Furnished Holiday Lettings

Following the announcement in the Spring Budget 2024 that the Furnished Holiday Lettings (FHL) regime was to be abolished from April 2025, we have finally been issued with draft legislation confirming how the change will be implemented.

Qualifying FHLs have historically benefited from several tax advantages compared to standard residential letting business, in particular full relief on interest costs, the availability of capital allowances and business asset disposal relief (a reduced Capital Gains Tax (CGT) rate of 10% on gains up to a £1 million lifetime limit) and counting as relevant earnings for the purpose of making contributions into your pension plan.

We have summarised below the impact of the changes.

Interest Relief Restriction

Currently qualifying FHLs benefit from full relief on interest costs for income tax purposes. The changes will result in effectively only a 20% tax credit going forward.

When interest restrictions were introduced for buy to let individual landlords, there was a phasing in of the interest restriction rules over a number of years. This does not appear to be the proposal for FHLs and therefore an April 2025 implementation provides FHL landlords little time to assess the impact of the changes and restructure their business accordingly.

Affected landlords will also need to consider if they change their commercial model, for example to longer term tenants, and whether this will also have knock on impacts on other areas of tax such as Inheritance Tax reliefs.

Capital Allowances

The availability of capital allowances for FHLs is a valuable relief as it often results in 100% relief being available in the year that the expense is incurred by way of claiming the ‘Annual Investment Allowance’ on the first £1 million of capital expenditure. This includes the purchase of white goods, furniture, fixtures and equipment used within the holiday let, as well as integral features such as lighting and plumbing systems. This relief will be removed once the FHL regime is abolished, and landlords will be subject to the normal letting rules for these types of cost.

Under the normal rules for residential properties no deductions are available against income for capital expenditure on assets used in the rental property. Relief is however available in full for the replacement of domestic items under the cash basis whereby the old item, such as furniture and appliances, are being used in the property and is then replaced with a like for like item. Although capital improvements are not immediately deductible, they may be allowed against CGT upon sale of the property.

Landlords may choose to accelerate any planned capital expenditure in order to qualify for relief ahead of April 2025, although there may be balancing adjustments at the point the FHL business ceases.

Draft legislation has also confirmed that where there are existing capital allowance pools taxpayers will be able to continue claiming writing down allowances for those assets, allaying fears that taxpayers could suffer balances charges on cessation of the FHL rules, further increasing their tax footprint.

Capital Gains Tax

It was also announced that, with effect from 6 April 2024, the higher rate of CGT that applies on the disposal of residential property will be reduced from 28% to 24% for higher rate taxpayers.

The abolishment of the FHL regime could therefore result in an increased CGT rate from 10%, i.e. the reduced rate for businesses qualifying for Business Asset Disposal Relief (BADR), to whatever the standard residential rate of CGT will be at the time of disposal. The current rate is24%.

The abolishment of the FHL regime would also stop the availability of ‘holdover relief’ when making a gift of an FHL, perhaps as part of estate planning. Taxpayers may therefore wish to accelerate any plans for a transfer of ownership.

The reduced CGT annual exemption, which was £6,000 up to 5 April 2024 but is now £3,000 with effect from 6 April 2024, will result in further increases in CGT.

As anticipated the draft legislation contains some anti-forestalling and transitional provisions which look to stop people artificially triggering a gain on properties prior to 5 April 2025. In particular taxpayers who exchange on property sales prior to 5 April 2025, but do not complete them until after could potentially fall foul of the rules. There are also restrictions where planning deliberately triggers gains on a transfer of the property to a connected party.

In addition to the anti-forestalling rules the draft legislation also contains rules concerning the eligibility of taxpayers for some of the relevant CGT reliefs post implementation of the rules e.g. BADR, Gift Relief, Rollover Relief etc. For example, it may be possible to retain BADR status where the ‘trade’ ceases prior to the implementation of the rules and a subsequent disposal takes place within three years.

Those taxpayers looking to trigger gains on their FHL properties both before and after 5 April 2025 should seek professional advice.

Pension Contributions

Under the current FHL regime, profits are treated as earned income and therefore eligible for tax relief at the individual’s highest rate of income tax when contributed to a pension scheme. Conversely, profits generated from non-FHL properties are classified differently and not eligible for tax relief in this way. Other earned income, for example employment income and profits from a trade or profession, will continue to qualify for pension tax relief in the usual way.

Any affected landlords will want to consider whether they are able to increase contributions to make use of their pension annual allowance, including any unused allowances from the prior three tax years, ahead of April 2025.

Profits and Losses

In certain circumstances, mainly husband and wife partnerships, taxpayers have relied on an FHLs trading status to split profits made from the trade in a different proportion to the underlying ownership of the asset. This will now revert to the underlying ownership (or 50:50 in the case of spouses) following the implementation of the rules, unless a declaration of beneficial interests in joint property and income has been made within the required timeframe.

This could have a significant impact on taxpayers who have previously sought to allocate the profit to someone with a lower marginal tax rate.

Losses generated by a FHL business under the current rules can be carried forward to offset against future profits from the same FHL business.

Owners of non-FHL rental properties are subject to different rules which are slightly more flexible in that the losses may be offset against profits from any other rental property.

Under the draft legislation it has been confirmed that any unused losses at 5 April 2025 will be able to be carried forward and treated as losses of a property business.

Trading vs Rental Income

Following the abolition of the rules, taxpayers who have relied on the FHL rules to confirm their ‘trading’ status may now want to consider whether they do in fact have a trade under normal tax principles.

There have always been property activities which qualify as a trade e.g. hotels and guest houses, and activities which clearly do not e.g. assured shorthold tenancies.

However, there are also activities which can potentially qualify for a trade (on a case-by-case basis), particularly where there are services rendered over and above that of a normal rental business. For example, holiday parks and caravan sites which have previously relied in on the FHL rules may wish to consider if they would actually have qualified as a trade in their own right anyway.

This is a highly subjective area, and in light of the draft legislation the CIOT has asked for better HMRC guidance as to what might constitute a trade in this area. In the meantime, we would suggest taxpayers who might be affected by this to seek professional advice.

Get in touch

For more information about the issues raised or to discuss your individual circumstances get in touch with your usual Crowe contact.