A friend has told you that his accountant was able to get him tax relief for his home mortgage interest. As relief for this type of interest ended decades ago, how was it possible and might you be able to do the same?
Home loans
It’s been around 30 years since tax relief was allowed for interest on loans used to buy or improve your home. This tax break would come in handy right now with mortgage rates still running high. The good news is that it might be possible if, e.g. you own shares in a private company.
Company owners
Tax relief is allowed for interest paid on a loan to buy shares in or provide working capital for a close company (broadly, one that’s controlled by five or fewer individuals). The main condition for relief is that the company doesn’t exist to mainly hold investments. You must also work full time or own at least 5% of its ordinary share capital.
Tip. If you and your spouse or civil partner together own 5% of a company’s ordinary share capital, the condition is met.
Refinance
Where all the loan conditions are met you’ll need to rearrange your finances so that you reduce the amount of borrowing relating to your home purchase and correspondingly increase that relating to funding ownership of some or all of your company shares or your company’s working capital.
Example. Jack owns 15% of the ordinary shares in Acom Ltd worth around £350,000. He is a full time director of Acom. Jack’s spouse Gill also owns 15% of Acom’s ordinary shares. Their home is worth £500,000, on which they owe £140,000 on a joint mortgage loan. At the current rate the interest payable on the loan is approximately £7,000 per year. Jack and Gill take the following steps:
- they take a second mortgage on their home for £140,000
- Jack uses the money to buy some of Gill’s shares in Acom to the value of £140,000. He pays the interest on the whole loan. Note that there’s no capital gains tax for Gill to worry about because of the special rules which apply to transfers of assets between spouses and civil partners
- Gill uses the £140,000 received from Jack to repay their original mortgage.
- No tax relief to full tax relief
Before the refinancing Jack and Gill owed £140,000 on a home loan. After the refinancing they still owe £140,000 on a mortgage but the purpose of the loan is now to purchase shares in Acom. As a result, Jack is entitled to claim tax relief on the interest he pays. If the interest in the twelve months following the refinancing is, say, £7,000, the tax saving (assuming Jack is a higher rate taxpayer) is £2,800 (£7,000 x 40%). And if the interest over the remaining mortgage term is £50,000, the total tax saving will be £20,000.
In practice
To put the plan into action Jack and Gill might need to obtain valuations of Acom’s shares and their home. Plus they’ll have to pay legal fees for the remortgage and stamp duty at 0.5% on the purchase of shares by Jack from Gill, i.e. £700. However, the tax saving more than makes up for the extra admin and relatively small costs.
Tax relief is possible if you and your spouse or civil partner own shares in a private trading company. Take a second mortgage on your home and use the money to buy shares from your spouse/civil partner. The interest payable on the loan can qualify for tax relief. Your spouse/civil partner can reduce the original mortgage with the money received from you.
The next step
This article has been reproduced by kind permission of Indicator – FL Memo Ltd. For details of their tax-saving products please visit www.indicator-flm.co.uk or call 01233 653500.