The following is a review of the new legislation in Finance Bill 2016 in relation to the restriction of tax relief for mortgage interest and related finance costs, for landlords of residential properties. It should be read in conjunction with the previous article:
It seems on first (and second) reading that the government has adequately addressed the concerns raised in earlier posts, e-mails, etc. The offending section (ITA 2005 s 274A) has been re-written, and a further section added, (ITA 2005 s 274AA), in order to do so.
Gross Finance Costs Relief / Reduction
In the old legislation, Gross Finance Costs Relief (GFCR) was meant to be the total amount of relief available across all property businesses, before adjustment. Unfortunately, the legislation had already confused the conventional usage of ‘relief’ (a deduction against income) with tax reductions, because ‘relief’ in the old 274A was already determined by reference to ss (3) by multiplying the relievable amount L by the Basic Rate of Tax B – before GFCR was explained. In other words, GFCR was defined in terms of a tax reduction, rather than a true relief, when the latter is what the rest of the legislation clearly pinned its hopes on.
I will say again, as I have said before, that the draftsman’s failure to frame the difference between the two, (tax reliefs and tax reductions) has unforeseen consequences. This is not the only area of tax in which he/she has dabbled in such dark art. Here, at least, it has been addressed.
GFCR has now been replaced by “S”, and at the new 274AA (3), S is indeed determined only by reference to the aggregate of relievable amounts (still “L”). The draftsman has avoided confusion by introducing the tax reduction element (although still called “the amount of the relief” – how much would it have really hurt to use the words “tax reduction” instead?) pretty much at the end, ss (5), where it has less opportunity to meddle.
Losing Excess Tax Reductions
We had previously observed that there seemed scope to ‘lose’ or forfeit excess tax reductions because the legislation as previously drafted did not consider the effects of property or trading losses, etc., brought forwards. In other words, the benefit of the 20% tax reduction to be given in the year was ascertained against income that could then be offset by vanilla losses, effectively wasting the underlying unused relief without carrying it forwards.
This has been rectified by defining “Adjusted Total Income” by reference to Step 2 of ITA 5117 s 23, (i.e., after such loss reliefs), rather than the more long-winded approach in the original legislation of defining initially by Step 1, leapfrogging Step 2 and then deducting the Allowances in Step 3. The new definition still discards dividend and savings income, which I now realise is intended to encourage landlords to liquidate investments to pay down their mortgage debt. (Slow learner – or maybe just not cynical enough?). The replacement legislation is at the new s 274AA (6).
Unutilised Tax Relief – Gone Too Soon?
Finally, our concern in relation to unused tax reductions potentially dying with the loan finance, rather than with the corresponding property business itself, appears also to have been addressed.
Basically, the original legislation at 274A set the scene for giving relief in terms of a tax year where loan interest was denied, (ss (1)), and everything flowed therefrom. It could therefore have been inferred that, once loan interest was no more, such that loan interest relief itself was not denied in the year, s274A collapsed and therefore so too did any unutilised relief (tax reduction) brought forwards.
This seems now to have been taken care of.
The new 274A defines the all-important “relievable amount” as including both current year amounts and the brought forward amount. (ss (2)).
The new 274AA (4) then says that where the relievable amount exceeds the amount by reference to which a reduction is actually given, then the excess becomes the brought forward amount for the following tax year. Since 274A (2) effectively gives equal standing to brought forward amounts, it does not matter that there may be no ‘current year amount’ in the following year, so the lack of a restriction for loan interest in that following year does not break the chain for relievable amounts to be carried forwards. I see this mechanism effectively recycling/renewing unutilised amounts indefinitely, until either fully utilised or the relevant property business ceases.
Which is a relief. Or three.I find myself reflecting on the amount of time spent on scrutinising the legislation to the level necessary to divine its machinations before implementation. These fixes - necessary in order to make the legislation work as it was clearly intended to - were entirely due to the input of agents. No doubt HMG will express its gratitude for that input in the usual way, in due course. In other words, not at all.