Considerations for landlords facing increasing mortgage interest rates

Landlords are feeling the pinch from new mortgage interest rates. We set out the survival options in the current climate.  

Much increased interest rates for mortgages mean that landlords are being forced to aim for high rental income to match their inflated costs. This, paired with greater demand for rental properties, has pushed average rental costs up for tenants by around 8% in the last year.  

But even with this surge in demand and increased rents, the interest rate rise on highly leveraged property portfolios can make a significant impact on a landlord’s cash profit.

Is it worth being a landlord in 2024?

The estimated annual yield for rent on a London property is around 4% to 6% of the value. As an example, a four-bed property in London is let out as follows:

Let’s look at two landlord scenarios for this property, one paying 2% on their mortgage, the other paying 5%.

Example 1 – A 40% taxpayer, with 2% interest only mortgage

The first landlord has a 2% interest only mortgage, paying £1,166 per month. In scenario A, they let this at £3,958 per month, and scenario B at £4,750 per month:

* Mortgage interest cannot be deducted from profits, instead relief is available at 20%.

Example 2 – A 40% taxpayer, with 5% interest only mortgage

The second landlord has a 5% interest only mortgage, but all other income and expenses remain the same:

* Mortgage interest cannot be deducted from profits, instead relief is available at 20%.

You can see that the landlord’s interest only mortgage moving from 2% to 5% has a significant impact on the cash profit they realise. They move from receiving a cash profit, to being in a loss position from a cash perspective. In effect, the landlord is paying to have tenants in the property. But it’s also important to note that, for tax purposes, they have made a taxable profit in all scenarios due to the availability of relief on mortgage expenses.

What’s more, these examples do not take into consideration those landlords who repay the capital and interest on their mortgage. Only the interest element is available for any relief, so a capital repayment will further reduce the cash profit for the letting. In a year with significant additional expenditure for repairs, this loss could be even greater.

Is it worth keeping their property?

With increasing mortgage rates, I am sure many landlords are questioning whether it’s worth keeping the property, with some rentals not even “washing their face”. A landlord will need to consider whether the capital investment and potential growth in value are worth the cost of letting.

Where a landlord considered disposing of the property, they must be aware of the Capital Gains Tax (CGT) exposure of this as well. CGT of up to 28% will likely be due on the difference between the purchase costs and the net disposal proceeds. But for disposals after 6 April 2024 this rate drops to 24%. When calculating the gain, it’s not possible to deduct the amount of outstanding mortgage.

These property disposals may also need to be reported to HMRC, and tax paid, within 60 days of the sale completion.

What about a company?

Many landlords will jump to the conclusion that moving their properties into a UK limited company will be the best solution, as a company can deduct the mortgage interest before calculating taxable profit. What’s more, the Corporation Tax rates are 19% to 20% rather than up to 45% for an individual.

The transfer of a property from a landlord’s personal name into their limited company will be treated as a disposal at market value, and the landlord may be liable to CGT. With no physical cash to settle this CGT liability, this can be considered a ‘dry’ tax charge. A stamp duty land tax (SDLT) charge based on the market value of the property at transfer may also apply.

There may be further complications when the company needs to acquire the mortgage rather than the individual landlord.

When the company owns the property, the landlord needs to consider how to extract the rental profits. This could be through a dividend, but that may incur tax of up to 39.35%. There can then be significant costs to fund the general administration of the company each year.

Finally, a landlord must consider the ‘end game’. In the future the property might be sold, and the extraction of this cash from the company to the individual could be costly from a tax and administration perspective.

What else can I do?

Landlords who aren’t interested in selling the property, nor following the complications of a corporate structure, may still have some potential options. Where they have a spouse or civil partner who is paying tax at a lower rate, there may be benefit in transferring all or part of the property into their name.

It is important to note that where spouses or civil partners have a joint interest in a property, regardless of the ownership shares, the default position for tax purposes is to be taxed on 50/50 of the income. In order to be taxed only on their respective shares, a formal declaration to HMRC must be made, via form 17, providing evidence of the actual beneficial interests in the property. Those couples who have not made a declaration will continue to be taxed on 50/50 of the income.

The other option may be to start short-term letting of the property through sites such as Airbnb. Where a property can satisfy HMRC’s formal furnished holiday letting (FHL) rules, mortgage interest from the rental business can be fully deducted against the property. But note that, from 6 April 2025, the FHL regime is being abolished. This will bring even more rental businesses into negative cash positions that were not anticipated.

So it’s important for landlords to consider very carefully how to try to mitigate the impact of the current increasing interest rates.