Non-resident landlords - how a series of new rules which form a part of the UK’s new transfer pricing regime will impact on non-resident landlords

Non-resident landlords

Mike Boutell describes how a series of new rules which form a part of the UK's new transfer pricing regime will impact on non-resident landlords

Overseas landlords frequently acquire investment properties in the UK with 100% finance and obtain a tax deduction for the interest paid. This often results in little or even no tax being paid on rental income. With effect from 6th April 1999 the rules for determining the amount of interest that may be deducted for tax purposes by an overseas company or partnership will become more restrictive. These rules form part of the UK's new transfer pricing regime.

The whole or part of the interest paid on a loan to acquire or improve real estate may be disallowed if the loan is of an amount greater than could have been obtained from an independent third party. For example, this might be the case where the loan is made by an 'associate' or an 'associate' has guaranteed the non-residents' borrowing or given other security. In broad terms, if an independent borrower would only have lent 75% (rather than 100%) without a guarantee or security then 25% of the interest may be disallowed.

These new rules also have implications for the operation of the non-resident landlord's (NRL) scheme under which a tenant of an overseas landlord (or where there is a UK letting agent, the letting agent) must deduct basic rate income tax (current rate 23%) from payments made to the landlord and pay it to the Revenue. As an alternative, overseas landlords can apply to the Revenue for approval to receive payments from tenants or letting agents without deduction.

A letting agent required to operate the NRL scheme may calculate the tax due by deducting 'deductible expenses' from payments made to the landlord. Deductible expenses are expenses paid by the letting agent which he can reasonably be satisfied are deductible for tax purposes.

The application of the new transfer pricing rules to interest relief could make life difficult for letting agents. Hitherto, letting agents could reasonably assume that any interest paid on a loan taken out to acquire or improve premises would be tax deductible. Following the introduction of the new rules, letting agents may not in all cases safely make this assumption. The Revenue have not made any public statement on how the new rules might affect letting agents in these circumstances. It is hoped that where the letting agent does not have intimate knowledge of the lending arrangements of the non-resident he may continue to assume that all interest paid will be tax deductible but this cannot be taken for granted. In particular cases it may be prudent for letting agents to refer the point specifically to the Revenue.

Whilst there is no practical evidence yet of how the Revenue will apply the new transfer pricing regime to overseas landlords and letting agents under the NRL scheme, landlords should nevertheless be reviewing their financing arrangements and letting agents need to consider whether they should, in particular cases, deduct additional sums from payments made to overseas landlords.