Furnished Holiday Lets & Capital Allowances

Furnished Holiday Lets can potentially deliver significant tax advantages over Buy-To-Let properties and, in some instances, create tax-free income for many years. Read on, and we will explain how.

Due to changes in tax relief on interest payments for Buy-To-Lets (BTL), many are seeking ways to improve the tax efficiency of their investments. For those fortunate enough to own rental properties in areas with demand for short-term lets, there is a highly tax-efficient alternative to BTL – Furnished Holiday Lets (FHL).

FIRSTLY, WHAT IS A FURNISHED HOLIDAY LET?

Properties within the European Economic Area (EEA) that fulfil the criteria below are classed under UK taxation as Furnished Holiday Lets (FHL). The main points of the criteria are:

  • The property must be based in the EEA (see www.gov.uk/eu-eea for list of EEA countries)
  • Available for rent for at least 210 days per year.
  • Actually let for at least 105 days.
  • Generally short lets (less than 31 days).

Please note these are just the main criteria, detailed guidance is available on www.gov.uk.

Compared to Buy-To-Lets, successful FHLs are generally higher revenue/higher running cost investments. This article does not focus on the commercial elements of this business, but needless to say, like BTLs, with the right property in the right location (and with the right team around you), there are returns to be made. Of course, the inverse is also true. We are interested here in the tax benefits of this area of property over standard BTLs.

HERE ARE FOUR COMPELLING REASONS TO CONSIDER FURNISHED HOLIDAY LETS:

  1. Deductibility of mortgage interest: FHLs are exempt from the proposed changes to higher rate interest relief announced in the summer budget. Thus, FHLs will be able to deduct all their mortgage interest in the future.
  2. Entrepreneur’s relief (ER): When disposing of an FHL, ER can potentially be claimed, meaning you would only pay 10% capital gains tax instead of 18% or 28%!
  3. Business Property Relief (BPR): BPR is significant because it can exempt the FHL from inheritance tax, in full or in part.
  4. Capital Allowances (CA): A lesser-known fact is that an FHL can claim CAs on plant and machinery used within the business. This covers not only the loose plant (e.g., furniture, white goods, etc.) but also extends to the fixtures and integral features in the building (sanitary ware, electrics, heating, fitted carpets, etc.). BTLs now only get a deduction for renewals of loose items, and no relief is given for the first set of expenditures.

A claim for CAs on the fixtures in an FHL can take the profits out of tax altogether for many years. Because of the scale of the impact of this for investors, I have expanded further below.

CAs are a form of tax relief given on eligible items of plant and machinery. They reduce your taxable profit and therefore the amount of tax you pay. They are generally given over time in a similar way to depreciation in accounting. CAs can also be accelerated for recent expenditure using the Annual Investment Allowance (AIA) (currently £1m per annum). This means that in most cases, the tax relief is all given in year one rather than bit by bit over several years.

Coming back to our FHLs, a portion of the purchase price (plus legal fees and stamp duty) of a property is deemed to pay for the fixtures that were in place at the time. You are perfectly entitled to claim CAs on these, regardless of how long ago the purchase was. Unfortunately, valuing them in a way HMRC will accept is not straightforward! A claim on these items involves calculating an apportionment (effectively the ratio between the items you can and cannot claim) of the purchase price. Due to the cross-discipline nature of the work (tax and surveying), this requires a specialist firm like STax to undertake the work.

The size of these claims can vary greatly depending on the quality and quantity of items installed. However, for FHLs, they average around 25% of the purchase consideration, so £125k of allowances for a property which cost £500k. With the AIA at the elevated level it is, this can create a massive reduction in your taxable profit or even trigger a tax rebate in some cases.

Consider a successful FHL that yields 5% taxable profit before allowances. The property was purchased for £500k in 2015 and a CA survey was conducted and a claim for £125k of CAs was made.

On this basis no tax is payable until year six, by which time the FHL owner has netted £125k of income with no tax due. By comparison, if you hadn’t claimed Capital Allowances and were a 45% tax payer, you would have paid £56,250 on the profits over the same period, and that’s without factoring in the impact of the changes to mortgage interest.

The combination of availability of CAs, the exemption to the changes for higher rate tax relief on interest, and capital gains benefits make FHLs a very attractive alternative to BTLs, of course, you do need the right advisors in place.

STax are real estate tax advisors and accountants. We are a professional firm combining qualified tax advisers, accountants, and surveyors. We are perfectly positioned to provide a one-stop-shop for the tax and accounting needs of those involved in the property sector. We don’t charge for initial consultations and are happy to work on success-based fees to give you peace of mind.

So if you are looking to change your BTLs to FHLs, buy new FHLs, or simply make sure you are claiming everything you are entitled to on your real estate holdings, please contact us today for a free appraisal of your position. We charge our tax advisory fees as a percentage of the benefit we deliver, no tax benefit, no charge.

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