Historically, mortgage interest had been a fully deductible expense for all UK taxpayers (whether UK tax resident or not), irrespective of their marginal rate of tax.
From April 2017, new rules are being phased in over the following four tax years to limit the tax relief to the basic tax rate, such that only 20% relief will be allowed from 2020.
The way that relief is given has also changed – whereas previously, mortgage interest was a deductible expense, now only a percentage of interest will be deductible, with the remainder given as a tax credit. By 2020, there will only be a 20% tax credit for mortgage interest (i.e. no initial deduction).
In 2017-18, all UK taxpayers get a deduction for 75% of their mortgage interest at their relevant rate, as well as a 20% tax credit for the remaining 25% of their mortgage interest. In 2018-19, a deduction will be given for 50% of their mortgage interest, with a 20% tax credit for the remaining 50%. In 2019-20, this becomes a deduction for 25% of their mortgage interest with a 20% credit for the remaining 75%. As mentioned, from April 2020, there will be just a 20% credit on the entire amount.
In practice, this means that higher rate taxpayers get an effective deduction for mortgage interest of 35% in 2017/18, 30% in 2018/19, 25% in 2019/20 and 20% from 2020 onwards.
Please note that the 20% credit available is the lower of:
- finance costs – costs not deducted from rental income in the tax year (this will be a proportion of finance costs for the transitional years) plus any finance costs brought forward
- property business profits – the profits of the property business in the tax year (after using any brought forward losses)
- adjusted total income – the income (after losses and reliefs, and excluding savings and dividends income) that exceeds your personal allowance
This means that in certain circumstances e.g. when someone has brought forward rental losses, and only savings and dividend income (even if the individual has earned income up to the personal allowance), no relief for mortgage interest will be available for that individual.
The slight difference following these new rules for basic rate taxpayers, other than potentially the above, is that the relevant income will be calculated before factoring in the mortgage interest. This may create additional tax for someone who has total income which is close to the higher rate tax bracket.