Forming a limited liability partnership is a popular tax planning strategy for landlords – but there must be a sound commercial reason for doing so.
Making the move to avoid tax is not enough because of strict General Anti Avoidance Rules (GAAR) that let HM Revenue & Customs unwind the changes to reclaim wrongly claimed tax reliefs.
Timing is also important.
Many landlords look at their future tax liabilities as Mortgage Interest Relief is phased down from 40% to 20% by April 2020 and jump on the LLP band wagon to save money.
But the danger is they could miss out on one of the biggest tax hacks of all – offsetting personal property business losses.
Missing out on losses
Property businesses have two types of losses – capital and revenue.
Capital losses arise when an owner loses control of a property – for example, selling or gifting their share of ownership.
Revenue losses are incurred during the day-to-day running of a property business. They include repairs and refurbishments, which can amount to tens of thousands of pounds.
These losses are tax reducers that are carried forward against future profits to slash the amount of tax due.
For a property costing £25,000 to refurbish to generate a rent of £8,000 a year, this can mean a loss of £17,000 in year one rolling over to offset against rents in year two and so on until every penny of the loss is exhausted.
Unforeseen tax consequences
Switching from a personal to an LLP property business means these losses are held on the books for a couple of years and then disappear when the personal property business is no longer.
Tax rules are clear that personal losses cannot be transferred into another property business.
The technical guidance rests in the HMRC Property Income Manual (PIM) in the section labelled PIM1030.
The guidance explains HMRC’s thinking: “Each partner’s share of the profits or losses arising from the partnership rental business can’t be added to or subtracted from any individual rental business profits or losses.”
The moral is it’s no good shining a light on one corner of a property business to save tax as other problems with unforeseen financial consequences could be lurking in the shadows.