Sarah Bradford examines whether investing in a property for a student son or daughter to live in whilst at university is worthy of consideration.
Student accommodation is expensive, and your student offspring may pay between £150 and £225 a week, depending on where they study. Renting is, for the tenant anyway, dead money. However, a parent with the funds to invest may wish to consider purchasing a property for their student son or daughter to live in while at university, ideally with additional rooms that can be let to (well-chosen) friends. Low interest rates mean a low return on money sitting in savings accounts, but also low borrowing costs if a mortgage or other finance is needed to purchase a property.
Of course, there are costs to be incurred and, aside from the risk of damage arising from unruly student parties, no investment is risk-free. There are also tax implications, and these are explored below.
Buying the property
Stamp duty land tax (SDLT) is payable on the purchase of a property (in England, Wales and Northern Ireland; land and buildings transaction tax applies in Scotland, which is similar in some respects). The SDLT rate will depend on whether it is the main residence or a second or subsequent property. This will depend on whether the parent buys the property or whether it is the son or daughter’s property, albeit if funded with some help from mum or dad or perhaps grandparents, or with a parent acting a guarantor on the loan.
Assuming the parents decide to buy the property (and already have their own main residence), SDLT will be payable at the higher rates that apply to additional properties – set at 3% above the normal residential rates. If the son or daughter purchases the property and it is their first home, the normal residential rates apply.
Assuming the property costs £300,000, the SDLT ‘hit’ if the parents buy the property is £14,000 ((£125,000 @ 3%) + (£125,000 @ 5%) + (£50,000 @ 8%)). By contrast, if the son or daughter buys it as their main residence, the SDLT hit is £5,000 ((£125,000 @ 0%) + (£125,000 @ 2%) + (£50,000 @ 5%)) – a saving of £9,000.
If the property is jointly-owned, the SDLT rates will be calculated by reference to their respective shares.
Further, if the son or daughter has taken out a help-to-buy or a lifetime ISA, they may qualify for the government bonus on buying their first home.
If the student lives in the property as his or her main home and lets out rooms in the home, it is possible to take advantage of rent-a-room relief. Under the scheme, rental income of up to £7,500 a year can be received tax-free. The student does not have to own it – the parents could own the property and let to the student, who lets rooms to friends and uses the rent received to fund his or her living costs at university.
If the rental income is more than £7,500, the taxable profit can simply be calculated (under the rent-a-room scheme) by deducting £7,500 from the rental income. Alternatively, the profit can be worked out in the normal way – income less expenses – if this is more advantageous.
Rental profit – normal rules
If the parents receive the rental income, rent-a-room relief is not in point and rental profit must be computed in accordance with normal rules. However, from 2017/18, rental income of £1,000 a year can be ignored for tax purposes. Where higher, the landlord can, if beneficial, pay tax on the excess over £1,000 rather than working out the actual profit.
Where this is not beneficial (i.e. if expenses are more than £1,000, or if there is a loss) the profit or loss should be worked out in the normal way. Rental income is taxable income, and the landlord must pay tax on rental profits (income less deductible expenses). The tax bill is reduced by any basic rate tax reduction available in respect of interest and other finance costs.
Where more than one let property is owned by the same person or persons, the profits and losses are computed from the property portfolio as a whole (the property rental business) and tax is payable by reference to the overall profit. So, for example, assume the parents already own a buy-to-let property and buy an additional residential property to let to a student offspring and friends; the income and expenses of the two properties are pooled to work out the overall profit (or loss). From 2017/18, landlords can use the cash basis as long as rental income is not more than £150,000; or they can elect for the accruals basis.
If a loss is made, it can only be carried forward and set against future profits of the same rental income.
Relief for expenses
In calculating the taxable profit under the normal rules, relief is given for expenses associated with a let. In the main, relief is given by deduction, and to the extent that the expense is a revenue expense, the costs are simply deducted in working out the profit.
Relief is also available for expenses incurred in getting the property ready to rent, as long as they were incurred not more than seven years before the time at which the property was first let and are of a type that would be deductible if incurred while the property was let. Pre-letting expenses are treated as incurred on the first day of letting and deducted in computing the rental property first ready to let.
The list of potentially deductible expenses is varied, although typical expenses include:
- accountants’ fees;
- utility bills;
- buildings and contents insurance;
- cleaning costs;
- costs of a gardener;
- telephone calls;
- stationery and postage;
- ground rent and service charges; and
- council tax (if met by the landlord).
The way in which relief is given for interest and other finance costs is changing, moving from a system under which relief is given as a deduction in computing profits to one where relief is given as a basic rate tax reduction. For landlords paying tax at a rate above the basic rate, this will reduce the relief given.
The change is being phased in, with 2017/18 being the first of three transitional years. In 2017/18, relief for 75% of interest costs is given by deduction, and the remaining 25% as a basic rate tax reduction. For 2018/19, the split is 50:50, and in 2019/20, it is 25% by deduction and the remaining 75% as a basic rate tax reduction. Relief as a basic rate tax reduction broadly means multiplying the allowable interest for the year by the basic rate of tax (currently 20%) and deducting the result from tax bill worked out without taking any account of the interest.
Selling the property
Once the son or daughter has finished university, it may be necessary or desirable to sell the property – either to provide a home in another location when the child starts work, or perhaps to provide a student property for a younger sibling. If the parents own the property, any gain will be taxable, although if they have only owned the property for only three or four years, possibly all the gain might be sheltered by the annual exempt amount, particularly if the property is owned jointly by both parents, or (say) by parents and grandparents.
If the child owns the property and lived in it as his or her main residence, the gain will (to the extent that the property is a main residence) be exempt. Where part of the property is let, the taxable gain will be reduced by lettings relief. Again, the annual exempt amount will (to the extent not used elsewhere) be available to shelter any taxable gain.
Buying a property for a student son or daughter to live in whilst at university and, maybe let some rooms to friends, can be beneficial. The rent saved on paying for a room in halls may, in itself, provide a worthwhile return on the investment. Letting a room to a friend opens up the possibility to receive tax-free rental income up the rent-a-room limit to fund university living costs, without further help from the bank of mum and dad!
This article was first printed in Property Tax Insider in September 2017.