Since 2020/21, the deduction of mortgage interest and other finance costs (e.g. arrangement fees) from residential rents is completely blocked for tax purposes for individual landlords (not companies). Instead, the landlord receives tax relief at the basic rate (20%) as a tax credit against the tax due on the property income.
With interest rates rising, as well as the cost of repairs, the amount of interest paid in a year may be greater than the net profit from the property. This is how you get tax relief for that excess interest.
The amount of tax credit is calculated as 20% of the lowest of:
A. finance costs for the year, plus any unused interest brought forward from an earlier year;
B. property profits for the year, before finance costs;
C. landlord’s total income (ignoring any savings or dividend income) that exceeds the Personal Allowance of £12,570.
If the expenditure on the property business (excluding interest) is greater than the income, meaning a loss has been made, all of the interest is carried forward to the next tax year. There is no limit on how many years the unrelieved finance costs can be carried forward. The property loss is also carried forward to be used against the next available profits from the property letting business.
Bob, a builder, has rental profits in 2022/23 of £16,500 before paying interest of £6,000. In the previous year, due to a large amount of repair work, he made a loss of £1,500 from his property business and couldn’t relieve the interest of £4,000 paid in that year. His trading profits from his building business are £40,000.
Bob’s tax credit is calculated as 20% of the lowest of:
• Finance costs = £10,000 (4,000 + 6,000)
• Property profits = £15,000 (16,500 -1,500)
• Total income = £42,430 (40,000 + 15,000 – 12,570)
His tax credit is £10,000 x 20% = £2,000.