The tax benefits of setting up a property company

A property company as a tax umbrella

When Mary Jones (not her real name) was investigating property investment, she had a few concerns. Her major worry was that, as an additional-rate taxpayer, a big portion of her income would be swallowed up by tax at 45%. But she was also concerned about how much inheritance tax (IHT) she would have to pay when it came to passing on her expanding property investment portfolio (she already had big plans to build a sizeable passive income to boost her pension fund).

Mary did the right thing by thinking about all this as early as possible, and, by talking to experts, realised that in her situation the best way to invest in property was by setting up a property company to do so. In fact, the tax benefits went even further than income tax and IHT: she found out that she’d also gain on the way that capital gains are treated in a company set up for property investment.

How much tax do you pay on an investment property?

If you invest personally, the tax you pay on rental income and when you sell your property will depend on your personal situation. In Mary’s case, she’d find herself paying income tax on the rental income at 45%. And were she to sell her investment property, she’d pay capital gains tax at 28%.

(The exact tax rates on property investment depend entirely upon the investor’s own personal situation, but capital gains tax is liable at either 18% or 28%.)

How much tax would you pay by setting up a property company?

By setting up a property company, especially as someone paying tax at higher rates, Mary is now benefitting from lower tax rates.

For example, in the property company, any rental income is taxed at 20% and this means there is more profit available to be reinvested in other properties. For Mary, this makes a big difference: she wants to grow her property portfolio as quickly as possible and will save 25% on income tax. That’s a massive boost to her investment capability.

If Mary decides she needs to sell any of her expanding number of properties, by setting up a property company and holding her properties in it she’ll only pay corporation tax at 20% instead of capital gains tax at 28%: again retaining more money for reinvestment. And this benefit gets even better by utilising business asset rollover relief where possible.

The IHT savings made by setting up a property company

Unless Mary gifted her properties to her children at least seven years before her death, and she held those properties personally, there would be a potential IHT liability as the properties would be considered to be part of Mary’s estate.

By setting up a property company, Mary opened the possibility of making her children shareholders. This means that they could participate in the profits of Mary’s property investments while she still lives (with the first £5,000 of dividend income free of income tax). In addition, as the value of the properties held rose, so too would the value of the shares.

Importantly, any tax liability would be treated as personal taxes and paid at the children’s individual rates rather than the 40% standard IHT charge.

For Mary, setting up a property company was the best property investment strategy. She doesn’t expect to need the income in the short-term and wants to grow her portfolio tax efficiently. She’ll also benefit from lower CGT rates and ensure that her children benefit from personal tax rates rather than suffer 40% IHT.

Next time, we’ll look at setting up a limited company to buy property.

Live with passion,

Brett Alegre-Wood

Other Articles in the Series:

Tax benefits of setting up a property company  Setting up a limited company to buy property  Cost associated with setting up a limited company  Setting up a limited company to buy property in the UK



Brett Alegre-Wood
May 26, 2016

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