Mortgage interest offsetting question

[bradsalmon]

Hi all,

I know that I can offset BTL mortgage interest against any rental income but I have a slightly more complex situation which I would like to check.

I've been granted planning permission to build a separate house on land which is currently part of my rear garden. If I rent this property out after it is completed then can I offset the mortgage interest from my residence, against the rental income from the new build?

The two properties would be on the same title deed and the mortgage company would have an interest in both, hence I would have thought that I could offset the interest. Am I right?

Doing this for the first time, so feel free to let me know of any other common mistakes people make in similar situations.

Thank you in advance,

Brad

[Phlash]

You have to think about from this angle: What was the purpose of the loan in question?

a) If property 1 was mortgaged and you built the new one for cash, then you never borrowed any money for the lettings business, since the loan's original purpose was to buy your home.

b) If you remortgaged property 1, to fund the build job, then this finance was for the purposes of the lettings business, and the associated interest on this part of the mortgage would be deductible.

c) If you do 'b' above, and subsequently remortgage property 2 after development, you will need to watch that your loans you are claiming interest relief on do not exceed your 'capital account'. i.e. Borrow £100k to build house, then get it valued at £200k and secure borrowing of £150k against it. When you brought it into your lettings business its capital value was £200k, meaning you can borrow £200k and claim the interest deduction on this amount. You couldn't claim tax relief on £250k.

This is why it's important to keep records of the value of the property when it is first brought into the lettings business. As you can imagine, 20 years down the line, with the house potentially worth £400k, you would still only be allowed an interest deduction based on £200k of loans.

Hope this helps.

[Telometer]

Interesting question re valuation, Phlash.

In the commercial world, a property would be valued after purchaser's on costs. Hence, if you build a property worth £1m, the valuation would add 40k SDLT, plus some solicitors fees. Ever successfully negotiated such a "valuation"?

[bradsalmon]

Thanks Pflash

On paper at present my situation looks like a standard drawdown residential mortgage. From your post I would assume that I could benefit more from separating the title into 2 and arranging a BTL mortgage on the new property to be rented out. Thus being able to claim the interest back on the mortgage against the rental income.

Is that common practice?

[Phlash]

Interesting question re valuation, Phlash.

In the commercial world, a property would be valued after purchaser's on costs. Hence, if you build a property worth £1m, the valuation would add 40k SDLT, plus some solicitors fees. Ever successfully negotiated such a "valuation"?

My argument here would be that the property is brought into the lettings business at the date of completion of the build (when it is ready to let), therefore the valuation being based on market value, and not build costs. Naturally, this gives the owner a higher value for their capital account.

Market value being the price that would be paid in the open market, between “a willing buyer and a willing seller” acting at arm’s length. i.e. Get some quotes from some surveyors, and the average of which can be reasonably argued to be market value for this purpose, plus any evidence of comparable recent transactions.

The interest expense borrowed for completing the renovation, I would classify as deductible, as it was wholly and exclusively for the purposes of the lettings business. I would not, personally, capitalise this interest expense since the trade is not construction, but that of lettings.

Clearly, the base cost of the asset for CGT purposes would be the purchase price, build cost plus associated legals etc. i.e. A lower value than the 'market value' used above.

I know that doesn't answer you query, but I could understand why one might add on the 'on costs'. I haven't agreed anything on this basis, but I could see a strong case for it. i.e. Anything that a willing purchaser would add to the base cost of the asset could be argued here. i.e. Buy for £200k plus associated legals/tax is £205k. Therefore 'market value' equates to purchaser's base cost of £205k. Interesting point, will think about it.

[Phlash]

Thanks Pflash

On paper at present my situation looks like a standard drawdown residential mortgage. From your post I would assume that I could benefit more from separating the title into 2 and arranging a BTL mortgage on the new property to be rented out. Thus being able to claim the interest back on the mortgage against the rental income.

Is that common practice?

Yes. People often raise finance against their BTL to claim the interest deduction.

What you do with those monies is up to you (BIM45700), so you can quite legitimately pay down your residential mortgage.