Using your home for your limited company: tax implications of a formal rental agreement

Many directors use their homes as part of running their limited companies, with HMRC providing several ways to account for this. Some approaches are straightforward, while others require more structure and evidence.​

Before deciding how to handle the use of home, it's necessary to understand how each method works and the implications of choosing one approach over another. ​

Directors have three recognised methods for accounting for the company's use of their home. Each operates under different tax rules, and the choice affects the costs for both the company and the director.​

HMRC allows companies to pay employees (including directors) a fixed £6 per week to cover the general costs of working from home if the business does not have an office or the employee’s job requires them to live far away from the office. No receipts are required, and no apportionment is needed, although the individual must be able to provide evidence that they work from home. ​

This is the simplest method as it's exempt from personal income tax and is commonly used where the level of home use is modest.​

With this method, the company can only reimburse the extra household running costs incurred by working from home. This includes a proportion of increased gas, electricity, and broadband use. It does not include fixed costs such as council tax, rent, mortgage interest, or insurance as these would be payable regardless of whether or not you from home. ​

This method requires reasonable apportionment and evidence of additional utility costs.​

Some directors opt to enter into a rental agreement with their company. This involves the company paying rent for the use of part of the home. ​

This method can provide a more accurate reflection of the cost of dedicated space, but introduces different tax treatment and requires a more structured approach.​

A formal rental agreement is a structured arrangement where the company pays rent to the director for the use of part of their home. Once in place, it changes the tax treatment for both parties as HMRC no longer views the arrangement as an employee expense but as a landlord-tenant relationship.​

Under this method, the director allows the company to use a specific part of their home and the company pays a "commercially reasonable" rent in return. ​

Although HMRC does not explicitly require a written agreement, it is strongly advisable to have one. A written agreement provides clarity on the area being rented, the rent payable, and the basis of calculation, and strengthens the audit trail if queried.​

HMRC expects the rent charged to reflect genuine business use. A common approach is to apportion household costs based on: ​

Alternatively, directors may benchmark the arrangement by considering local market rates for comparable office space, although most arrangements rely on the apportionment of existing household costs. ​

The key point is that rent should be justifiable and not set artificially high. An inflated rent risks HMRC challenge, as it could be viewed as a disguised distribution rather than a genuine rental payment. ​

Rent paid to the director is considered a deductible business expense for corporation tax purposes, provided the rent is commercial and the arrangement is properly documented.​

This method can therefore create a more substantial company deduction compared to the flat-rate or additional-cost approaches, particularly where a dedicated workspace is used regularly by the business.​

When the company pays rent to a director under a formal rental agreement, these payments are treated as property income. This means the director must declare the rent received on their Self Assessment tax return. While the income is taxable, the director can claim a proportion of their household expenses as allowable deductions, reducing the taxable profit. ​

The allowable expenses will depend on how much of the property is being rented to the company and for how long. In most cases, directors apportion these costs based on floor area and the number of hours the space is used for business. ​

Common deductible expenses include:​

Only the relevant proportion can be claimed and directors should keep reasonable records to support the calculation. After deducting these expenses, the remaining rental profit is taxed at the director's marginal income tax rate. ​

Income tax relief for the relevant proportion of mortgage interest is given at 20% in the tax computation rather than as a deduction from rental profit.​

For higher-rate and additional-rate taxpayers, this can result in a noticeable tax change if the level of deductible expenses does not closely match the rent received or if mortgage interest forms a significant part of the expenses. For this reason, many rental agreements are structured so that the rental profit is modest, neutral, or largely absorbed by allowable expenses. ​

Entering into a formal rental agreement brings an additional consideration that does not arise under the simpler home office expense methods: the potential impact on PPR relief when the property is eventually sold. ​

Normally, PPR relief eliminates Capital Gains Tax (CGT) on the gain arising from the sale of a person's main home. However, HMRC can restrict this relief if any part of the property has been used exclusively for business purposes. The key point is that it is the use of the space that determines whether relief is restricted, not the rental agreement itself. A director does not lose PPR simply because rent is charged to the company. ​

PPR becomes an issue only where a room or area is used wholly for business and has no domestic use at all. In that situation, HMRC may treat that portion of the property as outside the scope of the main residence exemption. Only the area used exclusively for business, and only for the period it was used that way, becomes potentially chargeable to CGT. The calculation is normally based on the proportion of the property's floor area and the length of time exclusive-use applied. ​

In practice, most directors avoid exclusivity because it's unnecessary to justify a rental agreement. If a room is used for more than one purpose, PPR is normally preserved in full. Even occasional personal use is sufficient to prevent the room being classed as exclusively business-use. For this reason, accountants typically advise clients to maintain some domestic function in the room to ensure PPR relief remains fully available when the property is sold.​

Before entering into a rental agreement with the company, directors should also consider practical and non-tax factors.​

These include:​

It's also important to assess whether a rental agreement is beneficial in practice. For some, the rental income may produce a taxable profit if allowable expenses don't fully offset the rent, resulting in an income tax charge that reduces or eliminates the overall tax advantage.​

A rental agreement tends to be most suitable where:​

Directors have 3 recognised ways to account for the company's use of their home, each suited to a different level of homeworking. The HMRC flat rate and the reimbursement of additional household costs are both relatively straightforward, low-risk options that work well where the home use is modest or informal.​

A formal rental agreement offers a more structured approach and can reflect the cost of a dedicated workspace more accurately. However, it also introduces property income, apportionment of expenses, and the need to avoid exclusive business use if full PPR relief is to be preserved.​

Choosing the right method depends on how the home is used, the level of associated costs, and the director's appetite for administration. Taking professional advice helps ensure the approach selected is commercially reasonable, compliant, and suitable for the director's wider tax position.​

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If you're looking for an accountant for your limited company who can help with not only this but your corporation taxes and accounting as a whole, get in touch or book a free consultation with one of our team.​