Even in today’s volatile economic climate, a growing number of people are choosing not to invest in stocks and shares but are investing in property instead. But just as the value of stocks and shares can go up and down, a property investor may also make a profit from renting a property one year and a loss the next.
This article looks at the nature of property business losses and what can be done to relieve them.
Rental income from investment property (but not income from furnished holiday lettings (see below)), is technically treated by HM Revenue & Customs (HMRC) as investment income and not as earnings from a trade.
However, losses from a property business are generally calculated in the same way as profits from a trade. A loss on a particular property will automatically be set against profits from any other properties in the same period and in the same property business (that is, in the UK property business if the loss-making property is in the UK, or in the overseas property business if the loss-making property is overseas).
In simple terms, this means that the profits and losses of all UK property businesses are pooled together and the profits and losses of all overseas properties are pooled together separately, thus creating two separate and distinct pools.
When the profits and losses from the UK business are added up, if the overall result is a loss, loss relief will be due accordingly on that part of the business. The same applies to the overseas property business but the two pools are kept separate. Note that losses from furnished holiday lettings are treated differently (see below).
James owns a house in France, which he let for five weeks in 2009/10. For that year he made a net loss after allowable expenses on that property of £3,500. He also owns a flat in London which was let for the whole year and generated a net profit of £6,000 for 2009/10.
The loss from the French property of £3,500 cannot be set against the profit of £6,000 from the London flat as it arose on an overseas property and must be kept separate. It can however be carried forward to set against future letting profits from overseas properties.
UK Property Business Losses
Broadly, if a person makes an overall loss from a UK property business in a tax year, the loss can be relieved in one or more of the following ways:
- by being carried forward to set against future profits of the same UK property business;
- by being set against the person's other (‘general’) income for the same year; or
- if it arises after the UK property business has ceased, by being set against the person's general income and, in some cases, against chargeable gains.
Unless a claim is otherwise made, a UK or overseas property business loss will automatically be carried forward to be set against future profits of the same business.
The loss will subsequently be deducted from any profits made in the next tax year. If there are no profits in that year, or the profits are not big enough to absorb all the loss, the unrelieved amount will continue to be carried forward indefinitely. The loss can therefore be relieved over the course of several years, being set against available profits as and when they arise.
Matthew owns and lets several properties in the UK and in France. Recent results for each property rental business are as follows:
UK Property Business
Overseas Property Business
The amount of carry-forward loss relief from the UK property business will be as follows:
Year Profit or (Loss) Loss b/fwd Chargeable for Year Loss c/fwd
2007-08 (20,000) - - (20,000)
2008-09 16,000 (20,000) - (4,000)
2009-10 (5,000) (4,000) - (9,000)
2010-11 18,000 (9,000) 9,000 -
The carry-forward loss relief in the overseas property business is as follows:
Year Profit or (Loss) Loss b/fwd Chargeable for Year Loss c/fwd
2007-08 22,000 - 22,000 -
2008-09 (12,000) - - (12,000)
2009-10 (1,000) (12,000) - (13,000)
2010-11 15,000 (13,000) 2,000 -
Relief Against General Income
In some circumstances, it may be possible to claim to have a UK property business loss or an overseas property business loss set against the taxpayer’s income from other sources (for example, against employment income) in the loss-making year, the following year, or partly in both.
Broadly, the relief will only be available if the business has excessive capital allowances available, or where the property business is concerned with agricultural property.
This relief may be available where a UK property business permanently ceases but a payment is subsequently made, or a debt written off, in connection with the former property business. Broadly, the relief applies where, within seven years of the business ceasing, the taxpayer makes a ‘qualifying payment’ or there is a ‘qualifying event’ in connection with the ceased business.
Such payments or events include remedying defective work done or defective services supplied; legal expenses incurred in connection with such defects; or insuring against such liabilities. ‘Qualifying events’ generally relate to unpaid debts that were taken into account in calculating the profits or losses of the property business.
Kate permanently ceased to carry on her UK property business on 25 July 2003.
In February 2010 she makes a payment of £10,000 in respect of defective services in 2001-02 in relation to a property she let out as part of the business. Kate has unpaid expenses of £5,000 that were deducted in calculating the profits of the business for 2003–04.
Kate has taxable employment income of £30,000 in 2009-10.
If Kate makes a claim by 31 January 2012, £10,000 less £5,000, i.e. £5,000, will be set against her 2009–10 income from employment, reducing it to £25,000.
Relief Against Chargeable Gains
If a taxpayer cannot get full (or any) relief under the normal post-cessation relief rules for UK property businesses, above, because they do not have other income against which it may be offset, it may be possible to treat the unrelieved amount as an allowable loss for capital gains tax (CGT) purposes.
This would enable the claimant to deduct the loss from any capital gains made, thus reducing potential liability to CGT. A claim for this must be made by the first anniversary of the normal self-assessment filing date for the year in which the relief is due (i.e. for the year in which the payment is made or the debt is released or, for bad debts, for the year in which it proves to be bad or any later tax year that begins within seven years from the date of cessation).
Provided there has been the maximum set-off possible for the year under the normal post-cessation rules for income tax, the unrelieved amount is treated as an allowable loss for CGT purposes, accruing in the same year.
The amount that can be treated in this way is limited to the amount for which the person would be chargeable to CGT for the year, ignoring:
- any allowable losses brought forward;
- the annual exemption; and
- any other post-cessation property business (or trading) amounts treated as allowable losses for CGT purposes for the year.
Furnished Holiday Lettings – Proposed Restrictions
Furnished holiday lettings currently enjoy special status allowing them to be treated as a trade for certain tax purposes (see The Future of Furnished Holiday Lettings by Sarah Bradford (Property Tax Insider, issue 1, September 2010).
One of the main benefits of the existing rules for furnished holiday lettings is the more generous trading loss relief rules (as opposed to the stricter provisions applying under the property income rules outlined in the previous paragraphs).
Broadly, the legislation currently allows any losses from furnished holiday lettings to be set against other income and gains. As mentioned above, under the property income rules, except in limited circumstances, losses are usually set against other profits from the property income business to which they relate.
The draft Finance Bill 2011 contains legislation which will severely restrict loss relief available for furnished holiday lettings. The legislation, which, if passed by parliament, will take effect from 2011-12 onwards, proposes that:
- losses from a UK furnished holiday lettings business would only be available to set against profits from a UK furnished holiday lettings business; and
- losses from an EEA qualifying furnished holiday lettings business (i.e. furnished holiday lettings income from properties situated overseas but within the European Economic Area) would only be available to set against profits from an EEA furnished holiday lettings business.
This means that not only will losses from furnished holiday lettings not be available to set against profits from other types of lettings, but also that losses from UK holiday lets could not be set against profits from a let in the EEA.
Landlords with unused furnished holiday lettings losses should where possible seek to use these before the new rules take effect in April 2011, setting them against other income and gains whilst it is still possible to do so.
By Sarah Laing