Iain Rankin explores the tax implications of renting personal assets to a limited company.
Over the last decade, the emergence of the sharing economy has meant that millions of people worldwide are now able to earn supplemental income from personal assets. Companies like Airbnb have expanded beyond short-term rentals; it is now possible to book local tours, classes, photoshoots, and other bespoke experiences. While this opens up a world of opportunities, any business should be structured properly to ensure tax efficiency.
Individual or company ownership?
If an individual is already earning via self-employment or PAYE, they may seek to incorporate a new business - particularly if they are in the higher-rate tax bracket - in order to take advantage of favourable corporation tax rates and tax-planning options. Although there are many more advantages to incorporation, there are some circumstances where an individual may prefer - or require - to retain ownership of a personal asset, rather than transferring ownership to a limited company.
Unless the individual has already built up funds in an existing company from a related venture, a newly-formed company will have limited capital, preventing it from purchasing the asset outright. The transfer can be achieved through crediting a director’s loan account to represent the amount due to the director. In the case of an existing company, if the director has borrowed money and has not yet repaid it, this can offset the balance owed. In either case, an individual must raise an invoice to their company listing all items; the sale price must be in keeping with the market value at the time of sale.
With such a wide range of possibilities, careful consideration is crucial. This would be especially true for the transfer of specialised or classic/antique equipment, where asset values may appreciate over time. If the asset was purchased many years ago and current market value has appreciated beyond the purchase price, the sale could give rise to a capital gains tax (CGT) liability for the individual. In this scenario, a director’s loan is unfavourable as the individual has incurred a tax bill but has received no financial compensation for the sale; a transfer of funds should be made, if possible.
Renting assets to the company
An entirely legal alternative would be for the individual to rent their personal asset to their limited company for business use. To ensure the arrangement is legitimate, the individual should draw up a formal lease agreement with the company, treating the agreement as if they were leasing to another party. The agreement should detail the monthly cost of the lease, due dates for payment(s), the term of the lease, any requirements relating to insurance, and arrangements in the event of a missed payment. The rental fee must be reasonable and in line with rental rates for similar assets locally.
The individual would then declare the lease/rental income via a self-assessment tax return. While retaining the ability to use the asset for personal use may be required, if it is instead used solely for business purposes this can reduce one’s overall tax liability by allowing the individual taxpayer to deduct several expense types from their rental profits. This could include insurance, interest, repairs/maintenance and/or general administrative costs, amongst others.
The key point to note is that if said individual pays higher-rate income tax at 40%, they stand to gain greater tax relief from these expenses than they would have via a limited company (19%).
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Example: Sale or lease of asset? Jamie pays tax at a higher rate via PAYE. Six months ago, Jamie purchased a state-of-the-art motorhome for £20,000, but it hasn’t seen much use since. To bring in extra income, Jamie decides to rent out the motorhome for weekend trips. There are two possible scenarios. In scenario A, Jamie sells the motorhome to a new limited company at market value (i.e. £17,500). The transfer is made and the company owns the vehicle. After the first accounting period, the business has been successful, bringing in £10,000. We will ignore other company costs to simplify our example; between repairs/maintenance, insurance, and the other aforementioned costs, the company incurs £3,000 of costs on the motorhome throughout the year, leaving a profit of £7,000. In scenario A, the company is due to pay £1,330 (i.e. £7,000 x 19%) in corporation tax on its profits. In Scenario B, Jamie instead rents the motorhome to the company at a flat rate of £300 per month (i.e. £3,600 annually). Over the course of a year, this would incur a total income tax bill of £1,440; but bear in mind that the company receives a corporation tax deduction of £684 (i.e. £3,600 x 19%) on the rent paid to Jamie. The company cannot deduct the overhead costs mentioned above, so its profits are £10,000 less the rental fee of £3,600 = £6,400. The corporation tax in scenario B comes to £1,216. If Jamie does not use the asset personally, it will be possible to deduct all the aforementioned costs of running the vehicle from rental income. Jamie has brought in £3,600 but is able to deduct the same £3,000 of expenditure from this, leaving £600 profit and a personal tax liability of £240. At this point, the combined tax liability in scenario B is higher, at £1,456; and we must also consider that Jamie would have a recurring tax liability in future years. |
Capital allowances
However, another benefit of renting the motorhome to the company is that Jamie can claim the purchase of the vehicle as a capital allowance. As motorhomes are intended to carry people rather than goods, they will unfortunately not be eligible for the annual investment allowance (AIA), which would have allowed tax relief on the full amount in the first year. However, Jamie can claim the writing-down allowance (WDA) annually. In HMRC’s view, motorhomes are treated as a car, for which there is a WDA of 18% (i.e. £3,150 in this case). For other vehicles, the percentage will depend on the carbon dioxide emissions; a comprehensive list of rates can be found on HMRC’s website.
This will provide over five years of annual tax relief by deducting a percentage of market value from profits each year until the full market value has been depleted. Annually, this saves Jamie, a higher rate taxpayer, £1,260 in income tax (40%), whereas the company would only save £598.50 (19%) in corporation tax; a difference of £661.50.
The majority (90%) of the market value will be absorbed after five years. With rental income less expenditure netting £600 profit a year, scenario B would virtually leave Jamie at a loss, which can be carried forward to offset profit in future years. As before, the company would pay £1,216 corporation tax, with Jamie saving £1,260 in income tax.
In scenario A, if the company had purchased the motorhome and claimed WDA, its corporation tax liability would fall from £1,330 to £731.50. While this looks good for the company, in this scenario Jamie does not receive any income tax deduction. Crucially, he has also given up ownership of an asset, which could be at risk if the company ever found itself in financial difficulty.
Tax and non-tax issues
In this article, I have looked at an example of a higher-rate taxpayer. If Jamie had a basic-rate or non-taxpaying spouse they could benefit through transferring the asset between them – inter-spouse transfers being exempt from CGT - to reduce, or even eliminate, the tax liability on rental profits.
As you can see, leasing personal assets is a strategy with ‘pros’ and ‘cons’, but one which may appeal, particularly for those looking to incorporate a ‘side’ business. While it may not always be advantageous to do so, there are other benefits to take into account. In high-risk industries (e.g. adventure-style activities or extreme sports), if a customer sustains injuries there is a risk of litigation. Leasing allows the individual to retain ownership, protecting the assets from being seized if the company finds itself in serious trouble.
Practical tip
You may rent many asset types to your limited company; office space, machinery, equipment, vehicles, computers, property, etc. Certain assets may require special treatment, so you should always consult with a professional to ensure your arrangements are legitimate.
