Homeowners in the UK who have opted to take on lodgers are finding themselves caught in a tax bind. The cost of living, including mortgage rates and rents, has sharply risen, yet the government’s tax relief for such homeowners has remained largely unchanged. This disparity is leading to increased financial pressures for those who rent out rooms in their homes.

An Uptick in Lodgers Amid Rising Expenses

According to SpareRoom, a property sharing platform, there has been an astonishing 89% increase in homeowners taking in lodgers from January 2021 to January 2024. This surge is primarily attributed to escalating mortgage costs, making it necessary for many to find additional income sources. However, the tax relief for renting out rooms, known as “Rent-a-Room relief,” has only seen a single significant update since its inception in 1997. It was raised from £4,250 to £7,500 in 2016 by then-chancellor George Osborne.

Rent Increases Outpace Tax Relief

In the past four years, room rents in London have climbed by 34%, from an average of £757 to £1,014. If this rate of inflation were applied to the government’s tax-free threshold under the Rent-a-Room scheme, it would currently stand at around £10,050, far above the actual threshold of £7,500. In areas like West Central London, where average rents are even higher (£1,351), the tax burden on families is significantly greater, potentially reaching up to £3,484 annually.

Calls for Threshold Adjustment

Matt Hutchinson, a director at SpareRoom, argues that if the government aims to support both homeowners and renters struggling with rising costs, it should reconsider and adjust the tax thresholds of the Rent-a-Room scheme. With over 20 million vacant bedrooms in owner-occupied properties in England, there’s a vast potential for alleviating housing shortages and financial burdens. Yet, the current tax system, which imposes a tax rate of 20%, 40%, or 45% on any rental income above £7,500, depending on the homeowner’s income, is limiting this potential.

The Impact on Home Buyers and Owners

The trend of taking in lodgers is not limited to existing homeowners. Mortgage Advice Bureau reports that over half (52%) of prospective home buyers plan on taking in lodgers to supplement their income, a strategy influenced by higher mortgage rates. Mortgage broker Samuel Mather-Holgate noted an increase in clients opting for lodgers to cope with the rising cost of living. Some mortgage lenders even consider this additional income when assessing a buyer’s affordability, aiding in securing a home.

Government’s Stance Amid Tax Burden Concerns

Shaun Moore, a tax expert at wealth manager Quilter, criticises the government’s approach. He highlights the heavy tax burden on individuals renting out spare rooms, especially in high-cost areas like London. Despite last year’s Autumn Statement’s reduction in National Insurance rates, Moore argues that the government is still increasing its tax revenue through less obvious means, including the outdated Rent-a-Room scheme.

The Treasury defends its position, stating that the current tax-free threshold of £7,500 for the Rent a Room scheme strikes a balance between encouraging the rental of spare rooms and protecting public finances. Nonetheless, landlords are allowed to charge rents above this threshold, subjecting them to additional tax.

A Balancing Act Between Relief and Revenue

As homeowners navigate the challenges of rising living costs and mortgage rates, the debate over the Rent-a-Room relief threshold becomes increasingly relevant. The government’s need to balance incentivising room rentals with maintaining public finance stability is at the heart of this issue. Homeowners, prospective buyers, and policy experts continue to voice their concerns, hoping for a resolution that aligns tax relief with the economic realities of today.