Have you ever thought about owning a property in one of your favourite rural retreats or seaside resort that you can use as your getaway for your friends and family, but you can rent it out to generate a lucrative additional income?
The staycation boom has seen a massive increase in people thinking about owning a holiday home. Still, to have Furnished Holiday Lets (FHL) status, you will need to meet specific criteria, including the number of annual bookings, level of furnishings, and availability – see our ‘the property must be commercially let’ section below for more information.
This article will outline how your property can qualify as an FHL and explain how a furnished holiday let is a tax-efficient investment compared with other forms of rental property as a much better way of getting a return on your investment compared to regular residential lettings.
How do I qualify as a Furnished Holiday Let (FHL)?
You must meet the following criteria to qualify for unique tax advantages. Let us look into them one by one.
To qualify as an FHL, your property must be in the UK or the European Economic Area (EEA) – this includes Iceland, Norway, and Liechtenstein. There is no specific condition for your FHL to be in a tourist density area. It can be anywhere inside the UK or European Union. These conditions may change over time due to any future Brexit impact
The level of furnishing
There are no specifics as to how a Holiday Let should be furnished, but as a general rule of thumb, if you were staying in a self-catering apartment, that amenities you would expect to see are good starting points.
There will likely be some initial outlay on furnishing the property. Still, the excellent news is that you can claim some of your furniture costs as an allowable expense when looking at relief from Capital Gains Tax.
Availability and occupancy rules for your holiday let
Some conditions relating to the availability and occupancy have to be met so that your holiday let qualifies for tax advantages. They are:
- The property must be available for commercial holiday letting to guests and holidaymakers for at least 210 days (30 weeks) per year and be actively promoted as such.
- If the FHL is rented out to the same person for more than 31 days, there should not be more than 155 days ( 22 weeks) of this type of ‘long term’ occupation per year.
- The property must be rented out as holiday accommodation for at least 105 days (15 weeks) of the 210 days you have made it available. The time you or your family use the property is not included in this total.
You cannot use the scheme if the accommodation:
- Exceeds the 31-day limit unless unforeseen circumstances (i.e. falling ill, flight delays etc.).
- Letting a friend or family at little or no cost is also not considered a commercial let (letting to a friend or family for the total cost is fine). Make sure you keep track of this.
- The first year is the probation period, and the criteria mentioned above must be met even if you are not making any profits.
The Furnished Holiday Let must be reserved for tourists and holidaymakers only
This requirement makes it necessary to make the Holiday Letting only available to tourists and holidaymakers in order to achieve the Furnished Holiday Let status. To clarify:
- Do not let the property to friends or family or for personal use.
- The property must not be given to local businesses and residents to let.
Even though charging a total undiscounted price to friends and family is considered, it is believed that the second condition should be given more importance.
Suppose you are letting one or more FHL properties, and one or a number of these properties does not meet the letting condition of 105 days (mentioned above). In that case, you can elect to apply the condition to the average occupancy rate for all the properties – this is known as Averaging Election, which cannot be applied to lettings of the UK and the European Union together; however, they must be treated separately.
Period of grace election
Another significant advantage of being a fully FHL is that even if the 105 days condition is not met, there is a possibility of relief. If the intention of letting was there and the 105 days condition was met in a preceding year, a period of grace election can be made and can continue for a maximum of two years. In the third consecutive year, the conditions have to be met to retain the status of a fully-equipped Holiday Letting.
Given that all the conditions mentioned above are agreed upon, you will become eligible to enjoy all the benefits and advantages of being a fitted Holiday Letting owner. The main advantage being that Furnished Holiday Lettings have over other types of lettings is that HMRC regards it as a trade practice.
Advantages of an FHL
Your FHL (or holiday home), has a number of advantages over other types of lettings. They are:
Amplified pension contributions
A business owner of a fully furnished Holiday Letting can increase pension contributions; this is because the profits are treated as earnings for pension contributions.
The capital allowances
There are specific capital allowances you can claim. These can include the costs of furniture, heating and lighting, household fixtures, letting agent fees, reasonable costs etc. So, if you want to pull out the stops on decorating and furnishing your FHL, you will be able to deduct these costs from your pre-tax profits.
Reduced Capital Gains
For FHLs, Capital Gains Tax relief such as holdover relief, entrepreneur’s relief, and rollover relief is available because these properties are treated as business assets rather than investments. For example, at the time of disposal of the letting, gains arising could be taxed at the reduced 10% entrepreneur’s relief tax rate than the usual 28% rate applied to gains on disposal of regular residential lettings. In addition, if the disposal earnings are ‘rolled over’ into the procurement of another furnished holiday let or other business assets, then no tax liability would arise.
Suppose the entire or a considerable part of the business is disposed of. The entrepreneur’s relief can be applied if the qualifying conditions were reached in the tax year before disposal. Such relief can allow up to £10 million of gains to be taxed at just 10% instead of 18% or 28%. However, HMRC will not allow claiming an entrepreneur’s tax relief if an individual property is disposed of that includes various other furnished holiday lettings. Out of a firm that includes various furnished holiday letting entities.
Rollover relief is available where the proceeds of your qualifying FHL are then reinvested in another business asset. You can then roll any gain on the disposal of the ‘old’ property until the ‘new’ property is sold.
If a person sells a valuable asset to their relative (apart from their spouse or partner), Capital Gains Tax is to be paid on the market value rate. However, Furnished Holiday Letting being a business asset, has different rules. The gains arising from these properties are passed to the fresh owner of the asset. The Capital Gains tax in any amount is then delayed till the fresh owner decides to dispose of it.
With regular lettings, profit is split according to the owners for tax purposes. So, if an individual owns 50% of the property, then they are eligible to pay 50% tax on the profit received. However, since FHLs are treated as trade practices, it gives you greater flexibility as to how you split the profits. In this way, tax planning becomes easy.
Disadvantages of an FHL
Value Added Tax (VAT)
If your FHL property portfolio turnover exceeds the VAT threshold (currently £85,000), you will need to become VAT registered. To exceed the current VAT threshold would mean letting out your property every week for twelve months (or 52 weeks) at £1,635 per week. To achieve full occupancy for the whole year, it is doubtful you will have to register for VAT unless you expand your property portfolio. Just keep an eye on the numbers, so you do not get caught out!
If the income you generate from your paying guests does exceed the threshold, you must register for VAT and pay the standard rate of 20%, which is the amount you are charging on top for your guests to stay.
If you are an entrepreneur operating numerous businesses and are already VAT registered, your FHL property income could then come under the VAT spotlight.
In England, if a property is available for letting on a short-term basis for more than 140 days in a tax year, it becomes eligible for business tax rates instead of council tax. For Wales’s properties, the rules are a bit different. The property must be allowed for a minimum of seventy days in a tax year for company rates to be applicable.
Different rules apply to properties in Scotland and Northern Ireland, areas where small firms’ rates relief are available.
The planning limitations and rules differ throughout the country. For instance, planning permission is required in London for properties let for 90 days on a short-term basis in a tax year. However, if the property is on a leasehold, the lease agreement could forbid subletting on a short-term basis.
If the owner and their family are using a furnished vacation let for private use, then all capital allowances to be claimed in that specific tax year are limited on a reasonable basis. Technically, the limitation should also apply to the yearly costs for the property, like power charges, water charges, local property taxes, etc.
If all the qualifying conditions for a furnished vacation let are met, you can claim all the above advantages; therefore, FHL can be an excellent investment as the returns could be lucrative and better than regular residential lettings.
There are disadvantages, but the tax reliefs easily outweigh them. However, the whole process requires time, effort, and focus. Location will be the most significant factor for you to maximise your income, with the management and marketing of the property also essential to any longer-term success.
It will possibly need upfront investment with painting or decorating and providing your guest with all the facilities you would expect a holiday let to have. However, first impressions last, and as your guests are only likely there for a short period, you must leave a good impression if you want return reservations and new bookings through positive word of mouth.
It is advisable to hire a professional accountant who will help you meet the conditions required, any tax reliefs and VAT requirements and help you retain the FHL status, which is not an easy task. Please find out more about our FHL accounting service or call us on the number above.