In collaboration with the Professional Association of Self-Caterers (PASC) and PKF Francis Clark (Chartered Accountants & Business Advisers), the Association of Scotland’s Self-Caterers (ASSC) has been actively lobbying the UK Government for critical changes to the proposed Abolition of the FHL.
Thanks to our collective efforts, we’re pleased to report that some concessions have been achieved, and we continue to advocate for further improvements.
FHL Regime Update
On 29 July, Chancellor Rachel Reeves delivered a statement to the House of Commons on the state of public spending and announcing the next Budget on 30 October 2024. The Chancellor’s statement was accompanied by the publication of several documents, which included a policy paper on the abolition of the FHL tax regime, draft legislation for the abolition and, explanatory notes. Hyperlinks to these documents can be found below.
Measures are to take effect from 6 April 2025 for those taxpayers subject to income tax and 1 April 2025 where the FHL is owned by a corporate entity and subject to corporation tax. For the purposes of this update note, we will be focusing on the impact of the proposals for those subject to income tax.
The government policy paper and draft legislation set out four key tax changes for FHL owners:
1. Finance costs
Interest on FHL mortgages will no longer be deductible in calculating taxable profits for those FHL owners subject to income tax. Instead, owners will be entitled to a basic rate (20%) tax reducer to set against their tax liability.
Whilst this will reduce the tax relief available for higher and additional rate taxpayers, it could also see many FHL owners pushed into higher rates of tax. This, in turn, could have a knock-on impact on child benefit claims, pension allowances and student loan repayments, for instance.
The change is set to take effect from 6 April 2025, with no phased implementation.
2. Capital allowances
Capital allowances will no longer be available for expenditure incurred from 6 April 2025.
FHL owners will simply be entitled to income tax relief on property repair costs and the costs incurred in replacing domestic items, not on any initial outlay.
Initial expenditure on any fixtures and fittings will be relieved on a future sale when calculating any capital gains tax (CGT) liability.
3. CGT reliefs
On the subject of CGT, the draft legislation results in a withdrawal of access to beneficial CGT reliefs, including business asset disposal relief (BADR) (which gives a beneficial 10% rate of tax) and two CGT deferral reliefs (gift holdover relief and rollover relief).
This will give rise to an increase in CGT payable by those selling or gifting their FHL properties.
The current rates of CGT on the disposal of residential property are 18% to the extent of a taxpayer’s remaining basic rate band and 24% thereafter. These rates may increase following the Budget on 30 October.
4. Pensions
The maximum pension scheme contribution that a taxpayer can obtain tax relief on in a single tax year is the higher of 100% of their UK relevant earnings and £3,600.
FHL income will no longer form part of a taxpayer’s relevant UK earnings when calculating maximum pension relief. This means that tax relief on pension contributions could be severely reduced for many FHL owners.
Transitional rules
Whilst news of these proposed changes will no doubt be disappointing for those owning and running FHL properties, it is worth highlighting a couple of welcome transitional rules that have been included in the draft legislation:
Capital allowances
Owners with existing capital allowance pools can continue to claim writing down allowances on those pools and there will be no deemed disposals and balancing charges. This will be good news for those who feared that the government would seek to claw back capital allowances already claimed.
It should also be highlighted that taxpayers can currently claim a one-off writing down allowance of up to £1,000 where the tax written down value brought forward in their main or special rate pool is £1,000 or less.
In practice, many FHL owners use the cash basis of accounting and the impact of the abolition on these taxpayers remains unclear. The cash basis is a simplified form of accounting whereby capital expenditure is allowed as a revenue deduction rather than taxpayers claiming capital allowances. There are certain instances whereby the relief claimed for capital expenditure incurred under the cash basis can be clawed back. However, on the basis of the current legislation, it does not initially appear that a
property losing its special FHL tax status will give rise to any clawback.
Losses
Currently, a loss generated on UK FHL letting will be ring-fenced and can only be carried forward and offset against future profits from the same UK FHL business. There was concern that the FHL tax regime abolition would result in any carried forward FHL losses being lost. However, the government have confirmed that FHL losses will be available to be carried forward and can be set against a taxpayer’s UK property profits. Any losses in future will also be able to be offset against property profits.
The boundary between the exploitation of land being treated as trading income or property income is not always clear. Whilst a taxpayer may be inclined to argue that their FHL operations should be treated as trading income, taxpayers with carried forward losses should be mindful of the fact that property losses will not be able to be set against future trading profits.
Other concessions for CGT
The government have advised that where the criteria for a CGT relief includes conditions that apply in a future year, the meeting of these criteria will not be disturbed by the abolition, provided the FHL conditions are satisfied before the repeal date. How this will work in practice when it comes to the availability of rollover relief, for instance, is not currently clear.
In respect of BADR, it is also noted that where the FHL conditions are satisfied but the FHL operations ceased or are deemed to have ceased prior to the abolition date, relief can continue to apply to a disposal within three years of that cessation or deemed cessation.
We now have further detail on the anti-forestalling provisions which were mentioned on the day of the Spring Budget. The FHL abolition rules will apply to certain capital gains made where a contract is entered into before the date of the abolition, but the asset is conveyed or transferred (contract completed) on or after this date. However, there are notable exceptions in the draft legislation covering contracts made wholly for commercial reasons and where the parties to the contract are not connected.
Clearly great care will be required where any contract does not complete before 6 April 2025.
Opportunities and action points ahead of 5 April 2025
Allocation of profits
Whilst not included in the government policy paper, the FHL regime currently provides flexibility when it comes to allocation of FHL profits for income tax purposes, regardless of beneficial ownership. However, the default position under the ordinary property tax rules is that profits are split 50:50 where a property is owned by spouses or civil partners.
Where spouses or civil partners owning FHL property wish to continue splitting profits unequally, they may wish to consider making a declaration of trust to alter their beneficial ownership. If this takes place, it will then be possible to make an election to HMRC to be taxed on the revised beneficial ownership basis rather than the default 50:50 basis.
It should be noted that where FHL property is subject to debt (e.g. a mortgage) or where a FHL is held in partnership, changes to beneficial entitlements and/or income sharing may give rise to a stamp duty land tax (SDLT) liability. Care should be taken and specialist SDLT advice sought.
Gifting prior to 6 April 2025
If taxpayers have been considering gifting FHL property, perhaps as part of their succession or inheritance tax planning, this is something that they may wish to act upon sooner rather than later to ensure any gift can be legally effected ahead of the abolition date and benefit from gift holdover relief.
As gifts are by their very nature not commercial, it is hard to see how a gift completed on or after 6 April 2025 will not fall foul of the anti-forestalling provisions.
Incorporation
Residential property held in a corporate entity will not be subject to the mortgage interest relief restrictions and so taxpayers may wish to consider incorporating their FHL property interests ahead of the special FHL tax regime abolition in April 2025.
Whether it makes sense to incorporate, from both a tax and practical perspective, will all depend on a taxpayer’s personal circumstances. It is recommended that taxpayers seek specialist tax advice promptly if this is an option they would like to consider further.
Hyperlinks for further information
Policy paper
Draft legislation
Explanatory notes
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