Lee Sharpe considers a UK property business from the perspective of a UK couple who decide they want to retire overseas, and also non-residents investing from overseas.
Let’s imagine a couple, Marilyn and Steven, who were born and raised in the UK, but want to retire to Spain. They hold a UK property portfolio, as well as their own home here, which is mortgage-free.
They have the funds to acquire a property in Spain without having to sell their UK residence – although they do intend letting it out once they emigrate.
It looks likely they will be tax resident in Spain and may become non-resident in the UK – they will become Non-Resident Landlords, or NRLs (technically, they don’t need to become non-resident to achieve NRL status: they need only spend at least 6 months abroad so their “usual place of abode” is outside the UK).
Tax relief for borrowings
With care, Marilyn and Steven may potentially borrow up to the market value of their UK home and help to fund their new Spanish property, and claim tax relief on that mortgage interest against their UK property income. The argument is that letting their UK residence is introducing a new asset to their rental business, and borrowing to fund that is tax-deductible – see HMRC’s Business Income manual at BIM45700 (www.hmrc.gov.uk/manuals/bimmanual/BIM45700.htm).
Non-resident landlords – tax obligations
As we shall see later, UK property income is generally taxable in the UK, even when the landlord is not tax resident in the UK. By default, the NRL scheme requires 20% tax to be deducted before it is paid across to the landlord. It will then fall to the landlord to try to claim a refund from HMRC, if appropriate.
Who is responsible for tax on NRL income?
Generally, a UK letting agent is responsible for withholding the tax but, if there is no UK letting agent (say the tenant pays the landlord directly), then the tenant may be required to operate the NRL scheme and withhold tax, so long as the rent exceeds £100 a week – or less, if HMRC specifically requests. Whoever is responsible for the withholding will have to register with HMRC.
The UK letting agent (or the tenant) has to account for that tax to HMRC, no later than 30 days after the end of each calendar quarter. By 5 July, they have also to submit another return covering the previous year to 31 March, and provide the landlord with an NRL6 certificate of tax deducted for that year.
There are also record-keeping obligations – holding correspondence, payments, receipts, etc. for six years.
How much tax to deduct?
The calculation is made according simply to when amounts fall due, rather than having to adjust for what periods a payment covers.
Where a tenant is in the scheme, he can reduce the figure of rental income subject to withholding by any allowable expenses paid on the landlord’s behalf, such as repairs, insurance, and professional fees, but ignoring capital improvements or private expenses.
A UK letting agent has similar but more complex rules covering excess expenses.
But this does not apply to any expenses which the landlord pays directly (typically the mortgage) and it could well be that the tax withheld exceeds the rental profit – so the landlord may have to fund some expenses separately, until some or all of the tax is repaid.
Can it be avoided?
Marilyn and Steven can apply to have their rentals paid gross using form NRL1 (www.hmrc.gov.uk/cnr/nrl1.pdf). HMRC will normally approve an application where satisfied that the applicant’s UK tax affairs are up-to-date or that the rental income will not be taxable anyway (e.g. where the net income would be covered by personal allowances).
They will issue a ‘Notice of Approval’ to the landlord, and to any agents or tenants mentioned in the NRL1 application, with a specific reference for that landlord.
HMRC can withhold or withdraw approval if it perceives a risk that the landlord may not meet his or her tax obligations.
A tenant who receives a notice does not have to withhold tax, or make any returns (except to cover any tax already withheld). But a UK letting agent will still have to make annual returns, if not quarterly payment returns.
Basic tax practicalities of leaving the UK
Form P85 (www.hmrc.gov.uk/cnr/p85.pdf) can notify HMRC that one is leaving the UK but with rental income. Marilyn and Steven will probably be in the self-assessment regime already, so it is their responsibility to fill in returns claiming not to be tax resident in the UK, etc. in due course.
Multiple tax residence – a person can be simultaneously tax resident in more than one country, according to each country’s domestic tax code. Many countries tax residents on worldwide income, so people like Steven and Marilyn can be taxable on their UK rental income in two countries.
UK tax residence is ‘sticky’– it has arguably become harder to lose UK tax residence over the last few years, thanks to HMRC’s recent string of successful cases (e.g. Gaines-Cooper, Shepherd, Grace), and the introduction of a ‘statutory residence test’ which notably limits the permitted duration of return visits to the UK in various situations – such as if retaining a home in the UK.
Letting the UK home indefinitely, on normal commercial terms, should help Marilyn and Steven in losing UK tax residence, as it should no longer count as a UK home.
Double taxation relief – The UK has many double taxation agreements (DTAs) with overseas territories, which can over-ride domestic tax law, so income (and frequently gains) is taxed in only one territory.
One quirk of property taxation (‘income from immovable property’) is that the DTA frequently allows property income to be taxed in both countries. Do take care to read all relevant parts of the DTA. So, even if Marilyn and Steven are not tax resident in both countries, as overseas landlords they will often be taxable in both countries.
UK domestic tax relief – There is provision in the UK legislation which allows a credit for overseas tax paid on the same income, even if the DTA doesn’t help.
Tax is not always the same
Do check that you are allowed to match any overseas tax paid against the UK equivalent: you will struggle to find the overseas version of council tax covered in a DTA!
Practical Tip :
While HMRC will understandably want tax to be deducted before rent leaves the UK, potentially making tenants responsible for withholding tax is fraught with problems – such as who is responsible for the interest if any tax is paid late.
By far and away the best advice is to get the NRL1 submitted and approved, before anyone has to pay rent and withhold any tax.
Finding out about the tax regime in your target country is very important – don’t assume that rental profits or other income is worked out in the same way as the UK.