Is the interest on a loan to a company still allowable after property sale?

Question - is the interest on a loan to a company still allowable after property sale?

HMRC has opened an enquiry into the personal self-assessment tax return of one of our clients. Many years ago, the client loaned funds to a trading company. These were obtained by increasing the mortgage on the taxpayer's home at that time. Some years after the funds were borrowed and the loan made to the company, the taxpayer moved house and took out a new mortgage to purchase the new property.

HMRC is now arguing that the whole purpose of the new loan was to purchase the new house. Consequently, the department is saying that tax relief on the mortgage interest from the date of the new borrowing is no longer allowable.

My thoughts are that HMRC is wrong here, but can't quite work out the statutory basis and the argument to rebut the department.

Query 18,994- Borrower.

Answer - is the interest on a loan to a company still allowable after property sale?

I am assuming that the loan to the trading company was a 'qualifying loan' under ITA 2007, s 392 and hence the interest relief was obtainable by the taxpayer.

Recovery of capital in this case will arise only if capital is repaid in some form by the company. This is irrespective of whether the individual uses the capital repaid to settle the loan.

The effect of the recovery of capital will result in relief on interest being withdrawn. If the company repays only part of the loan, only part of the interest will be available as a relief.

Capital recovery in this situation will arise only when there is:

• a sale, gift or repayment of any part of the ordinary share capital; or
• a repayment of any part of a loan or advance made to the company; or
• an assignment of any debt due from the company; or
• the company repays to the individual an amount of a loan or advance from that individual.

ITA 2007,s 408 also stipulates that the replacement of a qualifying loan will not affect the treatment of the original qualifying loan.

The remortgage of the loan does not result in the settlement of the loan because the company has not taken any of the above steps. Had the original mortgage not been used to partly invest into the company, the funds available on remortgage would have been greater.

When working with HMRC, I would suggest that the Borrower shows that the company has not repaid the loan and, consequently, the original amount remains outstanding.

Reshma Johar, Tax Manager, Raffingers

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For help on a personal tax matter, speak directly to Reshma Johar at reshma.johar@raffingers.co.uk.

Credit: Taxation