In September 2013, HM Revenue & Customs (HMRC) announced a new nationwide campaign, targeting residential property landlords who were not declaring their rental income to the taxman.
This is probably the largest (and longest) onshore campaign that HMRC has launched to date and it is likely to affect many thousands of landlords. As the campaign has been progressing for about a year now, it seems appropriate to take stock of developments, and where it is heading.
The campaign
The campaign specifically targets individuals letting residential property. HMRC reckons that there are as many as 1.5 million landlords in the UK, but it has fewer than 500,000 officially on its books. In that context, it is unsurprising HMRC wants to pursue the roughly one million ‘missing’ landlords.
HMRC originally said that the campaign would last at least 18 months, but given the current pace I suspect it may last for years: in the last few months it has been writing to about 50,000 individuals whom HMRC’s information indicates should be returning property income details. It will take time to process these first ‘few’ and then decide how to deal with the remaining (roughly) 950,000 candidates.
Where does HMRC get its information?
Basically, everywhere! HMRC has very broad information powers, to obtain details from:
- Councils - for landlords providing accommodation to housing benefits claimants;
- The Land Registry - for details of who holds the legal ownership; and
- More recently, HMRC has also acquired powers to require details from organisations about third parties (in FA 2011, Sch 23). These organisations specifically include letting agents, or anyone else who searches for tenants or provides a similar service. It also includes businesses that take commission for services provided by another party, and anyone who handles money on another’s behalf. Clearly, this goes beyond traditional estate agents, encompassing Internet-based letting services as well.
HMRC has also spent the last few years developing its systems and expertise to manage and analyse ‘big data’, in this case to derive a large list of hitherto unknown persons in receipt of rental income.
Can HMRC have the wrong man?
Potentially - for instance, the Land Registry identifies legal owners, not necessarily the people beneficially entitled to any rental income. Likewise, when an estate agent passes rental money on, the payee is not necessarily the person liable for tax purposes. But even with property, where it is relatively common for legal and beneficial ownership to be split, (and/or shared out) it seems likely that, in most cases, HMRC will have correctly targeted at least one of the parties liable to tax.
Is any tax actually due?
This is a very important question. Basically, if there is no additional tax liability then interest and penalties may also be avoided, since they are normally based on the amount of tax underpaid. In law, there is no obligation to notify HMRC of any rental income, if there is no net liability to income tax (see TMA 1970, s 7; HMRC’s Self-Assessment manual SALF210). Landlords should consider:
- Rent-a-room scheme – essentially where someone takes in a lodger, or similar. In such cases, gross rental income must exceed £4,250 per annum before it is taxable – otherwise it may be ignored. Rent-a-room is optional: if the normal rules for deductible expenses yield a better result, they can be used instead. The details are in HMRC’s Property Income manual (at PIM4001 et seq);
- Personal allowance – the personal allowance is currently £10,000, which may be more than adequate where a taxpayer has no other significant income sources. But do bear in mind it has not always been so generous;
- ·Joint investments – it may be that, while there is (for example) only one legal owner, it is in fact a joint investment, and the net income should be apportioned amongst two or more taxpayers – so potentially two or more personal allowances may be available. If married, did the funds/deposit come from a joint account? Were both spouses involved in the negotiations? Was the net income split between them?; and
- It may seem obvious, but make sure that all expenses have been claimed, so as to minimise tax and therefore penalties and interest exposure, potentially down to nil. Expenses which are commonly overlooked include:
- Loan interest, particularly if it’s not secured on the let property/properties
- Pre-letting expenses – assuming they are not capital expenditure
- Office and travel costs to visit properties or for business meetings
- Capital allowances on office equipment, and potentially a car if used for business (but note that a proportion should be disallowed where there is private as well as business use)
- Wear and tear allowance – available where the property is let fully furnished
A more comprehensive list is available in the previous article ‘What Expenses Can I Claim?’
Possible traps
- Just as some people forget to claim mortgage interest, some also mistakenly assume that the entire repayment is deductible – any capital element must be ignored;
- Where property is let jointly between spouses, net income is split 50:50 by default: you cannot override that split going backwards. There is more flexibility between investors who are not married (to each other!); and
- Do bear in mind that adding rental income to earlier years may adversely affect past entitlement to state benefits. HMRC specifically asks about tax credits in its disclosure documentation.
Penalties
Penalties are normally calculated as a percentage of the tax underpaid. The rules for penalties are quite complex, but for this campaign there are essentially two ‘flavours’:
1. A tax return has not been submitted at all for the relevant years because HMRC was not told that a tax return was required to report a liability – a ‘failure to notify’ penalty; and
2. A tax return was submitted, but some or all rental income was not included on the return – an ‘inaccurate return’ penalty.
HMRC says that, if a taxpayer has underpaid tax despite taking ‘reasonable care’ with his or her tax affairs, then there will be no penalty. But HMRC then says that it does not expect most taxpayers involved in the let property campaign to have taken ‘reasonable care’ which, to me, shows a distinct lack of imagination on HMRC’s part.
HMRC’s Compliance Handbook manual (at CH81120) recognises that ‘reasonable care’ is by reference to that particular taxpayer’s abilities and circumstances. That bar should be pretty low, for a taxpayer who has never filled in tax returns before, and who ends up letting a property ‘by accident’ because (say) they’ve inherited a part share and can’t sell it.
Practical Tip:
I took on a new client earlier this year, who had started to let property in 2007, so was six years in arrears. The client had expected liabilities running into thousands of pounds but, once we had established the full extent of his allowable expenses, and particularly interest deductions (including loans secured on other property) and his pre-letting expenses on both properties, we eventually ended up with his having no additional tax to pay until 2012/13 – and even then it was only an extra £50.
While that is a good result, it will not always be so favourable: landlords should be aware that the penalties are hiked if HMRC writes to them before they contact HMRC ‘unprompted’ and, given the information resources at HMRC’s disposal, it is more a question of when HMRC will write, not if, so any concerns should be addressed as soon as possible.
