Deciding whether to transfer your properties into a limited company is not a simple answer, it depends on your situation.
First of all, if you or your spouse are not higher rate taxpayers then there’s potentially no tax benefit to owning your property in a limited company unless it is part of your Inheritance Tax Planning.
One thing is for sure, it is potentially very costly to transfer the property back from a limited company to yourself personally! So, you need to make this decision very carefully!
When is the right time for you to transfer properties into a limited company?
The main upside of transferring your property into a Limited Company is the 19% Corporation Tax Rate, but if you’re only paying Tax at 20% anyway then there’s no real benefit, as there is no National Insurance payable on Property Income.
Why shouldn’t you transfer properties into a limited company?
Your company is buying the property from you, so it would have to pay stamp duty! For property over £250k, you’d be paying over £10k for each property!
Capital Gains Tax
Again, you’re selling your property to your limited company, so you’d have to pay Capital Gains Tax on the gain you’ve made. Unfortunately, you have to sell it at Market Rate! Capital Gains Tax is 28% for higher rate taxpayers! So here your only saving grace is if you can claim what’s called incorporation relief (under s162 Taxation and Chargeable Gains Act 1992). Here your property is essentially being considered by HMRC as a business rather than an investment. This means you won’t pay Capital Gains Tax until the property is then actually sold to someone else. To qualify for Incorporation Relief you’d have to be able to fulfil the following:
You are involved in your property management for at least 20 hours per week. You select the tenants yourself, collect the rent yourself, do minor maintenance work yourself, show most of your income comes from property.
However – don’t quit just yet!
The money you lose out on Stamp Duty Tax and (if you have to pay it) Capital Gains Tax could be sweetened with this:
When you transfer your property into your limited company, any equity you own in the property will go to your Directors’ Loan (if you don’t know what this is, it’s just an amount the company owes you personally). You can draw this money from your company TAX-FREE.
So let’s say on a £200k property you had to pay £10k stamp duty and £28k capital gains tax (you bought it years ago for £100k and so paid 28% on your gain), and you own £80k equity in the property. The amount of Tax-Free Income you’d amass in your Directors’ Loan is £80k. If you were a higher rate taxpayer paying 40% in tax, that’s £32k of potential tax savings.
This almost negates the stamp duty and capital gains tax payment. And, if you didn’t have to pay capital gains tax then you’ve actually saved a lot of money in tax by transferring it over!
So, if you’re a higher rate taxpayer, and you’ve worked out the implications of the 3 above points, and you’re still considering transferring your property to a limited company, read on!
Is it better to transfer property into a limited company if you are a higher rate tax payer?
If you’re a higher rate taxpayer and you own for example 5 buy to let properties, then having them in a limited company is, in theory, advantageous as you’d be paying corporation tax at 19% (2021) on the property income rather than at the higher rate. The company owns the property and so the property income is classed a revenue – the property costs are deducted from this revenue to get the net profit on which the company is taxed at 19%.
The tricky bit is when you personally want to use that property income as it actually belongs to the limited company when you want to actually use that property income (to live on or spend on holidays etc), then you pay tax AGAIN (see the next heading for this)!!
What all this means for you: is that if you don’t ever take out the money from the limited company (in other words you’re focusing on building your portfolio rather than using the income) and you constantly re-invest the property income back into buying more property, then a limited company is a VERY good way to save tax, as you’d always pay tax at the corporation tax rate (19% in 2021) rather than at your higher rate tax band (40% or 45% in 2021), that’s less than half the tax! – also, if your wife or children are in the lower rate tax band then you can pay them a salary through the company, and that way the property income would be taken out in a tax-efficient way. If they are not even utilising their Personal Allowance then that way you’re not paying any tax on that property income!
So essentially if you’re always re-investing your property income into buying more property and never want to take the money out, and you’re a higher rate taxpayer, then do it in a limited company because you’d just pay tax at 19% (2021) rather than at 40% or 45% (2021).
The problem is though….when does all this re-investing end? When do you want to start enjoying your hard-earned property income? That’s in the next section.
What is a drawback of transferring your property to a limited company?
The problem is that the company pays corporation tax at 19% (2021) on the profits made by the properties (the property income after the property expenses), but the money still belongs to the company – if you want to personally take the money out so you can use it, you’d have to pay tax AGAIN to draw the money out!!! (Unless you can utilise your spouse or children’s lower rate tax bands – see the end of the previous heading).
After paying Corporation Tax, as a higher rate taxpayer, the tax you pay again is Dividend Tax (as it’d always be lower than your higher rate tax band), the first £2k is tax-free, and then the next £150k is at 32.5%! So you’re paying Tax essentially at 19% PLUS 32.5%! On earnings after £150k the dividend tax rate is 38.1%.
What this means for you: If you ever want to actually use the money earned from the properties, you will lose masses of money in tax! (19% corporation tax PLUS the dividend tax above).
Our first conclusion, therefore, is if you always want to re-invest your money into more property, AND you’re a higher rate taxpayer (or would become a higher rate taxpayer in the near future), it’s probably best to use a limited company as you’d always pay tax on 19% (2021) rather than 40% or 45% (2021).
The big thing to think about though is when, realistically, you would want to start enjoying your money. You may have a really growth-focused mindset now, but in 5-10 years’ time want to enjoy your property income, you’d have to pay Tax twice. Even if later in life you are not a higher rate taxpayer you would still end up paying corporation tax and then dividend tax at the lower rate tax band after your personal allowance.
One thing is for sure, it is potentially HIGHLY disadvantageous (in terms of tax) to transfer the property back from a limited company to yourself personally! So you need to make this decision very carefully.
This is why it really depends on your situation because it depends on how much you’d earn later in life, how much money you’d want to draw from the company to enjoy, if you have a spouse or kids that work and if you want to give them some of the property income profits.
We have focused on this point as it’s by far the most important. It’s the difference between paying tax at 19% all the way up to 57.1%!
Another tax benefit
Currently (2021), limited companies can deduct the mortgage interest from their profits, so this would reduce your tax bill.
Previously we concluded the only real reason to run a limited company for your properties was if you wanted to constantly reinvest your profits into buying more properties. If you have this growth-only mindset then you’re probably going to have interest-only mortgages. This means your Tax saving will be on a significant proportion of your expenses. This point should not be taken lightly.
Other very important (negative) things to consider when transferring property to a limited company
Expensive Mortgages & Finance Charges:
Mortgages for Limited Companies tend to be more expensive; this can be a more significant factor than you may think.
You would have to pay finance charges to mortgage providers as the mortgage would now have to be in a different name.
You’d also probably have to pay early repayment charges on mortgages you hold at the moment.
The property will be owned by the company, not you. Even if you own 100% of the company, if something went wrong, for example, the company was being sued, then it is extremely difficult to get your property out. We would advise seeking legal advice before taking the leap.
Downsides to selling the property:
If you ever want to sell the property, the profits of the proceeds would go into the company. It would pay corporation tax on this (19% in 2021) and then if you want this money you’d then have to pay dividend tax or income tax as well!
Running a limited company has extra admin costs such as higher Accountant fees (as you’re filing to Companies House as well as other compliance activities).
What we’ve concluded is that if you’re not a higher rate taxpayer (and won’t be one in the future) there’s no real benefit at all to transferring your property into a limited company. You’d just get the negatives.
The negatives are quite substantial, you’d pay huge amounts of Capital Gains Tax (if you’re deemed by HMRC as an investor rather than a business – read the heading called “Why shouldn’t you transfer properties into a limited company”) and Stamp Duty (something like over £10k on each property over £250k – in 2021) when your company buys the property from you. – However, the heading also discussed that by transferring your property into a limited company the equity you own in the property would become Tax-Free Income in the form of a directors loan (money the company owes you personally), and if you’re a higher rate taxpayer the tax saving from this could almost negate the stamp duty and capital gains tax.
Other negatives are that the company owns the property, there are higher taxes to pay if you sell the property that’s owned by a limited company, and there are potentially higher mortgage rates to pay for property owned by a limited company.
So let’s suppose you’re past all the above and are ok with it all – then the biggest thing to consider is how you want to use your property income. The way you use your property income makes all the difference.
We concluded (see the heading called “First Conclusion”) that the real tax benefit in transferring your property to a limited company only comes when you constantly re-invest the property income back into buying more properties. This is because you’d only pay tax at 19% (corporation tax) rather than paying tax at your higher rate tax band (40% or 45% in 2021). However, if you want to take money out of the business, you’d pay the corporation tax at 19% PLUS dividend tax at 32.5% – that’s 51.5% or 57.1%!! See the section above called “first conclusion” to see how to plan around this. One thing is for sure, it could be very bad for you to transfer the property back into your own name again, so consider this decision carefully.
This article is to help give you an understanding of owning property in your own name or transferring to a limited company. You must speak to an advisor before implementing any of the information.
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