An accountancy firm is warning that there are pitfalls in trying to avoid the higher taxation which will result from the Budget announcement to reduce tax breaks for buy to let investors. 

Gradually being phased in over four years from April 2017, the changes announced by Chancellor George Osborne will mean that mortgage interest payments and arrangement fees incurred when taking out buy-to-let mortgages will be restricted to the basic rate of tax, currently 20 per cent.

Under current rules, a 45 per cent taxpayer with an annual rental income of £10,000 and annual mortgage interest of £6,000 would get a tax bill on the rental profit of £1,800. But this tax bill could rise to as much as £3,200 under the new plans.

Now accountancy firm Jeffreys Henry LLP says that while some landlords may consider raising rent to compensate for the higher tax bill or selling altogether, longer term property investors are looking more closely at the advantages of a limited company.

Jeffreys Henry says not only can limited companies offset the full mortgage interest payments against its tax bill, rental profits are taxed at the corporation tax rate of 20 per cent, as opposed to up to 45 per cent if held personally. 

As a result of other Budget announcements, corporation tax rate will fall to 19 per cent in 2017 and 18 per cent by 2020.

The firm says that from April 2016, under new dividend rules, landlords or any shareholder in a limited company could extract up to £5,000 tax free in the form of dividends. The firm says including children or grandchildren as shareholders could also be an advantageous option.

However, it warns there are pitfalls in this option.

Transferring existing property into a limited company may incur a Capital Gains Tax  and Stamp Duty Land Tax liability and there are fewer mortgage products available to companies than for individuals.

It says some existing landlords may be better off shifting rental income to spouses on lower tax bands before looking at limited companies.