you come to close and this can be in the form of dividend rates or capital gains tax. Again however, depending on your set-up and profit, this could still be more cost-effective.
You also need to bear in mind the costs of running a limited company. You will be required to file accounts with Companies House and audit the company, so you need to consider bookkeeping and accountancy fees.
Corporation tax
Following Brexit, the government announced plans to lower corporation tax to 15%, which is the tax you’d be required to pay as a corporate entity. This tax is lower than income tax, which you pay on profit you make as an individual, so there is a potential cost-saving to be made here.
Being a company will also give you access to a director’s loan, which allows you to remove funds that aren’t classified as a dividend or salary. These shouldn’t be taken out regularly and are taxed in quite a complex way, depending on your individual circumstances, so again you need to do your sums if you plan to do this, but they can be a good way to release cash flow. If you’re considering setting up a limited company speak to an accountant about the best route for your own particular situation.
Specialist finance
At Together, we provide specialist finance and lend to limited companies for buy-to-let, whereas many mainstream banks and lenders don’t always offer these mortgages. Our aim is to provide buy-to-let funding to those that may not fit the rigid criteria set by a mainstream lender, but are in a good position to invest in a buy-to-let.
This also includes those soon to retire and the self-employed. These demographics are often underserved, but shouldn’t be prevented from accessing finance for property investments.
Despite the regulatory changes, the buy-to-let market has proven resilient and this has been supported by the competitive rates on offer within the market as demand soars.
It is difficult to determine what impact the tax changes due in 2017 will have on the industry, but presently, the buy-to-let sector remains resilient and continues to be a popular investment option for both private investors and companies.
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Case study
One of Together’s clients needed to borrow £62,840 to pay off his existing mortgage on a buy-to-let property so he could get better terms, and be released from the additional security held.
As an aspiring property professional, he had set up a limited company in order to develop his interest into a business and to benefit from a more favourable tax position in the long-term, as he envisaged his portfolio growing significantly over time.
Together was able to provide the funding, with a loan-to-value of just 31%, and the loan was secured on the property to let – a two-bedroomed flat valued at £200,000 – meaning the client was able to discharge his previous debt, secure better terms and free up the extra security.
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For more information on buy-to-let visit www.togethermoney.com
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