Mortgage Interest Relief Print

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There is no tax relief on interest paid on a mortgage to purchase an individual’s home as this relief was withdrawn several years ago.

If you have sufficient savings on which you are currently taxed i.e. savings that are not sheltered within an ISA, or other tax exempt investment, consideration should be given to repaying all, or part of the mortgage, as it is likely that the interest paid will be greater than the net interest received on cash deposits. However certain other investments may well produce a greater net income/capital growth than the mortgage outlay, especially whilst mortgage interest rates remain at the low levels that have prevailed for the past few years. Financial advice should be sought before any action is taken.

Several lenders offer mortgage accounts which have the facility to set-off the credit balance of any savings, or other accounts against the debit balance on the mortgage, and only charge interest on the reduced balance. Although the individual does not receive any interest on his cash deposits, his interest payments are normally reduced by a greater amount than the interest he has foregone. In addition, if the borrower is a higher rate taxpayer, he saves the additional tax on this interest. Accordingly, this is a tax-efficient method of reducing mortgage interest payments without actually repaying any part of the mortgage.

Residential Rental Property

For years up to 2016/17 loan interest paid in respect of a residential property which is part of a person’s property rental business had been deductible in full against the rental income, and formed part of the expenses which are set against the rental income in arriving at the profit, or loss arising on that rental business.

From 6 April 2020 the method of relief for finance costs for residential property has changed, and loan interest relief is restricted to basic rate tax of 20% where the business is carried on by individuals except where the rented property meets all the criteria to be a furnished holiday letting. (See Section on Furnished Holiday Lettings.)

Instead of deducting the interest as an expense of the property business, the landlord receives a basic rate reduction for the finance costs which are deducted from the income tax liability. This tax reduction is calculated as 20% of the lower of:

The finance costs not deducted from income in the tax year (see table below regarding the transitional years);

The profits of the property business in the tax year, or

The total income (excluding savings income and dividend income) that exceeds the personal allowance (including blind person’s allowance where due) in the tax year.

Any excess finance costs may be carried forward to the following years where the tax reduction has been limited to 20% of the profits of the property business in that year. In cases where there are rental losses brought forward, these accumulated losses will be used in priority to the basic rate reduction for finance costs of the relevant year, as the basic rate reduction will only apply where there is an amount of rental income chargeable to tax.

Finance costs for these purposes include mortgage interest, interest on loans to buy furnishings, and fees incurred when taking out or repaying mortgages or loans. No relief has ever been available for capital repayments, and that remains unchanged.

The relief for corporate landlords, or individuals renting out commercial property is not affected by these changes.

For the years 2017/18 to 2019/20 there has been a transitional method of calculating the relief due for each year. Part of the relief due is allowed as a deduction, and the remaining part as a basic rate reduction, so that the position for the years 2016/17 to 2020/21 is as follows:

Year Proportion to be relieved by deduction Proportion to be relieved by basic rate deduction
2016/17 100% 0%
2017/18 75% 25%
2018/19 50% 50%
2019/20 25% 75%
2020/21 0% 100%

Example:

Daniella has a buy to let mortgage on a rental property. For 2021/22 her rental income after all expenses other than finance costs is £48,000. She pays finance costs of £24,000 and has a salary of £80,000 on which she pays PAYE tax of £24,460. Her tax liability for 2021/22 is calculated as follows:

£
Salary 80,000
Rental Income before finance costs 48,000
128,000
Less Personal Allowance 0
Taxable Income 128,000
Tax Thereon 37,700 @ 20% 7,540
90,300 @ 40% 36,120
43,660
Less balance Finance costs 24,000 @ 20% 4,800
38,860
Less tax deducted under PAYE 24,460
Tax payable on Rental income 14,400

Under the regime existing prior to April 2017 the tax payable on the rental income would have been £9,600 (i.e. £24,000 @ 40%). Instead, Daniella’s tax liability on the rental income is £14,400. In addition, her personal allowance would have been £10,570 which would have reduced her tax liability by £4,228 (£10,570 @ 40%). Accordingly, as a result of the change in loan interest relief on her buy-to-let mortgage her tax liability for 2021/22 has increased by a total of £9,028 (£14,400 – £9,600 + £4,228).

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