This week we are looking at why letting to a relative or a friend at below market rent can incur special treatment by the Inland Revenue.
It is sometimes the case that a property, which is normally let out on commercial terms and at the going rate, is let to friends or relatives for for free, or at a below market rent.
In strictness, the tax legislation states that any expenditure incurred on a property that is let at below commercial terms is not claimable, as the expenditure is being partly incurred for a “benevolent or philanthropic purpose”. However, in practice HM Revenue & Customs (HMRC) will allow a claim in some circumstances.
Where the arrangement is for the property to be occupied rent-free, the revenue expenses relating to that property for that period would not be claimable. Where the arrangement is for a below market rent to be paid, then you are able to claim for the expenses up to the level of the rent you receive. Where the rent does not fully cover the expenses, the excess is not claimable against any other rental income, either of the same year or future tax years. For annual costs and overheads such as rates, insurance and mortgage interest you would need to do a time-apportionment of the overall costs to establish the element that relates to the rent-free period.
There is one “get out” from the restrictions, which is where a relative or friend occupies the property as a “house-sitter”, perhaps in a period after the last tenant has left and before a new tenant has been found. It would be necessary for you to continue to be actively seeking new tenants in this case. In the event of a challenge by HMRC you would need to be able to show that it was a genuine house-sitting and interestingly, although their published guidance states that there are no hard and fast rules in this area, they give an example where a relative occupies for one month in a period of three years, when they would normally accept such a house-sitting case. There is also a warning that no relief is due where the relative is really just taking a month’s holiday in a country cottage! Clearly, each of these cases would need to be looked at on their own merits, but there should be some scope for planning to fall within the house-sitting concession. You should keep whatever appropriate evidence you have to support your case, as this would be vital in any HMRC enquiry.
The published guidance also comments on the situation where there is heavy expenditure which happens to fall within the period of a short commercial let, but which primarily relates to a period of non-business use. It would seem this is aimed at something like a significant programme of repair work, which has been arranged to take place within a commercial let period in order to try to obtain tax relief on the costs against rental income from other properties. There would need to be a particular set of circumstances for this to apply but it is worth bearing in mind that HMRC could well look for further details where significant costs are being incurred on a property where rental income is only being shown as having been received for a short period.
With properties that are holiday homes there may be times when they are provided free to relatives or friends. Here you will need to apportion the expenses on a reasonable basis between the commercial periods, when the property is either let or available for let, and the other non-commercial periods, when it’s being used by family and friends. The amount of excess costs for the non-commercial periods is not claimable for tax purposes.
As always, when trying to maximise your claims for rental expenses you should seek appropriate professional advice.
David King is a tax consultant with Garbutt & Elliott, Chartered Accountants and Tax Advisers, with offices in Leeds (telephone 0113 273 9600) and York (01904 464100). David can be contacted at the York office, or by email to firstname.lastname@example.org.