To incorporate or not to incorporate: a guide for landlords

To incorporate or not to incorporate - that is truly the question. As a landlord, you’ll need to decide how you want to operate your property business: as a sole trader or through a limited company, usually known as incorporation

Unfortunately, we can’t hand you the right answer on a plate. We can, however, give you the pros and cons of incorporation so that you can make the best decision for your property finances. 

Benefits of incorporation

1. Mortgage interest can be offset

Since mortgage interest tax relief was removed in 2017, unincorporated landlords haven’t been able to offset their mortgage interest against their tax bill. But these rules don’t apply to limited companies, so incorporated landlords can offset their mortgage interest against the company’s profits. This can have a significant impact on your final tax bill when you consider yourself and the company together. 

2. Lower tax rates for corporations 

Incorporated landlords might be able to save on their tax bill, as Corporation Tax currently sits at a lower rate than Income Tax. This is good news if you’re planning to keep most of your property profits in the business, as you’ll only need to pay Income Tax and possibly also National Insurance on any salary you’re paid by the company. Plus, dividends can be a tax-efficient way to take small sums out of the business - check the current tax-free Dividend Allowance

3. Incorporation relief

When you set up a business, you’d normally have to pay Capital Gains Tax (CGT) and Stamp Duty Land Tax (SDLT) on any assets that you transfer from your individual ownership to the business. However, Incorporation Relief can help to defer the asset ‘gain’ to the business until the business disposes of the asset.

To qualify for Incorporation Relief, you’ll need to:

  • have previously been a sole trader or partnership
  • transfer the business and all its assets (except for cash) to the company
  • be paid for this transfer in shares in the new company

Note: This can be a little complicated for landlords as HMRC doesn’t automatically see owning properties as a business. To prove that your property portfolio is a business, you’ll generally need to have evidence of it being a “serious occupation” pursued with “continuity” in a “regular manner and on sound and recognised business principles” for profit. For landlords, evidence might include regular tasks like managing tenant questions, coordinating repairs and collecting rent. 

Take a real-life example: in a 2013 court case, it was ruled that, as the landlord worked on their property for about 20 hours per week, this was sufficient to count as a business.

4. Reduced tax on gains

If you decide to sell one of your incorporated property assets, you may be taxed at the lower Corporation Tax rate, rather than the CGT rate. 

5. Limited liability protection

Limited liability means that a limited company is considered a separate entity from its directors. This means that if the company is sued, company directors aren’t held personally responsible for their company’s debts and their personal assets cannot be seized to pay the debt.  

Drawbacks of incorporation

1. Extracting profit can be more expensive

If you’re planning to immediately use your property income for non-business purposes, incorporation might not be the right choice. It can be expensive to take profits from a limited company. You may be able to take a salary but over and above that you’ll have to take dividends. Either way, you’ll have to pay Income Tax on these as an individual, after the company has already paid Corporation Tax on this money. 

2. Fewer lending options and higher interest rates

Getting a mortgage as a limited company can be trickier than getting a mortgage as a sole trader. Instead of the mortgage lenders looking at the individual’s credit history, they are looking at the company’s credit history - and this might be almost non-existent if it’s a newly formed company. So it is likely that lenders will need details of the limited company director(s) as well as the company itself to guarantee the loan. 

This has some knock-on effects:

  • Fewer lending options - several lenders don’t offer to limited companies, so you may not have much choice of terms
  • Higher interest rates - buy-to-let mortgages for limited companies tend to have higher interest rates than buy-to-let personal mortgages
  • Higher arrangement fees - after all, there’s a lot more paperwork for the lender to complete
  • Higher solicitor’s fees - again, more paperwork involved for them

3. Difficulty transferring a personal mortgage

If you have a personal mortgage on a property you bought before you incorporated, you may not be able to easily transfer this to a limited company mortgage. It will likely depend on whether your lender offers limited company mortgages. If not, you might have to switch providers before your current deal has come to an end, potentially incurring a penalty fee. 

4. Stamp Duty Land Tax and Capital Gains Tax rates can be higher

When you incorporate, you’ll likely need to pay SDLT and CGT on the current market value of your property. While this can be deferred with Incorporation Relief, landlords with a smaller property portfolio might not qualify as a business, greatly increasing the up-front cost of transferring their assets to the company.  

Limited companies have to pay an additional 3% surcharge for SDLT on residential properties.

5. Increased admin responsibilities 

With incorporation comes more paperwork, as the company will have to file final accounts and a confirmation statement to Companies House and Company Tax Returns to HMRC every year, on top of a personal Self Assessment return for you if you take any money from the company. Plus, if the company pays you a salary (rather than just dividends), you’ll have to register the company as an employer and set up payroll, which involves reporting to HMRC every time you take a salary.

FreeAgent for Landlords

If you’re an unincorporated landlord who wants to simplify their financial admin, FreeAgent for Landlords is literally designed for you. With it, you can manage property income and expenses, keep on top of tax deadlines and submit Self Assessment directly to HMRC. 

You can get a 30-day free trial of FreeAgent for Landlords and try out property management without the fuss.

Disclaimer: The content included in this blog post is based on our understanding of tax law at the time of publication. It may be subject to change and may not be applicable to your circumstances, so should not be relied upon. You are responsible for complying with tax law and should seek independent advice if you require further information about the content included in this blog post. If you don't have an accountant, take a look at our directory to find a FreeAgent Practice Partner based in your local area.

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