23 February 2021
As UK staycations look set to boom, furnished holiday lettings (FHL) offer investors a number of attractive tax benefits, including mortgage interest tax relief, capital gains tax reliefs that are available for traders, such as business asset disposal relief (formerly entrepreneurs’ relief), and profits which count as earnings for pension purposes. Commonly overlooked by FHL landlords, capital allowances provide tax relief for expenditure on certain capital assets used in holiday rental businesses.
For tax purposes, FHLs are a separate category of property that stand apart from other residential and commercial properties. FHL businesses are treated as trades by HMRC, giving rise to the tax benefits identified above. For a letting business to qualify as an FHL business certain conditions must be met including obvious trading hallmarks, such as an intention to make a profit from letting one or more properties which are furnished to an appropriate level. In addition, there are occupancy conditions to fulfil (pattern of occupation, availability condition and letting condition). None of these requirements and conditions are particularly onerous or challenging, but investors should be aware of them before investing and should check that they are likely to meet them before listing their property for rent.
FHLs are often mistakenly thought of in the same way as other residential rental dwellings (which attract fewer tax reliefs). Capital allowances are sometimes simply dismissed or not considered by owners. These allowances could be HMRC’s free gift for many FHL investors. However, much like flat-pack furniture, it’s one you assemble yourself by establishing and making a claim for capital allowances.
The capital allowances rules allow for certain assets used and certain fixtures inherent in the property (known as plant and machinery) to benefit from tax relief, including assets such as heating, lighting, ventilation, data and power installations, amongst others. This means acquiring an FHL could see between 20 per cent and 25 per cent of the purchase price qualifying for capital allowances, providing a significant tax benefit.
This can be particularly lucrative for higher and additional rate taxpayers, who can set the relief against their rental profits at their highest marginal rate of tax - 40 per cent or 45 per cent. While capital allowances generally accrue over a number of years, it should be kept in mind that the annual investment allowance, which provides 100 per cent tax relief in the year of expenditure, will generally be available, meaning full relief can be taken upfront and tax liabilities significantly reduced.
If capital allowances have not been claimed in the past, all is not lost. Claiming capital allowances now on historical expenditure could provide a windfall for existing FHL investors. A recently completed claim realised an unexpected £75,000 tax windfall for a client who had purchased his property in 2018 and was unaware that capital allowances were available. The client is now looking at a further purchase and, having had his eyes opened to the benefit, views capital allowances as crucial to the investment case.
Any downsides? Not really, other than that losses from a trade of letting furnished holiday accommodation cannot be set against a taxpayer’s general income. Such losses may only be carried forward against future profits from the same FHL business, which restricts flexibility.
With the UK holiday letting market booming widely anticipating a post lockdown boom and developers unable to build properties quickly enough, FHL businesses could be in for a bumper year, with a no-strings bonus from HMRC. A place to go on holiday that also provides tax relief…what could be better than that?