Calculating your Buy to Let Property Profit

It’s one thing satisfying yourself about the level of profits that your buy-to-let investment is making, but when it comes to telling the taxman, it’s a totally different matter. Instead of sweating over the endless forms, have a look at this quick guide to help you on your way!

Tax return

All landlords will have to fill in a tax return to the Revenue to show just how much they have made out of their buy to let investments. This can be an extremely taxing task (no pun intended) and can send even the most savvy of investors into a spin!

Dealing with the Revenue can be extremely complicated, so if you are in any doubt it is wise to consult an accountant before filing any forms. However, this quick guide is a good place to start!

Firstly, and most importantly, income that you receive from renting out a property is taxable and should be declared on your self-assessment form. Although you will declare your total income from rental property, you will be able to deduct certain expenses from your income that will then give you a net rental profit. Remember that if your property is jointly owned with someone else, the profit will be split equally between you, for the purposes of your tax return, regardless of what actually happens.

The difficult part of this type of form is deciding what expenses, if any, you can deduct. When determining the expenses that you can deduct you need, firstly, to consider whether the expenses where incurred wholly and exclusively and secondly, in relation to the property, whether the expenditure was related to capital or revenue.

A general principle is that expenses can be deducted if they are incurred wholly and exclusively in relation to the property, and they are not capital in nature.

One rule that many people overlook is that expenses can be deducted even if they were incurred before the rental actually started, provided it was within seven years and they satisfied the criteria mentioned above.

Capital and revenue

The distinction between capital and revenue is an important one as you will have to consider whether each item of expenditure falls into one class or the other. As a rule, anything that goes beyond normal repair and actually could be seen as an improvement, should be considered as capital and therefore cannot be deducted as an expense. For example, fitting a new kitchen is likely to be seen as capital, whereas placing new carpets is likely to be seen as revenue.

Other common deductible expenses include the mortgage interest (only the interest not any capital repayments), buildings and contents insurance, letting agents’ fees and commission, any costs incurred through safety inspections, costs of advertising the property, utility bills that you remain responsible for as well as any communal or cleaning costs.
Furnished property has a further bonus with the “wear and tear” allowance. This allows a landlord to deduct 10 percent of the rental income (less any rates) for the cost of replacing items that have simply worn out. It is not necessary to spend this 10 percent in order to claim it.

If at the end of your calculation, you have actually made a net loss, you can either offset the loss against other income or carry it forward to be used against future rental profits.

One final tip…there are actually two different ways that you can use to calculate your tax liability as a landlord. There is the ‘cash basis’ and the ‘earnings basis’. The cash basis can only be used if the total income (before expenses) is under £15,000.

Simply put, the cash basis means that the income and expenses are recorded when the money is actually received or paid. For example, if you are charging rent six months in advance and you receive rent on January 1st, then you will have to declare that amount on the current tax form, although half of the actual money received on January 1st relates to rent for April, May and June in the following tax year.

The earnings basis can be used by anyone regardless of their income from property rental. Unlike the cash basis, the money is recorded when the money is either earned or when the need to pay arises. So, in the case mentioned above you would only declare the rent that is attributed to the period from the 1st January to the 5th April.

In reality, which basis you choose should not make a huge difference to your tax liability, over several years. However, it is always good to be aware of the two bases, so that you can apply whichever rule you wish, with consistency.

Calculating tax liability can be an extremely complicated process and if in any doubt you should always seek the advice of an accountant who can take into account your individual circumstances.

Some useful links

For more information on filing your tax returns, take a look at these resources:

www.hmrc.gov.uk/cnr/nr_landlords.htm

www.taxationweb.co.uk/articles/article.php?id=192

www.direct.gov.uk/MoneyTaxAndBenefits/Taxes/TaxOnPropertyAndRentalIncome/fs/en

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