‘Rental Tax’ and Section 24: The Biggest Challenges Facing Landlords in 2023

Understanding the Regulatory Landscape Created by Section 24

Being a landlord in the UK has become increasingly challenging in recent years, particularly following the implementation of Section 24 of the Finance (No. 2) Act 2015.  

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This legislation has brought about significant changes to the way landlords can claim tax relief on their mortgage interest payments, leading to what some have referred to as the 'rental tax.'  

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The History of Section 24

Section 24 was introduced by prime minister David Cameron and chancellor George Osbourne as part of the 2015 Finance Act.

It was part of a wider set of measures intended to keep home ownership levels high and slow the growth of the private rental sector (PRS). It was hoped that the changes would reduce demand from buy-to-let landlords and help first time buyers get on the property ladder.

The legislation was introduced gradually over four fiscal years between 2017 and 2021. Each year, a quarter more of a landlords’ finance costs was made non-deductible, starting with 25% in 2017-18, before fully coming into effect in 2020/21.

HMRC also phased in the basic rate relief tax reduction at the same time so there is a slight saving grace still that a 20% tax reduction is available based on the lower of;

• the finance costs (including any brought forward finance costs not used in previous years);
• the property business profits (after using brought forward losses);
• and adjusted income (income that exceeds the personal allowance but after losses and reliefs and excluding dividends and savings income).

The tax reduction cannot, however, be used to create a repayment for the landlord.  If the finance costs cannot be used in that particular year, they can be carried forward for use in future years.  Please speak to your tax adviser to ensure that the tax deduction is calculated correctly.

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How Does Section 24 Work?  

Section 24 removes a landlord’s right to deduct the majority of their finance costs, including mortgage interest and arrangement fees, from their rental income before calculating their tax liability.

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This means landlords must pay tax on the gross income they earn from a rental property, which often results in entering a higher tax bracket, and this one change can make or break a previously profitable portfolio.

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As a result, many landlords have been pushing up rents in an attempt offset the difference in tax paid. This is how we arrive at the so-called Tenant Tax.  

Ultimately, it is tenants that are now feeling the pinch with soaring rents.

In this blog post, we will delve into the biggest challenges relating to Section 24 in 2023, as well as exploring potential strategies to navigate these hurdles.

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Reduced Tax Relief on Mortgage Interest Payments

Section 24 has phased out the ability for landlords to deduct their mortgage interest payments in full from their rental income. Instead, landlords receive a basic rate tax reduction of 20% on their mortgage interest costs.  

This reduction has posed financial challenges for landlords, especially those with significant mortgage debt or who were in higher tax brackets. Many landlords have experienced an increase in their tax liability, leading to a decrease in rental profits.

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Impact on Cash Flow and Profitability

The reduced tax relief on mortgage interest payments has significantly impacted the cash flow and profitability of landlords.  

With higher tax bills and a decrease in net income, landlords have found it more challenging to cover their mortgage payments, maintenance costs, and other expenses associated with managing rental properties. This situation is particularly burdensome for landlords who heavily rely on rental income as their primary source of livelihood.

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Higher Tax Brackets

Another consequence of Section 24 is that landlords are now more likely to be pushed into higher tax brackets due to the way rental income is calculated.  

As mortgage interest payments can no longer be deducted in full, rental income appears higher on tax returns, potentially pushing landlords into higher tax bands.  

This can lead to a significant increase in the amount of tax owed, further squeezing landlords' profits.

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Potential Rent Increases

To cope with the financial strain caused by Section 24, some landlords have resorted to increasing rents. However, this strategy comes with its own set of challenges.  

Rent increases can affect tenants' affordability, potentially leading to increased rental arrears, higher tenant turnover, and difficulties in finding new tenants.  

Striking a balance between maximizing rental income and maintaining good tenant relations is a delicate task that landlords must navigate.

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Consideration of Alternative Investment Strategies

Given the challenges posed by Section 24, some landlords have explored alternative investment strategies.  

These may include diversifying their portfolios by investing in different types of properties, exploring investment opportunities in other regions with potentially lower tax burdens, or even considering different investment avenues altogether.  

However, it's essential to thoroughly research and seek professional advice before making any significant changes to investment strategies.

GOW offers support and advice concerning property tax. Contact us today for a free consultation with one of our expert accountants, and we can help you with your strategy.  

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Summary

Section 24 and the implementation of the 'rental tax' have undoubtedly presented significant challenges for landlords in the UK. The reduced tax relief on mortgage interest payments, impact on cash flow and profitability, higher tax brackets, potential rent increases, and the need to consider alternative investment strategies are all key concerns for landlords in 2023.  

Navigating these challenges requires careful financial planning, staying informed about changes in legislation, and seeking professional advice from tax experts and property advisors.  

By proactively addressing these challenges, landlords can strive to maintain a sustainable rental business in an evolving regulatory landscape.

Set Yourself up for Success   

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Book your 30 minute discovery call  today— enjoy a relaxed, no-obligation chat with one of our qualified accounting advisors. We can assess your situation and determine how to best serve and add value to your business.    

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