The furnished holiday lettings regime checks out

In his Spring Budget, the Chancellor took aim at the tax regime for owners of furnished holiday lettings (FHLs), noting that the regime was “creating a distortion” in the housing market for local communities, particularly in areas with high tourism. The hope is that abolishing tax advantages available to private owners of FHLs will “level the playing field” between short-term and long-term lets and encourage owners to let to locals rather than tourists.

What is an FHL?

To be an FHL, a property must be furnished and made available to be let on a commercial basis for at least 210 days per year (of which it must actually be let for at least 105 days).

What are the current tax benefits for FHL owners?

FHL owners who are individuals enjoy tax advantages unavailable to owners of standard property rental businesses. For example, FHL owners can deduct finance/mortgage costs from rental income in full and only pay tax on the balance, whereas the amount of income tax relief standard property rental businesses can claim for such costs is restricted to the basic rate of income tax (20 per cent).

Other advantages for owners of FHLs that are unavailable to owners of standard let property include:

• The ability to claim capital allowances for furniture, fixtures, fittings, and equipment used within a holiday let, which reduces the owner’s taxable income,
• Rental income earned counts as “relevant earnings” for pension purposes, so the owner can make additional pension contributions from their FHL income, and
• Capital gains tax (CGT) reliefs are available on the disposal of the holiday let.
  
  

What about inheritance tax?

Case law has frequently held that business property relief (BPR) is not available for FHLs: most recently in Mr Bruce Firth and another v HMRC [2022]. The owner is normally considered to be carrying on a passive investment activity, which does not qualify for BPR, rather than a trading activity which would. However, the exceptional case of The Personal Representatives of Grace Graham v HMRC [2018] held that it is possible for FHLs to qualify for BPR, but only where guests are offered an exceptionally high level of personal services. Here, examples included welcome packs with homemade bread, barbeques and cream teas for guests and offering a level of personal care for guests which amounted to approximately 4,000 hours of work annually.

What is changing?

Put simply, the favourable income tax and CGT incentives for FHL owners will be removed from 6 April 2025. Details are awaited in draft legislation, but will include an “anti-forestalling rule” to prevent owners using unconditional contracts entered into on or after 6 March 2024 to accelerate the effective date of a property sale to benefit from the CGT reliefs currently available to FHL owners. FHL owners should therefore wait to review the detail of those rules before acting.

What is the likely impact?

By making the environment for FHLs less attractive, the Government hopes that landlords will revert to more traditional long-term lettings in tourist destinations. FHL owners may also decide to accelerate the sale of their holiday lettings, and from 6 April 2024 those doing so can take advantage of the reduction of the higher rate of CGT for disposals of residential property from 28 per cent to 24 per cent.

There may also be an increase in FHL owners establishing companies to operate their letting businesses, to take advantage of the more generous interest deductibility rules applicable to corporate landlords (but this can be a costly and complex process).

Arguably, an approach aimed at increasing investment into housebuilding (and using the tax system to discourage second-home ownership altogether) would have had a more direct impact on the supply of homes in rural areas.

This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.

© Farrer & Co LLP, April 2024