EFFECTIVE 1 APRIL 2016 FOR COMPANIES AND 6 APRIL 2016 FOR INDIVIDUALS
Prior to the effective date, it was essential to distinguish between fully-furnished and partly-furnished properties to determine whether “repair and renewal” expenses were eligible for tax relief. Under the old rules, for example, a landlord might seek to claim tax relief on the replacement of a washing machine, but if say, the washing machine was free-standing, relief was only available for fully-furnished rentals. If the property was not let fully furnished and said washing machine was not integrated into the kitchen (ie behind a door or sited within a carcass) no tax relief was available. Fully-furnished meant that a tenant could walk into the property and save for the provision of linen and towels, was able to live based on the equipment provided within the property. Whilst letting agents might refer to a property as being partly-furnished, the tax legislation does not recognise this condition. The property is either fully-furnished or it is not. Prior to the effective date, the landlord of a fully-furnished rental property could claim a “wear and tear” allowance towards the cost of replacing equipment, fixtures and fittings within the property irrespective of the amounts actually paid. Some elements of the above are still current in 2016/17 for individuals and FY 2016 for Companies and are referred to below.
THE NEW RELIEF
From the effective date, wear and tear allowance is withdrawn and replaced with the new “Replacement Domestic Items Relief” (“RDIR”). The new relief applies to both furnished and unfurnished dwellings irrespective of the level of furniture provided.
The aim of the legislation is to encourage landlords to maintain and improve the standard of the properties offered on the residential letting market.
RDIR is available for items for domestic use, such as furniture, furnishings, household appliances and kitchenware. It does not include fixtures. Expenditure on fixtures may be capital or revenue and those costs are considered later in this briefing. Examples of qualifying expenditure includes moveable furniture such as beds or sofas, televisions, fridges/freezers, carpets and floor coverings, curtains, linens and kitchen equipment.
RDIR does not apply to Furnished Holiday Lettings nor to Rent-A-Room receipts.
To qualify, the following four conditions must be met to obtain a deduction for an item of expenditure.
Condition A: A person (P) carries on a property business in relation to and which consists of or includes a dwelling house.
Condition B: that;
- A domestic item has been provided for use in the dwelling house (the “old” item)
- P incurs expenditure on a domestic item for use in the dwelling house (the “new” item)
- The new item is provided solely for the use of the lessee;
- The new item replaces the old item, and
- Following that replacement, the old item is no longer available for use in the dwelling house.
Condition C: A deduction for the expenditure is not prohibited by the wholly and exclusively rule but would otherwise be prohibited by the capital prohibition rule; and
Condition D: that no allowance under the Capital Allowances Act 2001 may be claimed in respect of the expenditure.
THE AMOUNT OF RELIEF
The basic amount that can be offset against income is;
- Where the old and new assets are substantially the same, the deduction is equal to the amount of expenditure incurred by P on the new asset.
- Where the new item is not substantially the same as the old item, the deduction is equal to so much of the expenditure incurred by P on the new item as does not exceed the expenditure which P would have incurred on an item which is the same or substantially the same as the old item.
The amount of relief is restricted by the value of any part exchange or proceeds on sale/disposal of the old item. Incidental capital expenses associated with the disposal of the old item or the purchase of the new item are added to the cost of the item and are eligible for relief.
There is no requirement for the taxable person “P” to own the property.
The rules relating to fixtures are unchanged. Fixtures are items that are fixed or integral to the property that you would not normally take with you if you moved from one property to another. Examples of fixtures include baths/showers sanitaryware, boiler and heating systems, windows, fitted kitchen units. Where a repair is made to such items, the cost is allowed against rental income as a repair to the property. However, if there is an upgrading of the asset as a result of the expense, such as replacing a shower that originally cost £200 with one costing £1,000, HM Revenue & Customs would argue that is not replacing like-with-like and tax relief on the replacement is restricted to the cost of the original asset. HMRC to accept that it is not always possible to obtain an identical product to the original due to changes in technology, regulations or improved materials. So replacing single-glazed windows with double-glazed would qualify. However, an addition to fixtures that say added more kitchen units or used a far higher specification than the original product would not be eligible for tax relief against rental income.
Where income tax relief is not available, the landlord should retain evidence of the expenditure as it may be possible to obtain relief against capital gains on the eventual sale of the property. HMRC now reserve the right to deny relief against capital gains tax if evidence of the original expenditure is not available at the time of sale/disposal.
Capital Allowances can be claimed against rental profits for expenditure for items of plant or machinery used in the business. This might include vehicles, tools used for maintenance or office equipment. However, if the management of properties is outsourced to a managing agent, the cost of office equipment may not qualify.
Free-standing white goods are not used in the performance of the business so do not qualify for capital allowances.
Special rules apply to loft and cavity wall insulation, draught proofing and insulation for hot water systems.
REPAIRS/WORKS BEFORE LETTING:
Initial work undertaken before letting commences is capital and cannot be offset against the rental income. Thereafter, costs incurred in bringing the property back up to standard such as painting and decorating, repairing the roof or chimney for example may be undertaken in between lets. These costs would be allowable as the Landlord is restoring the property to its pre-letting condition. See planning points.
- The new landlord will not get immediate tax relief on the cost of fitting out the property or getting the property to an appropriate standard for rental. If looking for a rationale, the trade for the property has not started until the property is initially let. Costs to get the property to that state are therefore generally capital in nature.
- If capital gains is not an issue (in for example a rent-to-rent format), the landlord may want to make minimal initial investment in the property as it is not likely that any tax relief will be available on those costs. The initial rental might be a short rental and costs inbetween that initial rental and the next rental would qualify for income tax relief, subject to meeting the relevant criteria above. Care would need to be taken regarding improvements.
- Landlords should keep detailed records of the initial costs of all fittings, furnishings , appliances and kitchen items, may be in the form of a fixed asset register or inventory. A format can be provided on request. In addition to invoices, which can be embedded into the fixed asset register for safekeeping, we would recommend that each item is photographed to show the original asset type. It will then be easier to defend a challenge from HMRC seeking to deny relief on the grounds of improvement costs should the need arise.
- To optimise the availability of tax relief on white goods in partly-furnished or unfurnished properties, rather than provide free-standing white goods, it is more tax-efficient for these items to be built-in on order that the replacement cost can be claimed against income. If you have a partly-furnished property with free-standing white goods tax relief is available on the repair but not the replacement of those goods.
This Factsheet is a summary of company & tax legislation for property businesses and is not intended as advice. Summarised tax information is based upon our understanding of current laws and practices which may change. Individuals should take personalised advice.
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