James Bailey looks at the tax treatment of expenses incurred by a landlord before they first let a property.
If you acquire a buy to let property, you will probably incur quite a lot of expenses before your first tenant moves in. These expenses may include mortgage interest, insurance, advertising for a tenant, repairs, and so on.
There is a common misconception that such expenses cannot be claimed because the property is not let yet. This is not the case. The tax treatment depends on whether you are already letting other properties, or the property concerned is your first venture as a landlord.
If you are already letting other property in the UK, all the income and expenses of your ‘property business’ are included in your return for the year, and this will include expenses on property not yet let, provided it is your intention to let it when a tenant can be found.
If the property is your first, then until you actually let it, you cannot claim any expenses, but when you do find a tenant, you can treat any expenses incurred in the seven years before they moved in as if they were incurred on the first day of the tenant’s occupancy.
The test is whether the expenses would have been allowable if they had been incurred during a period when the property was already let, so the same rules apply to expenses incurred before letting as apply to expenses during the letting.
There are two areas which can cause problems, and both relate to capital expenditure:
Legal and professional fees
The cost of acquiring the property, and the cost of drawing up the first tenancy agreement (if it is for more than a year) are capital, and cannot be claimed against the rental income. Most future legal fees, such as the cost of renewing a tenancy or pursuing unpaid rent, are allowable. There is also a statutory deduction available for the cost of obtaining loan finance for the property business.
Repairs
Repairs before the property is let are an allowable expense, but capital expenditure on the property is not. There are two tests to apply:
- was the property fit for letting before the expense was incurred? If so, then any repairs (repainting, mowing the lawn, etc.) are allowable, including those which are in practice making up for the previous owner’s lack of maintenance in the past. On the other hand, if the electrical wiring is dangerous and must be replaced, the cost is capital; and
- was the price of the property significantly lower as a result of its condition when you bought it? The important word here is ‘significantly’ – just because the property is a bit tatty, the cost of smartening it up should not be disallowed.
In many cases the distinction is a matter of judgement, and HMRC can be expected to try to disallow significant initial expenditure on the property.
I once had a client who spent a lot of money ripping out an old fashioned ‘utility’ kitchen in his weekend cottage, and replacing it with a very expensive Italian-style designer version. Normally (if this had been a rental property), HMRC would have said this was a capital expense, because it was clearly an ‘improvement’, but because the tax here was capital gains tax (the cottage had never been let) they said ‘one kitchen is much like another’ and this was a repair, not a capital cost.
Practical Tip:
Just because a property is not yet let does not mean expenses are not allowable – the test is the same for expenses before letting as for expenses during letting. Apart from capital expenditure, expenses are allowable if they are incurred (within seven years of commencement) for the purpose of the letting of the property.
