Surviving A Landlord Tax Investigation
Avoid a landlord tax investigation
The best way to survive a tax investigation is to avoid one occurring in the first place.
A small percentage of individuals are selected for investigation on a random basis, but in the majority of cases something triggers H M Revenue and Customs (HMRC) risk assessment computer program to flag the tax return as questionable. You should also be aware that letting agents send full lists of landlords to the Inland Revenue and Tax Inspectors also trawl through the papers and online listings for landlords advertising properties to let.
Landlords need to avoid unusual transactions
If you have an unusual transaction in the year, perhaps a high level of repairs, legal fees or additional mortgage interest, explain the reason for the variation in the white space on your tax return. The computer program looks for patterns in income or expenses year on year, and also compares your business to a typical rental business. So if your lettings business has unusual aspects, give the Tax Inspector the background information to stop him having to open an investigation to ask why.
Landlords best defence to a tax investigation
If you do get selected for investigation the best defence is having complete and accurate records, which agree precisely to the figures reported on your tax return. Every aspect of your buy-to-let business should be supported by either a third party document, such as a receipt, contract, or bank statement, or a written note of the expense or income made at time the transaction is carried out. For instance, when you bank money received from tenant, record who paid you and why; whether it represents rent or a deposit, and which tenancy it relates to. The Tax Inspector will seek to deny you any relief for expenditure claimed that is not supported by the relevant receipt. Be warned when paying a tradesman by cash without the receipt.
The Tax Inspector may ask you to explain one-off deposits made into your bank account. If you have a separate bank account to handle your lettings business this can avoid family gifts, or betting winnings, being mistaken for undeclared business rental income. However you will still need to have an explanation ready for all your non-business income, because the Tax Inspector will certainly ask.
Be clear about what expenses you are claiming and why. The most difficult area is often the distinction between repairs, which can be deducted from rents, and improvements, which cannot. A repair replaces an item that previously existed, perhaps with a better quality fitting. An improvement adds something to the property. For example an extension is an improvement, as it did not exist before. Replacing windows with double glazed units is a repair, because the old windows were already in place. A word of caution; if a buy-to-let property is purchased in a dilapidated condition and expenditure is required to bring the property up to a fit state to let, then the Tax Inspector is likely to insist that none of expenditure is allowable as a deduction against the business rental income.
Tax claim expense needs evidence
It is also important that a claim for motor expenses is supported by the relevant business mileage log. The Tax Inspector will seek to deny you a tax deduction for any guestimate of motor expenses. If you have a letting agent to manage your properties then the Tax Inspector is likely to look very closely at your claim for motor expenses.
Always be courteous if you meet the Tax Inspector as part of the investigation, but be guarded in what you say. Do not be drawn into estimating income, expenses, dates or other data. Only reply with the facts that you are absolutely sure of. If you cannot be certain of the detail requested, tell the Inspector you will provide the information in a letter at a later stage.
It is essential to have an experienced tax adviser accompany you to any meeting you attend with the Revenue, and to take full notes of everything that is said. A tax adviser can also help negotiate down any additional tax due, penalties and interest suggested as a settlement at the end of the investigation. Many companies offer insurance to cover the professional costs of dealing with a tax investigation, which can relieve much of the stress an investigation imposes.
Jason Sharp Taxation Solutions Limited
This information sheet is designed to be a general guide only and no liability is accepted by Taxation Solutions Limited for any loss occasioned in reliance on the information given therein.