Hybrid partnerships: another concerning tax scheme for landlords
As part of HMRC’s regular spotlight on tax arrangements which they consider don’t work, HMRC have recently flagged a scheme being promoted to landlords.
How does this reinforce cautions around a closely related earlier scheme, and what should users of these schemes do next?
Earlier warnings: Spotlight 63
The latest scheme is detailed in HMRC’s Spotlight 63a guidance. It has features similar to an earlier scheme which was covered by Spotlight 63 and involves hybrid arrangements using partnerships, corporations and property ownership.
We are assisting a number of landlords who are under HMRC investigation into the so-called Spotlight 63 scheme
In some cases, HMRC argue a position which results in the taxpayer paying more tax than if they’d simply done nothing, along with interest on late paid tax and also a high risk of penalties.
Spotlight 63 covered a scheme where a property landlord transfers properties to a limited liability partnership (LLP). The LLP members are the landlord and also a company owned by the landlord. Other family individuals might also be members of the LLP and shareholders in the company. The arrangements centre on the LLP allocating LLP profits to members as it saw fit.
The promoters of the scheme claim the following tax benefits of the Spotlight 63 scheme :
- A large part of the profits could be allocated to the company which was then taxed at lower corporation tax rates than the income tax rates that would apply to the landlord and other family individuals.
- According to the promoters, the scheme could sidestep the impact of the buy to let landlord interest deduction restrictions. Under these rules, interest paid by an individual landlord is deductible only at 20% even where the landlord’s rental income is taxed at the higher 40% or 45% rates.
Some promoters have also claimed other benefits of the scheme. This includes:
- A step up in the base cost of the properties, meaning that the LLP could sell the properties with much less tax than had the landlord chosen to sell directly.
- The landlord’s ability to avoid inheritance tax (IHT)on the death of an LLP member.
Why HMRC warned against the Spotlight 63 scheme
In HMRC’s view, the Spotlight 63 scheme doesn’t work as the arrangements are caught by either the mixed partnership rules or other anti-avoidance legislation.
Specifically, HMRC said that:
- Profits allocated to the company could be taxed as if they were income of the family individuals
- As well as applying higher income tax rates, the buy to let interest rules apply to disallow interest deductions in the normal way
- Transfers to the LLP are subject to Stamp Duty Land Tax (SDLT), and SDLT also applies each time profits are allocated in a different way
- The rules for ATED (annual tax on enveloped dwellings) apply unless exemption is applied for. The ATED rules impose annual tax charges plus a fixed 17% SDLT rate
As for claims relating to base cost uplift and IHT avoidance: these claims are often so extraordinary that we and most other tax professionals could see no legitimate basis for them at all. Which of course was HMRC’s view expressed in Spotlight 63.
How the Spotlight 63a scheme differs
The hybrid partnerships scheme outlined in Spotlight 63a focuses on broadly similar arrangements to the Spotlight 63 scheme. The new feature is that the LLP agrees to assume responsibility for mortgage payments through an indemnity arrangement.
The promoters of the scheme argue that the arrangement avoids the mixed partnership rules because the company has made a valid capital contribution to the LLP through the indemnity arrangement. They also argue that this avoids the impact of the buy to let interest restrictions.
For users of the Spotlight 63a scheme, HMRC warn that the LLP income can be taxed on the family individuals with the full impact of the buy to let interest rules applying. They also reinforce the Spotlight 63 caveats on capital gains base costs, SDLT and ATED.
The legal position
It is important to note that the Spotlights state HMRC’s view. These views are not law.
Most of the principles of HMRC’s position in Spotlight 63 and 63a are likely to be technically correct as to why the arrangements don’t work. However, the tax consequences do depend on exactly what the landlord has done: each taxpayer’s specific circumstances will vary.
In particular, HMRC may take a more punitive view on arriving at the resulting tax liability and how to unwind arrangements. It is important that the specific facts and circumstances are considered separately for each landlord and proper advice received.
What users of the schemes should do next
Where things seem to be too good to be true, they normally are! If you are approached by an outfit promoting a tax scheme with seemingly magical benefits, we strongly recommend that you seek an objective professional view from one of our property tax specialists
If you have already entered into this sort of scheme, we would also recommend seeking advice, as early disclosure to HMRC and presenting a technical proposal can often reduce the tax and penalties payable.
Our property tax specialists, including members of our Tax Risk& Dispute Resolution team, have extensive experience of dealing with proactive settlement proposals or HMRC investigations into schemes. This includes specific experience helping landlords who have used the Spotlight 63 scheme.
We can help steer you through the process with HMRC in the best way.
For a conversation about how we can help you, get in touch with Andrew Levene using the form below.
Contact Andrew
Frequently asked questions: HMRC Spotlight 63a and landlord tax schemes
What is HMRC Spotlight 63a and who is it aimed at?
HMRC Spotlight 63a is a warning about tax avoidance schemes targeting property landlords. It highlights arrangements involving LLPs, companies and property transfers that HMRC believe do not achieve the claimed tax advantages.
The Spotlight is aimed at landlords, business owners and advisers who may have been introduced to these structures. Its purpose is to flag high-risk planning and encourage taxpayers to seek independent advice before entering or continuing with such arrangements.
How do these landlord tax schemes claim to reduce tax?
These schemes typically aim to shift rental profits from individuals to a company taxed at lower corporation tax rates.
They often use LLPs to reallocate profits and claim additional benefits, such as avoiding mortgage interest relief restrictions or reducing capital gains tax on sale. Some promoters also suggest inheritance tax advantages. However, HMRC consider these claimed outcomes to be ineffective under existing tax legislation.
Why do HMRC say these schemes don’t work?
HMRC’s position is that anti-avoidance rules, particularly the mixed partnership rules, override the intended tax benefits.
In practice, HMRC may reallocate profits back to the individual landlords and apply higher income tax rates, while also enforcing normal restrictions on interest relief. This means the structure may be ignored for tax purposes, removing the expected advantages and potentially increasing the overall tax liability.
What are the tax risks if a landlord uses one of these arrangements?
The main risk is that HMRC will challenge the arrangement and seek additional tax, interest and penalties.
In some cases, landlords may end up paying more tax than if they had done nothing. There may also be exposure to stamp duty land tax (SDLT) on property transfers and ongoing structures, and potentially the annual tax on enveloped dwellings (ATED). These cumulative costs can be significant.
Do these schemes really avoid mortgage interest relief restrictions?
No. HMRC’s view is that the buy to let interest restriction rules still apply.
Although promoters may claim that using a company or LLP structure bypasses these rules, HMRC generally treat the income as belonging to the individual landlord. As a result, interest relief is still limited to the basic rate (currently 20%) for higher-rate taxpayers.
What happens if HMRC open an investigation into one of these schemes?
HMRC may review the structure, challenge the tax treatment and issue assessments for additional liabilities including interest on late paid tax and penalties.
The outcome will depend on the specific facts, but investigations can involve detailed enquiries, recalculations of tax, and negotiations over penalties. Early engagement and a structured response can often help reduce financial exposure and bring the matter to a resolution more efficiently.
What should landlords do if they are considering a similar scheme?
Landlords should seek independent, professional advice before entering any arrangement that appears to offer unusually favourable tax outcomes.
If the benefits seem disproportionate or overly complex, it is often a warning sign. A qualified adviser can assess whether the structure is commercially and technically sound, and whether there are more straightforward, compliant planning options available.
What should you do if you’ve already entered into one of these arrangements?
You should review your position and consider engaging with HMRC as early as possible.
Early disclosure and a proactive settlement approach can often reduce penalties and limit long-term exposure. Specialist tax dispute and property advisers, such as BKL’s teams, can help analyse your specific circumstances, unwind the structure where necessary and manage discussions with HMRC.
Is it true these schemes can eliminate capital gains tax or inheritance tax?
No. Claims of eliminating capital gains tax or inheritance tax are typically unrealistic and highly questionable.
HMRC has explicitly challenged assertions around base cost uplift and inheritance tax avoidance in these arrangements. In most cases, standard tax rules continue to apply, and attempting to bypass them through artificial structures increases the likelihood of HMRC scrutiny and challenge.
