In this months property tax article Arthur Weller explains a generous annual tax-free saving that is available if you rent out part of your main home.
This tax relief is known as the rent-a-room relief.
What is the Rent-a-Room Relief?
If you decide to let a room in your main residence, you can receive a rental income of up to £4,250 and have no tax liability[1].
In order to claim this allowance, the property must satisfy the following conditions:
a) you must also live in the property;
b) the room you are letting out must be fully furnished.
If you claim the rent-a-room relief, then it is not possible to claim any expenditure that you have incurred with regards to the letting.
This is a very common strategy for those people who have houses that are too large for their needs. For example, if your children have left home, then you may decide to rent the room they lived in for an additional tax-free income.
Bill and Mary have a three-bedroom detached house. They are both higher-rate taxpayers.
Their daughter Louise leaves home and moves in with her long-term boyfriend, so they decide to let her room out to a local teacher.
They receive an annual rental income of £4,000 per annum.
There is no tax liability on this income as it is below the £4,250 threshold value.
|
If the income received is greater than the annual allowance, then tax is liable on the amount above this value.
Howard is a bachelor but lives in a luxury five-bedroom detached house on the outskirts of London. He is also a higher-rate taxpayer.
He decides to let a room to a newly graduated doctor for £6,000 per annum.
Howard will have no tax liability on the first £4,250. However, he will be liable to pay tax on the remaining £1,750 of income at 40%. This means that he will be liable to pay £700 in tax.
|
If you decide to let a room in your main residence and claim the relief, then you must inform the Inland Revenue. This is regardless of whether you will have a tax liability.
If you do not inform the revenue, then you will be taxed as though you are running a normal property-letting business, where your expenses will be deducted from any rental income you receive.
Choosing Not to Use the Relief
Tax Tip: Consider not using the relief if you have high income and also high expenses.
If you are letting a room in your property, then it is not necessary that you claim the relief. As mentioned in the previous section, you will be taxed as a normal property-letting business if you do not inform the Inland Revenue that you want to use the relief.
Generally speaking, if your rental income is going to be significantly greater than £4,250, then it may not be beneficial to use the relief.
The following two case studies illustrate typical scenarios when it is beneficial to use each method.
Case Study: When it is Beneficial to Use the Rent-a-Room Relief |
John is a higher-rate taxpayer and lets out a room in his property for £7,000 per annum. His expenses are £1,000.
Tax liability if rent-a-room relief is not claimed If rent-a-room relief is not claimed, then he has a taxable income of £6,000 (i.e., £7,000 – £1,000).
This means that his tax liability is calculated as follows: 40% × £6,000 = £2,400
Tax liability if rent-a-room relief is claimed If rent-a-room relief is claimed, then he has a taxable income of £2,750 (i.e., £7,000 – £4,250).
This means that his tax liability is calculated as follows: 40% × £2,750 = £1,100
|
As you can see from the above case study, it is beneficial for John to claim the rent-a-room relief. This is because by claiming it, John will pay £1,300 less in tax on an annual basis. Over a 10-year period, this is £13,000 in tax savings.
Case Study: When it is NOT Beneficial to Use the Rent-a-Room Relief |
Lisa is a higher-rate taxpayer and lets out a room in her property for £9,000 per annum. Her expenses are £6,000 per annum.
Tax liability if rent-a-room relief is not claimed If rent-a-room relief is not claimed, then she has a taxable income of £3,000 (i.e., £9,000 – £6,000).
This means that her tax liability is calculated as follows: 40% × £3,000 = £1,200
Tax liability if rent-a-room relief is claimed If rent-a-room relief is claimed, then she has a taxable income of £4,750 (i.e., £9,000 – £4,250).
This means that her tax liability is calculated as follows: 40% × £4,750 = £1,900 |
As you can see from the above case study, it is beneficial for Lisa not to use the rent-a-room relief. This is because by claiming it, Lisa will pay £700 less in tax on an annual basis. Over a 10-year period, this is £7,000 in tax savings.
Renting Out in Joint Ownership
The Inland Revenue states that
‘The exemption limit of £4,250 is reduced to £2,125 if during the tax year to April 5, someone else received income from letting accommodation in the same property.’
This is likely to occur if you own a property in a partnership.
