If a client lends money to his property investment company to purchase a rental property, can he claim income tax relief on the interest he pays on the borrowings to do so?
An individual may be eligible for income tax relief in respect of interest paid on a loan, where monies are borrowed:
• To acquire ordinary shares of a qualifying close company
• To lend the borrowings to such a company, the loan needs to be used wholly and exclusively for the purposes of the business of the close company or of any associated qualifying close or
• In repaying an earlier loan that had qualified for interest relief.
• The purchase of a rental property would qualify as being for the business of your company.
There are however further conditions that still need to be met.
Interest on a loan to an individual is eligible for relief only if–
(a) when the interest is paid the company is not a close investment-holding company (CIHC), and
(b) the capital recovery condition and either the full-time working conditions or the material interest conditions are met.
The ‘capital recovery condition’ is met if in the period from the use of the loan to the date of payment of the interest, the individual has not recovered any capital from the company, apart from any amount taken into account in reducing the amount of interest eligible for relief.
The ‘full-time’ working condition is met as long as at the time the interest is paid the individual holds some part of the company’s ordinary share capital. In addition, during the period from the loan being used to the time when the interest is paid, he must have spent the greater part of his time in the actual management or conduct of the company or one of its associated companies.
If this condition is not met, consider the alternative ‘material interest condition’. Basically, an individual has a material interest if he, alone or with any associate(s), owns beneficially or is able to control more than 5% of the ordinary share capital of the company or would be entitled to more than 5% of the assets on a winding-up, etc.
Therefore, as he says he owns the company, it would appear the material interest condition is met and so, as long as he does not breach the capital recovery condition, he will be entitled to income tax relief on the interest paid on his borrowings.[1]
[1] Reproduced from Croner Taxwise