Mortgage interest tax relief – a guide for landlords

Home » Welcome to Cozee » Resources » buying property » Taking out a mortgage as a landlord » Mortgage interest tax relief – a guide for landlords

As a landlord, it’s crucial to stay informed about changes in tax regulations that can impact your rental property business. One significant change in recent years has been the phasing out of mortgage interest tax relief.

In this article, we’ll delve into what this means for landlords and how to navigate these changes in 2024 and beyond.

What changed with mortgage interest tax relief in 2017?

Prior to 2017, landlords could deduct 100% of their mortgage interest from their rental income when calculating their taxable profits.

However, starting from April 2017, the government began phasing out this tax relief. Instead of deducting mortgage interest from rental income, landlords now receive a tax credit based on 20% of their mortgage interest payments.

A house with mortage interest tax relief

This became known as the introduction of section 24 that changed the ways landlords pay tax quite controversially and is known as one of the most significant changes to property law in recent years.

How was the deductible mortgage interest phased out?

The phasing out of mortgage interest tax relief occurred gradually over several years, as shown in the table below:

Tax Year Mortgage Interest Deductible 100% Deductible at a 20% Tax Credit
2016-2017 100%
2017-2018 75% 25%
2018-2019 50% 50%
2019-2020 25% 75%
2020-2021 100%

How to move forward in 2024?

In 2024, it’s crucial for landlords to assess their tax situation and determine the impact of the mortgage interest tax relief changes on their rental property business.

The following factors will play a significant role in determining the amount of tax you pay, and consequently, your next steps as a landlord.

Determine if your income pushed you into a higher rate tax band

With the changes in mortgage interest tax relief, you may find yourself in a higher tax band, even if your rental income remains the same.

This is because you can no longer deduct mortgage interest from your rental income before calculating your taxable profits. Instead, you receive a 20% tax credit on your mortgage interest payments.

Consider this example:

  • Rental income: £50,000
  • Mortgage interest: £20,000
  • Other allowable expenses: £10,000

Under the old system:

  • Taxable rental profit: £50,000 – £20,000 – £10,000 = £20,000
  • Tax payable (assuming higher rate): £20,000 x 40% = £8,000

Under the new system:

  • Taxable rental profit: £50,000 – £10,000 = £40,000
  • Tax payable (assuming higher rate): £40,000 x 40% = £16,000
  • Mortgage interest tax credit: £20,000 x 20% = £4,000
  • Total tax payable: £16,000 – £4,000 = £12,000

In this example, the landlord pays £4,000 more in tax under the new system, despite having the same rental income and expenses.

Consider the personal income you’re making

If you have additional personal income alongside your rental income, this could push you into a higher tax band. It’s essential to consider your total income when assessing your tax liability.

A living room with mortgage interest

Here is an example of how with a lack of deductible mortgage payments from a tax bill, a landlord could be pushed into a higher rate band:

  • Taxable rental profit: £20,000 – £5,000 = £15,000
  • Total taxable income: £30,000 + £15,000 = £45,000
  • Tax payable: £7,500 (basic rate) + £2,000 (higher rate) = £9,500
  • Mortgage interest tax credit: £5,000 x 20% = £1,000
  • Total tax payable: £9,500 – £1,000 = £8,500

Take into consideration the expenses in your property

If you have significant expenses in your rental property, such as renovations, repairs, or furnishings, you may have lower profits and, consequently, may not fall into a higher tax band. In such cases, the impact of the mortgage interest tax relief changes may be less significant.

Consider this example:

  • Rental income: £30,000
  • Mortgage interest: £10,000
  • Other allowable expenses: £15,000

Under the new system:

  • Taxable rental profit: £30,000 – £15,000 = £15,000
  • Tax payable (basic rate): £15,000 x 20% = £3,000
  • Mortgage interest tax credit: £10,000 x 20% = £2,000
  • Total tax payable: £3,000 – £2,000 = £1,000

In this example, due to the high expenses, the landlord’s profits are lower, and they remain in the basic tax band. The mortgage interest tax credit effectively reduces their tax liability to £1,000.

mortgage interest tax relief

As a landlord, it’s crucial to assess your individual circumstances, considering your rental income, personal income, and property expenses. This will help you determine the impact of the mortgage interest tax relief changes on your tax liability and guide your decision-making process moving forward.

Calculating your mortgage interest tax relief

To understand the impact of the changes in mortgage interest tax relief on your rental property business, it’s essential to know how to calculate your tax liability.

In this section, we’ll walk you through the steps to calculate your mortgage interest tax relief and provide examples of how the changes may affect you.

Calculating mortgage interest tax relief – step by step

  • Step 1: Calculate your rental income before deducting mortgage interest and other allowable expenses.
  • Step 2: Deduct your allowable expenses (excluding mortgage interest) from your rental income to determine your rental profit.
  • Step 3: Calculate your mortgage interest payments for the tax year.
  • Step 4: Calculate 20% of your mortgage interest payments to determine your mortgage interest tax credit.
  • Step 5: Calculate your tax liability on your rental profit based on your tax band.
  • Step 6: Subtract your mortgage interest tax credit from your tax liability to determine your final tax payable

An example of mortgage interest tax relief where there is not much change

Let’s consider an example where the changes in mortgage interest tax relief do not significantly impact the landlord’s tax liability:

Rental Income £25,000
Allowable Expenses (excluding mortgage interest) £5,000
Mortgage Interest £8,000
Rental Profit £20,000
Tax Liability (basic rate) £4,000
Mortgage Interest Tax Credit (20% of £8,000) £1,600
Final Tax Payable £2,400

In this example, the landlord’s rental profit keeps them in the basic tax band, and the mortgage interest tax credit effectively reduces their tax liability. The impact of the changes is not significant in this case.

An example of mortgage interest tax relief where there is a big change

Now, let’s look at an example where the changes in mortgage interest tax relief result in a substantial increase in the landlord’s tax liability:

Rental Income £50,000
Allowable Expenses (excluding mortgage interest) £10,000
Mortgage Interest £20,000
Rental Profit £40,000
Tax Liability (higher rate) £16,000
Mortgage Interest Tax Credit (20% of £20,000) £4,000
Final Tax Payable £12,000

In this example, the landlord’s rental profit pushes them into the higher tax band. While they receive a mortgage interest tax credit, it does not fully offset the increased tax liability.

As a result, the landlord faces a significant increase in their tax bill compared to the previous system.

What to do if there is a big change in the tax you’re paying

If you find yourself facing a substantial increase in your tax liability due to the changes in mortgage interest tax relief, one potential solution is to set up a limited company for your rental properties. By doing so, you may be able to deduct mortgage interest as a business expense, potentially reducing your tax bill.

Since the introduction of the changes in 2017, many landlords have chosen to incorporate their rental property businesses.

an increase in buy to lets

According to data from Companies House, there has been a significant increase in the number of new incorporations for buy-to-let businesses. In 2017 alone, there were over 47,000 new incorporations, representing a 23% increase compared to the previous year.

However, it’s important to note that setting up a limited company comes with its own challenges and considerations. These include higher mortgage rates for limited companies, additional stamp duty when transferring properties to the company, and more complex tax filing requirements.

It’s crucial to seek professional advice from a qualified accountant or tax specialist before making the decision to incorporate your rental property business.

Why did the government make these changes to mortgage interest tax relief?

One of the primary reasons cited by the government for implementing these changes was to level the playing field between landlords and ordinary homeowners.

Prior to the changes, landlords could deduct mortgage interest from their rental income, effectively receiving a tax advantage that was not available to homeowners. By phasing out this tax relief, the government aimed to create a fairer system where landlords and homeowners are treated more equally in terms of tax benefits.

However, it could be argued that in turn, a lot of smaller landlords who refrained from keeping a property in a limited company are now the ones worse off from the deal.

the buy to let market in the UK

Landlords and industry groups have argued that the changes unfairly penalise landlords and could lead to reduced investment in the rental market, potentially exacerbating housing shortages. Some have also suggested that the changes could lead to higher rents, as landlords seek to pass on the increased tax burden to tenants.

Ultimately, the decision to change the mortgage interest tax relief system is likely to have been influenced by a combination of factors, including a desire to create a fairer tax system, curb the growth of the buy-to-let market, increase tax revenue, and respond to public concerns about housing affordability.

As with any major policy change, there are likely to be both intended and unintended consequences, and it will be important to monitor the impact of these changes over time to assess their effectiveness in achieving their stated goals.

Looking to buy or sell your property? Go with Cozee

  • Trusted estate agent
  • More than 25 years of experience combined
  • We help you focus on your objective (investment, 1st time buy)
Skyscrapers of London