The FHL tax regime was introduced in 1982–83, following a number of tax cases on whether short term holiday letting businesses should be treated as a trade for tax purposes. The resulting and current regime does not treat the activity as a trade, but favourable income/corporation tax and capital gains tax (“CGT”) rules apply, when compared to landlords of residential properties let to longer-term tenants. The tax benefits, provided the property qualifies, include:
- Buy to let landlords are restricted in respect of the tax deduction available for interest and finance costs, whereas FHL business are not. FHL owners can offset the cost of loan interest incurred in purchasing or renovating the property and get tax relief at their marginal rate of tax, which may be as high as 45%. Whereas a taxpayer renting out a property as a longer term let only receives a tax credit of 20% for the interest cost.
When the interest restriction was introduced, it was noted how many properties changed to being FHLs, whether or not they were in a tourist area.
- Plant and machinery capital allowances apply, rather than a relief only for replacement of domestic items.
- FHL profits are treated pensionable earnings for pension planning, whereas normal rental profits are not.
- Income from a FHL held jointly by a married couple or civil partners is not caught by the default 50:50 split for income tax purposes.
- The disposal of the FHL property qualifies as a business asset for CGT relief, meaning reliefs are available as trading assets, including holdover relief and Business Asset Disposal Relief (BADR) (10% tax rate on chargeable gains, subject to the £1million lifetime allowance).
Over recent years, holiday/tourist areas have seen a growth in second home ownership, some of which is used in short-term letting, impacting the property market in these regions. The generous tax rules encouraged many buy-to-let landlords to enter the sector and will satisfy the government’s aim of reducing short term lettings and release more properties either for long-term lettings or for sale. According to The Times the number of holiday lets has risen from 8,800 in 2017 to more than 89,000 last year, with 10% percent of all second homes in England now in the sector.
As part of his speech, The Chancellor stated ““I am concerned this tax regime is creating a distortion meaning there are not enough properties available for long term rental by local people. So, to make the tax system work better for local communities I am going to abolish the Furnished Holiday Lettings regime.”
The Office of Tax Simplification (now abolished) reported on property income in October 2022 recommending that the Government consider whether there is continuing benefit in having a separate tax regime for FHLs and other landlords.
The Chancellor in his Spring Budget announced that the Government will abolish the FHL regime with effect from April 2025, and listed this change as one of six tax simplifications measures. Although no comment has been made by the Labour Party, on the basis that there is likely to be a change of Government in the next 12 months, it is highly unlikely that the decision will be reversed.
Whilst we are awaiting draft legislation to confirm the implementation of this change, our understanding of the key impacts of the announcement is as follows:
- Interest costs will be restricted (not fully deductible) resulting in higher taxable profit. It may be possible to mitigate some of the tax cost, by looking at the ownership structure where there are joint owners, and one party is a lower rate taxpayer.
- Business asset disposal relief (BADR) is currently available on the disposal of some FHL qualifying properties as the disposal of all or part of a business. This means that a gain on the sale of qualifying property can be taxed at a lower rate of 10% rather than the residential rates, which are often paid at 28% (providing that the gain is covered by the taxpayer’s lifetime BADR limit, which is currently set at £1 million). The residential capital gains tax (CGT) rate is due to fall to 24% from 28% from 6 April 2024 for higher rate taxpayers. However, if you wish to get out of the market and sell the property, legislation will be included in Finance (No. 2) Bill 2024 for an anti-forestalling rule, to prevent access to capital gains tax reliefs (BADR) using unconditional contracts, to apply from 6 March 2024.
- Business asset rollover relief which means that a gain made on the sale of an FHL property can be deferred if the proceeds are reinvested in another qualifying asset (which could have been another FHL property or trading premises) will also be removed from 6 April 2025. For those who have previously rolled over any gains relating to the disposal of FHL’s, it remains to be seen as to whether HMRC will effectively allow the deferred gain to remain in place or if rules allowing the spreading of any tax will be introduced.
- Gift relief (also known as holdover relief), allowing a gain made on gifting an FHL property to be held over will also no longer be available from 6 April 2025. Currently a property which has been used as qualifying FHL throughout ownership can be gifted with no CGT payable. (Although this relief can’t be totally relied upon, if the property has not always been an FHL, and stamp duty land tax may apply if the property is mortgaged).
- Capital allowances are given to FHLs owners for fixtures, for example a heating system, as well as furniture within the property enabling the owner to claim 100% relief in the year of expense, will cease. Details of what will happen when the FHL rules are abolished how previously claimed allowances will be treated, are awaiting, to establish if there will be a clawback of some of the relief claimed, or any transitional rules spreading the cost.
We await the details, however, for many FHL owners the announcement will have a significant impact on the profitability of the business, and we will keep you updated as and when more information is released.
