Buying Property Through a Limited Company vs Incorporating It: Differences

Although not for many, using a limited company for property rentals is a popular strategy in the UK, largely because of tax efficiencies and other financial benefits. Lower tax rates, the ability to fully deduct mortgage interest, and various planning advantages make this option attractive to many property investors. However, after deciding to operate through a limited company, the next important choice is whether to buy a property through the company or transfer a property from individual ownership to a limited company. 

The decision requires careful consideration, weighing the costs and benefits of each option. In some cases, selling the property and purchasing a new one through a company may be more beneficial than transferring an existing property to a limited company. This article explores why limited companies are a favoured option in property rentals and the key differences between buying through a limited company and incorporating an existing property. 

Why Use a Limited Company to Rent a Property?  

Individuals and landlords in partnerships pay taxes on the rental income at personal tax rates, ranging from 20% to 45%. However, limited companies pay corporation tax that ranges from 19% to 25% depending on the total taxable profits of the company, with a profit between £50,000 and £250,000 getting a marginal relief. 

The rental income from the property will be taxed at the following rates if the rental property is operated as an individual. 

However, the tax rates are comparatively lower if individuals decide to incorporate the rental property business, as companies pay the tax on the rental income on the following rates. 

Comparing the two tables, it seems obvious that companies pay taxes at lower rates than individuals and those in partnerships.  

A huge benefit of operating a rental business via a limited company is their flexibility on mortgage interest deduction. Since the introduction of section 24 for rental property businesses in 2017, individual landlords and partnerships cannot deduct the mortgages paid to arrive at their taxable income. Instead, a ‘basic rate tax relief’ of 20% is given. However, the restriction does not apply to companies. Therefore, landlords are opting to operate their property letting business via limited companies to continue enjoying the benefits of mortgage interest deductions in full. 

The functionality and implications of this restriction are explained in our complete guide to Mortgage Interest Tax Relief. 

Companies have a relatively broader option for inheritance tax planning than individuals. One of these is the family investment company, an inheritance tax plan that allows the older generations to maintain control over the assets while facilitating the transfer of value to younger generations, all while avoiding immediate Inheritance Tax (IHT) charges. With careful planning, a comprehensive and effective inheritance plan can be developed to meet your specific needs and goals. 

Now that we are familiar with the reasons why the limited companies for property rental businesses are so popular, we can explore the differences between the tax implications of the two ways to do so: buying a property through a limited property or incorporating property into a limited company, starting with the stamp duty land tax (SDLT). 

Stamp Duty Land Tax (SDLT) 

Irrespective of whether the property is purchased or incorporated into a limited company from the individual’s ownership, SDLT is payable by the limited company. The SDLT is a tax charged on the purchase of land or buildings in England and Northern Ireland. The applicable SDLT rates vary depending on whether the purchaser is an individual or a company, a UK resident or non-resident, etc.  

Generally, SDLT rates for companies are higher than those applicable to individuals. For instance, if the value of the property is above £500,000, a flat 17% SDLT rate applies to the total property value. However, for companies involved in certain businesses such as property rental, property trading, etc., an exception is given, and the SDLT is payable at the following rates. 

SDLT on Companies

Where a limited company buys the property, SDLT is payable only once. The value in which the SDLT is payable is the purchase price. 

In contrast, when the property is incorporated from an individual ownership to a limited company, SDLT is paid twice, initially by the individual and subsequently by the company at the time of transfer. During incorporation, the company will pay SDLT at the market value of the property, irrespective of the consideration involved.

Capital Gains Tax (CGT)

Capital Gains Tax (CGT) is a charge that applies to the disposal of assets in the UK that have been appreciated. The CGT rates for individuals are set at either 18% on the basic rate income (£50,270) and 24% on any gain exceeding the basic rate income threshold. In contrast, companies pay capital gains tax (CGT) at either 19% or 25% as a part of the taxable total profit.

When a property is purchased via a limited company, the company does not need to worry about the capital gains tax implications as it is only applicable to the sellers. If the company subsequently decides to sell the property, it may have to account for the corporation tax on the chargeable gains, if there is any.

When a property under individual ownership is transferred to a limited company, capital gains tax (CGT) may be payable. As the individual and the company are deemed connected parties for CGT purposes, the market value will be used to compute the capital gains tax irrespective of the consideration paid by the company.

If the property being disposed of is a UK residential property, the individual will have to inform HMRC of the property disposal and pay the CGT within 60 days from the completion date.

The obligation does not apply to companies if they subsequently sell the property. The corporation tax on chargeable gains for companies is calculated as the difference between the sales proceeds and the property's market value when it was transferred to the company and not the cost originally to the individual.

Is There Relief from Immediate Tax Implications?

Incorporation Relief may help mitigate or defer the immediate tax implications of transferring a property into a limited company. This relief is offered to individuals or partnerships that transfer their business assets to a company in exchange for shares during incorporation.

Transactions qualifying for the relief do not have to pay the CGT immediately. Instead, the capital gain arising is held over into the base cost of the shares of the company, delaying the capital gains tax liability. As the capital gain is held over into the base cost of the shares, CGT is payable only when the shares are sold. 

Unfortunately, Incorporation Relief does not cover SDLT on the transferred property, leaving individuals with a large amount of immediate tax payable. However, when the property is transferred from a partnership to a limited company, and the same partners control the company, there may be no SDLT payable as the chargeable consideration is calculated using a slightly different method. Under this method, chargeable consideration is calculated as follows:

Where SLP refers to the sum of lower proportion (SLP), which can be defined as the total income profit share of the transferring partner after the transfer. Therefore, if the partners of the partnerships also become entitled to the profits from the company, SLP becomes 100 and chargeable consideration becomes nil.

Conclusion 

Choosing between buying a property through a limited company and incorporating an existing property into a company is a decision that depends on several factors, including tax implications, costs, and long-term business strategy. While limited companies offer lower tax rates, full mortgage interest deductions, and better inheritance tax planning options, incorporating an already-owned property may trigger significant tax liabilities, such as SDLT and CGT.

Careful planning and professional advice are crucial to making an informed decision that aligns with your financial goals and investment strategy. Ultimately, the right approach will vary based on individual circumstances, the size of the property portfolio, and the overall objectives of the property business.