Cautionary note around property tax avoidance scheme

HMRC warning buy-to-let landlords of scheme which involves hybrid partnerships and possible tax avoidance

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HMRC is cautioning buy-to-let property owners against using a tax avoidance scheme that seeks to reduce tax payable on rental profits. The scheme, operated by Less Tax 4 Landlords Ltd, involves landlords setting up a limited company to hold their properties and then transferring them to a limited liability partnership (LLP) structure to allocate profits to members, thus minimising their tax obligations.

This arrangement allows landlords to bypass restrictions on mortgage interest relief, reduce taxes on property business profits, and decrease capital gains tax when properties are sold.

The described arrangements operate in the following manner:

  1. Individual landlords or their family members establish a limited company.
  2. These individual landlords simultaneously create a limited liability partnership (LLP), designating the limited company as the corporate member.
  3. The individual landlords transfer their properties to the LLP.
  4. Members of the LLP, including individual landlords and the corporate member, distribute LLP profits at their discretion, ensuring that:
    • individual members maintain basic rate taxpayer status
    • remaining profits are assigned to the corporate member
  5. The corporate member claims deductions for finance costs, such as mortgage interest, related to the properties.

This arrangement offers potential tax savings for landlords for the following reasons:

  • the property transfer to the LLP incurs no immediate tax costs, and the base costs of the properties (used in calculating capital gains tax) are adjusted to their market value at the transfer date
  • individual landlords are not affected by finance cost restrictions because they remain basic rate taxpayers
  • the corporate member can fully deduct its share of finance costs, as these restrictions do not apply to it
  • the corporate member is subject to corporation tax on its net profit share, as opposed to higher or additional income tax rates applicable to landlords if profits were allocated to them
  • calculating the capital gain based on the adjusted base cost at the transfer date reduces capital gains tax compared to using the original purchase and improvement costs when selling the properties
  • Business Property Relief (BPR) may be claimed for a hybrid structure engaged in a property rental business, potentially eliminating inheritance tax liabilities if the landlords pass away.

HMRC has warned that this scheme breaks several tax rules, including mixed member partnership legislation, anti-avoidance legislation for income stream disposals through partnerships, and tax treatment of chargeable gains. The scheme has attracted hundreds of landlords, potentially resulting in up to £50m in tax avoidance.

HMRC advises those using this or similar schemes to withdraw and settle their tax affairs, emphasising that penalties may apply for non-disclosure. Scheme promoters may also face significant penalties. Less Tax 4 Landlords Ltd has halted accepting new clients for the scheme while seeking clarification from HMRC.

Read HMRC’s view of the arrangements, which was published on 4 October 2023.