When the Income Tax (Trading and Other Income) Act 2005 [ITTOIA 2005] superceded the Finance Act 1995, we waved goodbye to our schedular tax system although many of the principles and provisions remained unchanged. Nevertheless the changes to Rental Property income, formally known as Schedule A, have led to more rational thinking in respect of the reliefs that can be claimed. Effectively all income must be declared on your Tax Return on an accruals basis i.e. on all income ‘arising’ during the tax year similar to business income as opposed to a receipts basis. Expenses are offset against this income if wholly and exclusively incurred in managing the property and are also relieved on an accruals basis. If more than one property is owned, the results are pooled and so losses are automatically offset against property profits. So what’s changed?Effectively ITTOIA 2005 expects the profits gleaned from property to be treated in the same way as a business, it also removes the distinction between types of property, so there is no longer a need to split your portfolio between housing, land or fixed caravans for example. One of the main effects of this minor change is on the way loan interest is treated. For most of us, interest is the largest expense and so understanding the change is crucial. Previously interest was allowable if the loan raised capital wholly and exclusively to purchase or refurbish the property. Interest is no longer considered a charge on property income, but is an expense of the business. Finance can therefore now be obtained in furtherance of business activity. So, for example if you were to remortgage a buy-to-let property to release funds for a deposit on a new property, the interest on that further advance would be allowable. This does however have a caveat – the loan can not create an overdrawn capital account i.e. if the remortgage is given on the basis of equity earned through market growth, the revaluation of the property can not be considered capital until it is realised. Consider the balance sheet of this property business

Value of property when first let                £300,000 

Mortgage (interest allowable)                    £100,000            

Capital                                                                £200,000            

Further advance (interest allowable)      £100,000            

Capital                                                                £100,000

The property is then revalued at £400,000 to allow a new advance of £150,000. The £100,000 uplift is treated as a ‘revaluation reserve’ not capital and therefore two-thirds of the new loan can be treated as a business expense, leaving the interest allocated to the remaining £50,000 unrelieved. The profit on your property portfolio is now computed in accordance with generally accepted accounting practice [GAAP] so all expenses you claim should be reconsidered The Chancellor announced in his pre-budget report back in October, a number of changes to Capital Gains Tax that will be implemented from 5^th April next year. Make sure you plan your property disposals well and investing in property could have been the most tax efficient decision you ever made!