Meg Saksida explains that if landlords have undisclosed rental income, chances are it will be discovered.
Paying tax on income from rented residential and commercial property is a necessary part of running a property business. However, a new landlord could be forgiven for overlooking this in the hustle and bustle of purchasing the property, making any renovations/repairs essential for letting, negotiating agents fees, finding tenants, arranging insurance and so many other (e.g. fire and health and safety) obligations to deal with.
Even longstanding landlords may ‘forget’ to tax their properties. Depending on the number of properties let and any other income the taxpayer has, rental income could be taxed at up to 45% in the UK. In addition to this, measures have been introduced over the last few years that have further squeezed profits from the UK landlord such as the restriction of mortgage interest.
It might therefore be tempting for landlords to disregard the tax obligations, cross their fingers and hope that HMRC doesn’t find out.
What are the obligations?
If the landlord makes up to £1,000 income from property in the year, a property allowance £1,000 will be employed such that HMRC does not need to be informed of the rental income.
Where the landlord makes over £1,000 in rental income they must let HMRC know that they have a source of rental income. This needs to be done by 5 October after the tax year in which the income arises.
For example, if the landlord starts letting on 3 June 2020 (i.e. in the tax year 2020/21), HMRC will need to be made aware of the source of income by 5 October 2021. If rental profits are £2,500 or less, it should be possible for the tax to be collected by the taxpayer’s PAYE code if they are employed.
If the gross income is over £10,000, or the net income (after allowable expenses) is above £2,500, a self-assessment tax return will need to be completed. The return is due by 31 January in the year after the tax year the income arises (if the return is made electronically) or 31 October (for a paper return). Tax rates used for rental property will depend on the level of their other income, i.e. after the personal allowance (if available) at 20% for the first £37,500, 40% for the next £112,500, and 45% above that.
In addition to income tax, there may be National Insurance contributions (NICs) to pay. If the taxpayer’s main source of income is letting property, and they are running a property business renting out more than one property and buying properties for the intention to rent out, if the income from letting is more than £6,475, Class 2 NICs will be payable. Class 2 NICs are £3.05 per week for 2020/21.
How will HMRC know?
HMRC has various methods which they employ to uncover rental income that has not been disclosed to them.
Stamp duty land tax
When rental property is purchased in England or Northern Ireland, stamp duty land tax (SDLT) is chargeable (Scotland and Wales have their own equivalents). As this is an additional department of HMRC, records of property purchases will be held. These will show the address of the property, the purchase price, and how much SDLT was payable at the time of the purchase.
If a number of properties are being purchased by the same individual, HMRC will know that these are unlikely to all be lived in as the taxpayer’s main residence; so searching the SDLT records is a good, solid and reasonably easy method for HMRC to establish multiple ownership of property.
HM Land Registry
In addition to the SDLT paid, HMRC has communications with HM Land Registry, which holds records on virtually all properties and land sold in England and Wales since 1993. The information held includes the title register, whether it is freehold or leasehold, the current registered owner, the value paid for the land, details of any mortgage (including the name and address of the mortgage lender and whether this has been paid off), a plan of the land including rights of way etc. and other easements, and the flood risk indicator.
Again, multiple ownership of property where HMRC has not received an election for private residence relief (selecting which of more than one property to be used as one’s ‘main residence’ for private residence relief purposes) will create a red flag if no rental income has been declared from these numerous properties.
Some landlords prefer to use an estate agent to manage the property, rather than having to do this themselves. Estate agency businesses must comply with many regulations and are not allowed to carry out estate agency work if they are not registered with HMRC.
HMRC states that although estate agency businesses do not usually handle the funds used to buy a property (i.e. because they are ‘a main facilitator in a property sale and come into contact with both parties to the transaction at an early stage’), they are considered to be in an ideal position to identify suspicious activity.
Amongst other things, estate agents need to make a check on the financial background of their clients including proof of identity, income, previous addresses and so on. Failures to comply with HMRC’s requirements can be costly, as the online estate agent Purple Bricks found out recently, having been fined £266,793 for a failure to have the ‘correct policies, controls and procedures, conducting due diligence and timing of verification’. HMRC will therefore have all this information should they wish to consult it.
For protection against damage of the property or rent arrears, the landlord will commonly take a security deposit from the tenant at the beginning of the tenancy.
If the contract is an assured shorthold tenancy in England or Wales (which most are), the landlord must put the deposit into a government-approved tenancy deposit scheme. HMRC has access to these schemes and the information contained therein to confirm if a rental agreement has been entered into.
The electoral register shows all the names and addresses of individuals living in the UK who have registered to vote. Registration is made and linked with the address that they live in. Individuals are obliged to register to vote if they are asked to do so and meet the conditions, which are that they are 16 years old or over and either a British national or a national of the EU or a Commonwealth country. You must register twice if you have two homes.
Registration is made through the National Insurance number, so once again HMRC can very easily link individuals to property through the electoral register.
Finally, there may be contacts in the taxpayer’s life who know that the landlord is not paying tax on the rental income and wish to inform HMRC. These may be ex-spouses/partners, jealous ‘friends’, neighbours who know there are tenants rather than the owners living in the house or disgruntled current or ex-tenants.
This information is taken very seriously by HMRC, especially where evidence of the untaxed income is presented.
At the launch of its ‘let property scheme’ campaign , HMRC estimated that there were up to 1.5 million landlords in the UK that are either not declaring or under-declaring income from rental property, costing the UK around £500 million a year. In addition to ‘naming and shaming’ HMRC has the tools to find the income, to charge penalties of up to 100% and to recover the unpaid tax with interest.
If you have undisclosed property income, you should seriously consider using the HMRC’s ‘Let property scheme’ See my article on the workings of this scheme in May 2020’s Tax Insider.