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I'm in the process of buying a two bed property and have a few friends interested in renting out the spare room.

Looking into it, it seems this would be taxable income though there is the rent a room scheme which comes to about £350 a month.

Living just outside London the going value of a room to rent in my area is higher than this but I'm unsure if it's worth charging more.

I currently sit at around £30k salary with, usually, a 30% yearly bonus. With the income from the rent there is a chance that if I charge more I'll put myself into the higher rate of tax.

With this in mind, can anyone advise what the best way of approaching it is?

  • Should I just stick with the £350 untaxed rental income?
  • Is it possible to have the lodger-friend pay the internet bill to make up the difference? Or is that taxed also?
  • Is it worth just charging more and dealing with the tax implications?
  • Would a partner contributing to bills be taxable income?
  • This question is quite specific, so if you don't get a comprehensive answer here, you might want to try asking it on property118.com instead. – Steve Melnikoff Oct 15 '14 at 12:41
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    Are you buying without a mortgage ? If no, your lender would have to be informed and permission required from them. – DumbCoder Oct 15 '14 at 13:17
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    Visit hmrc.gov.uk and enter "rental income" in their search box. £2,500 rental income a year is tax free, and there are lots of costs that you can deduce from the income, for example a portion of your mortgage interest. You just put everything into your self assessment, not very difficult. – gnasher729 Oct 16 '14 at 10:54
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Just charge more if you want to charge more. More money is still more money!

Most people ask this type of question because they don't understand what the "higher tax rate" actually means.

The point at which you pay the higher tax rate varies year to year as the UK government changes the brackets and allowances, so lets simplify things and imagine that the higher tax rate starts at exactly 40,000 pounds.

Right now your income each year is 30,000 + 30% so that's 39,000. If you earned say 2,000 pounds, then this would make you a higher rate tax payer. However, the higher rate only applies to any income you earn over and above 40,000 per year. The first 40,000 will still be taxed at the basic rate - you won't start paying more tax just because you've gone over 40,000. In fact, in this scenario you have earned 41,000 - so you will still pay 20% on the first 40,000, and the higher rate of 40% will only apply to the excess 1,000.

Yes, once you go over the bracket you will only receive 60% of what you earn rather than 80% of it - but it's better to earn 60% of the rent than earn nothing by not charging as much.

There are also a lot of allowable expenses that you can claim against the income. The rent-a-room scheme is one such allowance, but you can also claim allowances for things like mortgage interest and wear and tear on furnishings. So the amount of true "profit" that you actually are liable for tax on will be a lot smaller than the amount you receive each month in cash.

Also bear in mind that as a UK resident and/or citizen you are eligible for the personal allowance, which is taken off of your annual income before your total earnings are assessed for tax - so you may not be as close to the higher tax bracket as you imagine.

See here for the latest rates and allowances in the UK

1

The current state in the UK (2015) is that you can charge 'gross' rent of up to £4,250 per year without any additional tax burdens. As you've worked out this is about £350 per month. This does not take into consideration any bills that are shared between you, so if you were to also charge for the internet then that would get added to your income.

For calculating how much tax you would end up paying there are basically 2 options:

  1. Pay tax on any overage at your regular tax rate
  2. Ignore the tax free amount, and pay tax on your 'net' income (after all bills/expenses are deducted)

Unfortunately the choice between those is very much a "it depends". Gov.uk has quite a lot of good documentation on it and gives some example amounts. Basically the rent-a-room scheme is doing the maths of pretending that you had up to £4,250 of expenses/bills you can offset against the earnings.

So, back to your question of how much tax you'd end up paying, if you went with option 1 and were in the 40% bracket you would pay 40% tax on anything above the £4,250. So £400 per month (£4,800 pa) would give you £4,580 after tax. That's an extra £50 from your friend, for an extra £30 for you. Charging £600 per month would get you about £500 per month etc.

You or your partner wouldn't be taxed on them contributing to the bills unless you've got some form of agreement in place that they can live there with you! They'll be covered under giving money to friends / relatives.

As a side, if the internet bill happened to be in your friend's name then I think that that would be acceptable (and they could just happen to let you use it).

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I could not comment, so I'll broaden my comment to make an answer...

In the US (I'm not familiar with the UK/EU tax laws), there are quite a few tax considerations. First, you need to determine if you are essentially the landlord or if this 'roommate' is a 'partner'.

For instance, if you are the landlord, there are some interesting implications:

  • You are essentially running a sole-proprietorship selling your room/service.
  • While your profit may be taxable income, your expenses may be deductible.
  • You should consult with a tax lawyer to determine all the details but this could work out quite nicely for you. (alternatively, you can also talk to a rental agency for some details because they deal with this all the time).

On the other hand, if you and this 'roommate' are partners, then you could potentially claim this arrangement is just a gift or some other personal arrangement and it becomes a slippery slope in terms of how you report this arrangement to the [UK-]IRS.

Bottom line is there are a lot of considerations and you may be best served by talking to a real tax lawyer (or rental agency).

Once again, I'm in the US and so do not know how much of this applies to the UK.

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    The UK has two schemes for this, Rent a Room Scheme and regular rental. I think only the latter is like the US system, not sure the former has a US equivalent, so it may not be that comparable – Gagravarr Oct 23 '14 at 18:33
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    This is a nice answer for the US, but the rules in the UK are quite different. – thepassiveinvestor Nov 16 '14 at 13:42

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