Setting Up a Special Purpose Vehicle (SPV) To Purchase Properties
- December 2021
- 5 minutes
Are you interested in investing in buy-to-let properties? A tool known as Special Purpose Vehicle (SPV) is a game-changer for property investors. In this engaging guide, we’ll walk you through the ins and outs of SPVs, shedding light on their benefits, limitations, formation process, and even their unique Standard Industrial Classification (SIC) code.
Understanding the Special Purpose Vehicle (SPV) Company
A dedicated legal entity designed solely to purchase and manage buy-to-let properties. That’s precisely what an SPV is – a limited company purpose-built to serve your property investment aspirations. By consolidating multiple properties under one SPV umbrella, you gain a streamlined approach to building and expanding your buy-to-let portfolio, all while reaping the benefits of professional property management.
Once you establish an SPV, it has its own distinct assets and liabilities. This means that your properties and associated mortgages are securely held within the legal framework of the SPV, granting you valuable peace of mind. In contrast, when investing as an individual in a buy-to-let investment, the mortgage would typically be in your personal name.
Moreover, SPVs offer a range of additional advantages, such as:
Isolation and security of Assets: Safeguard your personal wealth by separating it from your investment assets. An SPV allows you to protect your property holdings, mitigating potential risks and shielding your personal finances.
Facilitating Joint Ventures: Looking to embark on a joint venture with like-minded investors? SPVs are excellent vehicles for forging successful partnerships, as they provide a clear and structured legal framework for collaboration, ensuring a smooth and mutually beneficial experience.
Unlocking Financial Opportunities: Beyond buy-to-let activities, SPVs open doors to a wide array of financial transactions. Explore diverse avenues such as securing financing, issuing bonds, or engaging in securitization, all within the framework of your SPV.
What is section24? Tax Relief changes explained
Section 24 is a tax law modification in the United Kingdom that applies to revenue from residential rental properties. Landlords will no longer be able to claim as much tax relief as they could previously.
Prior to the introduction of Section 24, you could deduct mortgage interest from your income tax bill. Other expenditures associated with rental properties, such as mortgage administration fees or loans to pay for furniture, could also be deducted.
You must now pay tax on all rental income you get. You can then claim back up to 20% of your mortgage interest costs (the basic rate of income tax).
In effect, it means landlords now pay more tax upfront. Plus, if you also receive a salary from another job, this could bump you into the next tax band which can increase the amount of tax you pay overall.
Will Section 24 affect me?
If you have any kind of loan or mortgage interest on your buy to-let property, then yes. If it is a large proportion of your costs, you will now start to pay tax on those costs – as well as your
profit. Landlords shouldn’t be burying their heads in the sand and assuming these changes will not affect them. We strongly advise assessing your buy-to-let finances or contact a tax specialist for advice.
How can landlords off-set and manage Section 24?
Changes to Section 24 tax relief apply to all landlords, however there are measures to offset the effects, such as:
Review operating costs-Reducing property operating costs is the quickest and easiest approach to recoup money lost due to increasing taxes. For example, instead of hiring a management company, you may manage the property yourself.
Re-mortgage-reviewing your overall mortgage costs and finding a more competitive loan can help minimise the impact of Section 24.
Move towards a commercial portfolio-Section 24 only applies to residential property, thus converting your investments to commercial property will allow you to avoid the ruling.
Divide profits or transfer ownership-If you have a lower-income partner or family member, dividing earnings or transferring property to them can help to balance out your tax liability.
Become a limited company-Section 24 does not apply to limited companies so incorporating your portfolio means you can avoid the tax change. Before you do this, remember that limited companies are subject to capital gains tax and corporation tax, so you’ll need to weigh up the sums involved.
Increase rent-this could make up for the higher tax burden but it’s a fine balancing act because you’ll need to avoid slipping into the next tax band
Sell your properties– for many landlords, sadly selling up is the only viable solution, particularly if properties are in stagnant markets.
Advantages of Special Purpose Vehicles (SPVs)
- SPVs are not subject to section 24 tax charges. This methods helps to improve the overall tax efficiency.
- Simplified Understanding and Quick Underwriting: SPVs are straightforward to understand and evaluate, enabling efficient decision-making processes.
- Limited Financial Risks: As a separate legal entity, an SPV restricts financial risks to the company itself, supplying a layer of protection for your personal assets.
- Tax Efficiency: Opting for a limited company buy-to-let structure allows you to pay corporation tax at a rate of 19% (2020/21) solely on rental profits and property gains.
- Reduced Personal Income Tax Liability: By limiting your personal income, SPVs help in minimising potential income tax obligations.
- Capital Deployment Flexibility: Using the existing funds within an SPV allows you to reinvest in additional buy-to-let properties, maximising the growth of your portfolio.
- Streamlined Portfolio Management: merging multiple properties under a single SPV umbrella leads to reduced administrative burden and ongoing costs.
- Simplified Company Closure: Should the need arise, closing an existing company via Members Voluntary Liquidation (MVL) offers a straightforward process and potential benefits.
- Tax-Free Director’s Loan: Following a personal investment into the SPV as a loan, you have the flexibility to withdraw funds through a director’s loan without incurring tax liabilities.
- Enhanced Tax Deductions: Unlike properties held in personal names, an SPV can claim full relief on mortgage interest as an allowable expense, supplying significant tax advantages.
Disadvantages of Special Purpose Vehicles (SPVs)
- Higher Mortgage Interest Rates: When compared to personal mortgage rates, SPV mortgages may come with higher interest rates, affecting overall profitability.
- Potential Personal Guarantees: Some lenders may require directors of the SPV to supply personal guarantees, adding a layer of personal liability.
- Transfer Costs and Taxes: Transferring existing properties into an SPV may incur expenses such as Stamp Duty Land Tax, Capital Gains Tax, and legal fees.
- Exclusion from Capital Gains Allowance: Unlike individuals who benefit from an annual capital gains allowance (£12,300 in 2020/21), SPVs do not receive such allowances upon selling a property.
- Dividend Taxation: If you choose to withdraw all rental profits as income, dividend tax obligations may apply to shareholders, with rates of 7.5% (Basic rate), 32.5% (Higher rate), and 38.1% (Additional rate).
By carefully considering the advantages and disadvantages of SPVs, you can make informed decisions about incorporating this powerful tool into your buy-to-let investment strategy.
Accounting and Taxation of Special Purpose Vehicles (SPVs)
Managing the accounting and taxation of your SPV is a straightforward process. To ensure compliance, you need to send annual accounts, a confirmation statement, and CT600 to Companies House and HMRC respectively. The associated costs are minimal and can be deducted from your taxes.
If you are an individual property owner, your profits may be subject to a 40% tax rate. However, by using an SPV, you will only need to pay a corporation tax of 19%. Moreover, each shareholder can receive tax-free dividends of up to £2,000 (excluding children under 18). Further dividends are subject to taxation based on your overall income in the financial year, at the following rates:
- 8.75% (Basic Rate)
- 33.75% (Higher Rate)
- 39.35% (Additional Rate)
You get £3,000 in dividends and earn £29,570 in wages in the 2022 to 2023 tax year.
This gives you a total income of £32,570.
You have a Personal Allowance of £12,570. Take this off your total income to leave a taxable income of £20,000. This is in the basic rate tax band, so you would pay:
- 20% tax on £17,000 of wages
- no tax on £2,000 of dividends, because of the dividend allowance
- 75% tax on £1,000 of dividends
In addition, your SPV must file a confirmation statement annually with Companies House. If any changes occur in the SPV’s capital, shareholder information, or SIC codes, an early statement should be submitted.
How to Create an SPV?
SPVs are commonly established as limited companies, but they can also be formed as trusts or partnerships. Setting up your SPV company is a quick process that can be completed within hours. You can either visit the Companies House website or engage your accountant to handle the process for you. The following information is required to form an SPV:
- Appoint at least one director and one shareholder.
- Provide the company name, registered address, and details of the directors.
- Clearly define the company’s business in the Memorandum of Association (MOA) and Articles of Association (AOA).
- You have the option to add additional directors and/or a company secretary.
- Allocate a percentage share of the company to each shareholder.
- Shareholders holding more than 25% are considered persons with significant control (PSC).
- PSCs’ names, dates of birth, service addresses, and nationalities will be listed on the public register.
- Determine the appropriate SIC code for your SPV.
By adhering to these guidelines, you can efficiently manage the accounting and taxation of your SPV while maximizing tax benefits and ensuring compliance with regulatory requirements.
Choosing the appropriate SIC code for your SPV depends on the nature of its activities. Here are some recommended SIC codes commonly used for SPVs:
68100 – Buying and selling of own real estate
68209 – Other letting operating of own leased real estate
68320 – Management of real estate on a fee or contract basis
68310 – Real estate agencies
These codes reflect the primary economic activities typically associated with SPVs engaged in real estate investment, management, and related services.
When it comes to shares, a company has various options beyond ordinary shares. While ordinary shares grant equal voting rights, dividend entitlements, and asset distribution rights, additional share classes can be introduced with shareholder approval. Here are some examples:
- Deferred Ordinary Shares
- Non-voting Ordinary Shares
- Redeemable Shares
- Preference Shares
- Cumulative Preference Shares
- Redeemable Preference Shares
Alphabet Share Structure
Companies may also issue alphabet shares, such as Ordinary A and Ordinary B shares, which allow for the payment of unequal dividends among shareholders. It is crucial to ensure compliance with HMRC guidance, particularly regarding the settlement legislation, when structuring share classes. The number of share classes is flexible, but shareholder consent is necessary when introducing new classes. By considering these options, you can tailor the share structure of your SPV to meet the specific requirements and objectives of your business. Adding/Gifting spouse and children to the SPV by way of gifting shares
This simply means transferring shares of your SPV to your spouse or children. Because transfers between spouses are exempt from Capital Gains Tax, it is common for husbands and wives to gift shares in their SPVs to the other spouse (CGT). Gifting shares to children, on the other hand, may result in CGT.
There is no stamp duty payable if the shares are gifted or transferred without consideration. If the consideration for the shares is £1,000 or more, stamp duty of 0.5 percent is payable on the transaction. You need to keep the lender mind when gifting shares as this increases their risk, and you might breach your lending terms.
Gifting shares to children might trigger inheritance tax, so professional advice is highly recommended.
Professional advice recommended
It is advisable to seek professional guidance to ensure compliance with tax regulations and consider any tax implications that may arise in your specific circumstances. Professional advice will help you make informed decisions based on your SPV’s unique requirements, objectives, and the applicable legal and regulatory framework.