There may currently be less enthusiasm for purchasing investment properties than a few years ago, but the question of Limited Companies still crops up. I am often asked should the person buy their rental properties though a limited company.
This is a big question, requiring a review of the specific person’s wider tax affairs and the number of properties being considered. However to assist readers I am going to set down a number of key points about the differences between owning personally and via a limited company.
First distinction is between calling your rental a business name and actually having a limited company set up. So if you and your husband own rental properties and run them through a bank account called Rigby Properties then you do not have a limited company. Nor is it a partnership. You will be taxed each at 50% of the rental income less expenses.
On the other hand you might have formally registered a limited company called Rigby Properties Ltd. In that case then so long as the company is the owner on the deeds then it will be the company which pays the tax on the activities, rents and sales. You will have a bank account set up showing the name of Rigby Properties Ltd.
Capital Gains – a company does not have an annual CGT exemption. (Whereas individuals pay no tax on gains under £10,600 in 2011/12). So if the company makes a capital gain of just £1,000 on selling a property of then there will be tax to pay. The only relief apart from the cost of the property and improvements is called Indexation Allowance. This is an inflation allowance meaning the company will only pay tax on gains over and above inflation.
A company whose main activity is investments (such as buying and letting our properties) pays corporation tax at the full rate of 26%. (The rate in 2011/12)
What you need to be careful of is taking money out of the company. Unless you have lent money to the company then there are tax consequences every time you want to take money out. The money will have to be either a dividend or a salary. Dividends can mean higher rate tax due if your total income is high enough. Salary will generally mean the company having to deduct tax and National Insurance under PAYE.
Dividends, being a distribution of the company profits, do not in themselves reduce the company’s tax bill. On the other hand salaries paid to you or to other staff will reduce the taxable profits and the corporation tax due.
The lower rate of corporation tax (20% for 2011/12) does not apply to companies involved mainly in property investment and rental. Only if your company can be considered to be trading in properties has it a chance of securing that lower tax rate. This is where good professional advice is essential.
One disincentive of setting up a limited company is the extra professional fees. Your accountant will charge quite a lot more than if you simply hold your rental properties in sole or joint names. There is more work to do, more tax complications to explain and more ways things can go wrong. That’s why you pay more. However for some people the various advantages may make that cost worthwhile.
Buying properties though a formal Limited Company is not something to be done lightly – do not do it without discussing the advantages or disadvantages with a suitable adviser. Be sure to ask “what is the exit strategy?” That means what are the tax consequences when the company is to be closed down?
Companies pay tax on any gains made on selling properties – they do not have an annual CGT exemption like individuals have.