Earn 'tax free' money from renting a room in your home

02 October 2012

Households could generate £65 billion of income ‘tax free’ each year by taking advantage of the Rent a Room scheme

Times are obviously still hard for the vast majority of people and with this being the case it is advisable to look at ways to reduce your outgoings and to increase your income.

When looking into ways of increasing your income you should look close to home and consider i) what do you not need that you can sell and ii) what do you own that you can make money from. It is the later of these that this article concentrates on. For most of us our biggest, most valuable asset is our home. 15.5 million homes in the UK have at least one spare bedroom more than they need according to the government’s calculations*, over half of these households have two empty rooms.  So can we make any money from this? Yes, here’s how:

1.       Rent a Room Scheme

Under the Governments “Rent a Room” scheme you can receive up to £4,250 a year tax-free (£2,125 if letting jointly) by letting furnished rooms in your home.

2.       How does the scheme work

This is an optional scheme that lets you earn a certain amount of tax-free income from renting furnished accommodation in your only or main home. This tax free amount is 'gross' income, that is, the total of your receipts before taking away your expenses.

Note:If you're getting benefits you must report this change in your financial circumstances to your local benefit office.

3.       Can anyone take advantage of the scheme?

Yes they can. However, the scheme does not apply if your home is converted into separate flats that you rent out.

4.       I rent my home; can I take advantage of the scheme?

Again yes you can and you therefore do not need to be a homeowner. However, if you are renting, you should check whether your lease/tenancy agreement allows you to take in a lodger.

5.       Do I need to any other permission?

If you have a mortgage it is advisable to write your mortgage company a letter putting them on notice that you are taking in a lodger. You should also notify your insurance company, as they could use this as an excuse to wriggle out of a claim if you do not notify them.

6.       Who get the tax benefit?

There are advantages and disadvantages of the scheme - it's simply a matter of working out what is best for you.

If you're in the Rent a Room scheme you can't claim any expenses relating to the letting (for example, wear and tear, insurance, repairs, heating and lighting) or losses.

You need to work out whether you're better off joining this scheme or declaring all of your letting income and claiming expenses on your tax return. To do this you need to compare the following:

·         how much income you are left with after your expenses (your profit)

·         the amount of your receipts (rent plus any income from laundry services, meals, etc.) over £4,250 or £2,125 if    letting jointly

For example John receives £8,000 a year for renting out a room and has expenses of £4,500. His profit is £3,500. The excess of his rent received over the rent a room limit of £4,250 is £3,750.

If you don't use the scheme you will pay Income Tax on the profit. If you do use the scheme you will pay tax on the excess of rent received over the rent a room limit. If you receive less than £4,250 (or £2,125 if you're letting jointly) you don’t have to do the comparison.

8.       Rent a Room scheme and running a business

If you run a bed and breakfast business, guest house, or provide catering and cleaning services as part of a letting business, the scheme can still apply to you. You'll need to complete the relevant parts of the self-employment pages of your Self-Assessment tax return. The help sheet below has more detail on the scheme which will help non-traders too.

If you want to be part of the scheme

If you don't normally receive a tax return and your receipts are below the tax-free thresholds for the scheme, the tax exemption is automatic so you don't need to do anything.

If you wish to be part of the scheme and your receipts are above the tax-free threshold, you must tell HMRC. You can do this by completing a Self-Assessment tax return and claiming the allowance.

If you don't want to be part of the scheme

If you don’t want to be part of the scheme you should complete a tax return within the usual deadline and declare the relevant lettings income and expenses on the property pages. You can choose not to be part of the scheme even if your rents are below £4,250 or £2,125.

The other way of looking at the scheme is not only to consider what ‘monthly’ cash you can make but also how taking advantage of the scheme could affect your mortgage. For example, if you used the cash that you made from renting a room to make ‘overpayments’ on your monthly mortgage payments, you could easily reduce a 25 year mortgage term by almost 10 years and save yourself over £20,000 interest in the process!

So how do you find lodgers?

Well, there are various websites which effectively match rooms with lodgers. We spoke one such website called www.mondaytofriday.com, who describe themselves as a lodging service for the working week.  In this respect homeowners can advertise a spare bedroom for rent from Monday to Friday, leaving it free for weekend visitors. 

According to site founder Judy Niner, “Mondaytofriday renting means that you only share your home for the working week, meaning much less intrusion. It’s a small price to pay for such a great impact on the cost and length of a mortgage”

The service provided by www.mondaytofriday.com costs £29.95 for 3 months for homeowners to advertise their room.  Lodgers can browse available properties and make contact with homeowners for free.

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