Mortgage Interest Relief explained

on October 20, 2015

Thousands of buy-to-let landlords will see their earnings hit after George Osborne cracked down on mortgage interest tax relief in his summer Budget today.

In a move which will ‘level the playing field for homebuyers and investors’, the Chancellor announced earlier this year that the amount landlords can claim as relief will be set at the basic rate of tax – currently 20 per cent.  The announcement mentioned,

  1. Tax relief for landlords on mortgage interest payments to fall
  2. Will only be able to claim the basic rate of tax – 20% rather than 45%
  3. The relief is estimated to cost the Treasury £6.3billion every year
  4. Experts warn landlords may hike rents for tenants to compensate
  5. Could be good for first-time buyers in property market with limited supply
  6. People who rent out a room in their home to be able to earn £7,000 tax free


This change will be phased in over a four-year period from April 2017. Currently, landlords can claim tax relief on monthly interest repayments at the top level of tax they pay of 45 per cent. Mortgage interest relief is estimated to cost £6.3billion a year, a Freedom for Information request revealed recently.



Tax has always been charged on income received from rental properties. This is calculated after allowable expenses are deducted. Major areas landlords are eligible for tax relief include:

Rental insurance

Any maintenance of the property

Letting agency fees

10% of annual NET rental income to cover depreciation of furnishings

And crucially:


Interest on a buy-to-let mortgage

This meant that if you have an interest-only mortgage, your whole monthly repayment will be tax deductible.

This allowed buy-to-let landlords to offset their mortgage interest payments against their income, whereas homeowners who live in their properties cannot.

The current rules on Interest Relief

At the moment (and until April 2016), you can deduct your mortgage interest (plus associated costs like arrangement fees) along with all your other costs before determining your taxable profit.

So to take a simple example:

£10,000 rental income

£5,000 mortgage interest costs

£1,000 other costs

= £4,000 profit

You are then taxed on that profit at your marginal rate — so a basic rate (currently 20%) taxpayer would pay tax of £800, and a higher rate (currently 40%) taxpayer would pay £1,600 and additional rates for income above £ 150,000.

The new rules on Interest Relief

By the time the new measures have fully taken effect in April 2020, you will no longer be able to deduct mortgage interest costs from your taxable profits.

Instead, everyone will be able to claim a basic rate allowance for their finance costs — irrespective of their marginal rate.

(This is being phased in over four years, and I’ll link to the policy paper for a description of how that works because it’s long and a bit distracting.)

So let’s take the same figures as above and see how things have changed:

£10,000 rental income

[£5,000 mortgage interest costs – NOT DEDUCTED]

£1,000 other costs

= £9,000 profit


A basic rate taxpayer would pay £1,800 tax on that new £9,000 profit, and a higher rate taxpayer would pay £3,600.

BUT WAIT…everyone gets to claim a basic rate deduction of 20% of that £5,000 mortgage interest cost. That’s £1,000.

So the final position is…

Basic rate taxpayer:

20% tax on £9,000 profit = £1,800

Minus £1,000 deduction (20% of £5,000 interest cost)

= £800 tax to pay


Higher rate taxpayer:

40% tax on £9,000 profit = £3,600

Minus £1,000 deduction (20% of £5,000 interest cost)

= £2,600 tax to pay


So what’s happened?

Firstly, you’ll notice that the basic rate taxpayer ends up paying exactly the same amount of tax under the new system: £800. The higher rate taxpayer, however, ends up paying £1,000 more.


But this doesn’t mean that the basic rate taxpayer is unaffected. Because the deduction is applied after calculating the taxable profit, everyone’s “profit” has actually increased — from £4,000 to £9,000.

This means that people whose income (from property plus employment and any other sources) is currently below the higher rate threshold may end up getting pulled into the higher rate band as a result of their higher property “profits”.

(The silver lining, such that it is, is that the higher rate threshold will have risen from its current £42,385 to £50,000 by the time this measure takes full effect in 2020.)

what do we do what do we do? Firstly, DON’T PANIC. Speak to your accountant and see what alternatives you have. You have four years to think and plan. Armed with the right knowledge, there will always be action you can take to reduce the impact of these changes

Filed under  Blog 

Pin It on Pinterest