HMRC's surprise overhaul of its Business Income Manual has left UK landlords and businesses reeling as the new rules on deducting interest on loans threaten to significantly hike tax bills. The changes, which took effect on 1 July 2026, aim to clarify how business proprietors can deduct interest on loans, but critics warn they will have far-reaching consequences for unincorporated businesses and property income.
Under the previous guidance, business proprietors were allowed to withdraw capital from their business and replace it with a loan, provided the interest was used to fund working capital. This principle was crucial for landlords who often fund property purchases personally before refinancing and withdrawing that capital. However, the revised guidance now requires replacement borrowing to be directly linked to new business expenditure or assets.
The updated Business Income Manual specifically states that "simply exchanging existing capital for loan finance does not on its own satisfy the wholly and exclusively test provided by S34." A new example in BIM45690 takes this further, ruling that interest on a loan taken to replace capital used for personal expenses is non-deductible.
An open letter to HMRC warns that the official description of these changes as "clarifying examples" understates their impact. Critics argue that the new wording fundamentally alters the interpretation of interest deductibility, moving away from the principle that replacing business capital with borrowing still constitutes funding the business.
For UK households and businesses in the property sector, this reinterpretation could lead to increased tax liabilities. Landlords who have refinanced properties may find their interest payments are no longer fully deductible against their rental income, potentially impacting investment decisions and cash flow for property businesses.