Starting in April 2025, the tax status for owners of furnished holiday lets (FHLs) is expected to be abolished, as per the announcement at the Spring Budget 2024.

To help you get ahead of these potential changes, we’ve compiled everything you need to know about the current tax benefits, along with some predictions on the upcoming changes.

We are waiting on more specific details to be released, but all information will be added to this guide as it becomes available.

What is a FHL?

A type of property business that meets specific criteria is recognised as a Furnished Holiday Let (FHL), including properties that are available for commercial holiday letting for at least 210 days a year and those let to short-term visitors for at least 105 days a year. Compared to other types of property, FHLs offer several tax advantages, including:

- Claiming capital allowances.

- Income from the business is classed as ‘earned’ for pension contributions.

- Various capital gains tax reliefs, including Business Asset Disposal Relief (BADR).

Changes from April 2025

Coming into effect in April 2025, owners will see their current tax advantages replaced with some transitional adjustments. Although the details of these changes are yet to be announced, the below information on current rules can offer some insight as to what to expect.

Capital allowances

Capital allowances for FHLs have included a range of expenses, from furniture and fixtures to equipment and appliances. Deductible from their taxable profits, capital allowances have been great for reducing an owner’s tax liability, with the first £1M of capital expenditure potentially qualifying for 100% relief under the Annual Investment Allowance (AIA).

The availability of capital allowances for these FHLs will likely become more akin to the general tax rules for residential property rentals due to the move away from FHL status. While standard residential rental properties have traditionally been ineligible for the same variety of capital allowances as FHLs, there are still avenues for tax relief that can be explored:

- Landlords can claim tax reductions when replacing domestic items, including furniture and appliances, through the Replacement of Domestic Items Relief. While the relief covers the replacement of existing and broken items, it does not cover furnishing the property initially.

- Similarly, when renovating or repairing a rental property, costs can be deducted from rental income as long as the changes are not a capital improvement, such as changes and additions that enhance the property or extend its life.

- Where these costs can be deducted at the time of purchase, capital improvements may affect the Capital Gains Tax calculation later, during the sale of the property.

Capital Gains Tax reliefs

Capital Gains Tax (CGT) reliefs aim to reduce the tax burden when selling or disposing of properties, including Business Asset Disposal Relief (BADR) (formerly known as Entrepreneurs' Relief), which allows a reduced CGT rate of 10% on gains up to a £1M lifetime limit. Providing flexibility in managing and reinvesting capital gains, additional reliefs such as Rollover Relief and Hold-Over Relief have also been available to owners of FHLs.

With the introduction of the upcoming changes, properties will lose their FHL status and will no longer qualify for these specific reliefs, which will see the properties becoming more in line with the general CGT regime for residential properties. Reducing from 28% to 24% from the 6th of April 2024 (18% for a basic rate taxpayer), the Spring Budget also announced that the higher capital gains tax rate for property disposals will be changing.

Apportionment of profits

Allowing for strategic tax planning (especially in situations where owners have different income tax rates), profits from FHLs could be distributed through any percentage requested by the owners, regardless of the specific ownership share in the property.

With the FHL-specific benefits coming to an end in April 2025, non-FHL properties will adhere to the general rules applicable to property income and partnerships when it comes to income allocation, with the default rule being that the share of any profit or loss from the property will typically align with the ownership interest in the property.  

However, a Declaration of Trust can be used to formally specify different profit shares that do not have to align with the legal ownership shares. This can be used in different situations but is perhaps most beneficial when there are individuals who contribute differently to the purchase price or expenses, allowing owners to allocate profits as they see fit.

Another way to create more flexibility in profit apportionment is to transfer ownership to a limited company. In this instance, profits (after corporate expenses and taxes) can be distributed as dividends, which can be allocated in different amounts to shareholders, replicating the FHL arrangement.

Carefully drafted partnership agreements can specify profit-sharing arrangements that don't necessarily match the partners' capital contributions (general partnership rules apply). Clear agreements are a necessity with this option, and there may be implications for self-assessment tax returns.

Joint venture agreements can outline specific profit-sharing terms for property owners working on projects together. Offering additional flexibility, these agreements can be tailored to a situation’s specific requirements.

You can also achieve more flexible profit allocations by placing the property in a trust, allowing trustees to distribute incomes to beneficiaries in accordance with the trust’s terms. This is a great choice for those looking to strategically plan their tax based on recipients’ varying tax situations.

Mortgage interest

Mortgage interest (alongside other financial costs) can be fully deducted from their rental income, which is a simple way to reduce taxable profits – a strategy that has been particularly advantageous for higher and additional rate taxpayers.

Non-FHL properties, on the other hand, have seen an evolution in the tax treatment of mortgage interest, with a lot of changes coming about after Section 24 of the Finance (No. 2) Act 2015. Phasing out the ability to deduct mortgage interest from rental income, a tax credit system is now in place.

Regardless of their income tax band, landlords are eligible for a 20% tax credit on their mortgage interest costs. Higher and additional rate taxpayers will therefore no longer receive full relief on finance costs at their marginal tax rates, which could lead to higher effective tax liabilities on rental income.

Transferring property ownership to a limited company has been used by some landlords to deduct financial costs before calculating profits subject to Corporation Tax. When looking at this approach, make sure to fully consider any additional responsibilities, costs, and tax implications that running a limited company can incur.

Pension contributions

Considered as earned income, rental income from FHLs is eligible for tax relief at an owner’s highest rate of income tax when contributed to a pension scheme.

However, rental income from non-FHL properties is classified separately and does not qualify as "relevant earnings" for pension contribution purposes. Property owners are restricted from fully accessing tax relief benefits for pension contributions due to this distinction, as only earned income qualifies.

Of course, individuals who have other sources of earned income, in addition to property rental income, can continue to make pension contributions based on this earned income, thus ensuring they still receive tax relief at their marginal rate on contributions up to the annual allowance.

If operating a property rental business through a limited company, employer pension contributions can be made directly from the company. Although requiring careful planning in accordance with regulations, these contributions are usually permissible expenses that can reduce the company’s Corporation Tax liability.

Losses

An FHL business can carry forward losses to offset future profits from within the same business. 

Different rules apply to owners of non-FHL properties, with a bit more flexibility being afforded in how they manage property losses. 

If multiple rental properties are owned by the same person, they can offset the loss from one property against profits from other rental properties in the same tax year, helping to reduce the overall taxable income from property rentals.

Non-FHL properties can also be used to carry forward losses and offset them against future profits from their rental properties, without needing to be against the same property that incurred the loss.

Seek advice from an expert

While the abolition of FHL tax benefits is a big change, proactive planning and adaptation can help owners navigate the transition effectively. Consulting with tax professionals to tailor strategies to individual circumstances will not only help you to stay informed of any further legislative updates but will also allow you to adjust your property management practices while maximising available reliefs and exploring alternative tax strategies.

Tags: Owner update