You could be forgiven for thinking that Buy-to-Let as a money-spinner is now “dead in the water”. The press reporting of the changes in Stamp Duty and tax reliefs available would have us believe this was the case and that we are about to witness the death of the sector. However, perhaps they are jumping to unnecessary conclusions?
What has actually happened?
HMRC announced that additional residential property purchases over £40000 would have a further 3% Stamp Duty Land Tax to pay from 1st April 2016. This prompted an unseemly scramble for existing and would be landlords to “buy before the price goes up” with people trying to get in before the deadline and doing so successfully. Reports have indicated a 140% increase in buy-to-let lending over March 2015.
From April 2017 mortgage interest relief will drop to a flat rate of 20% (basic rate tax) on finance costs, whereas now the marginal tax rate of 20, 40 or 45% applies. Added to this, landlords will not be able to deduct interest on improvement loans or fees. The 10% allowance for wear and tear will also be gone in favour of actual cost deduction.
Possible further pressure
The Prudential Regulation Authority (PRA) who are responsible for Banking Regulation are also releasing a consultation paper on buy-to-let lending which will no doubt increase the burden of proof on clients to show affordability and income verification. At the moment a buy-to-let mortgage is relatively easy to get in terms of income proof, as most lenders are happy from a risk underwriting perspective to simply ensure that the property “washes its own face”.
Currently, lenders are increasing their “stress testing” of rental income from 125% of an arbitrary interest rate (usually 5% to 5.99%) to 145% of the same rate.
In basic terms say the property you are buying is a 2-bed flat costing £250000, you want a mortgage of £187500 (75% loan to value) and the rental you are likely to achieve is £1000 per month according to the valuing surveyor.
On this you could achieve a 2-year fixed rate mortgage of 2.89% on an interest only basis over say 20 years which would cost you £451.56 per month. Brilliant news you would think as you have a profit of £548.44 per month, the lender is bound to love this deal yes?
Well not in reality. The lender may not like the deal as they will look at things differently because of “stress testing” the rental income to allow for substantial increases in interest rates, rental voids etc. Typically, this would mean taking the notional mortgage rate to be 5.5% making the notional monthly payment £859.37 (still below the rental income so OK so far). They will then “stress” this by 125% making a notional monthly payment of £1074 per month. Result: they will not lend or they will reduce the loan offer made.
Clearly this set of figures was made deliberately near the mark to illustrate what may happen, but in the real world this is all too often the case. If you then factor in that a number of lenders are increasing their “stress” to 145% of 5.5% to take account of the fact that the cost of running a buy-to-let has risen for the tax reasons above, the problem will only get worse.
The unintended (or maybe even intended -more tax receipts) result is that rental payments from tenants will have to be increased (if contracts allow) in order for the landlord to still make a sensible profit and also be able to buy the property in the first place.
Is buy-to-let “dead in the water” then?
Landlords will have no choice but to review their portfolios of properties and consider their viability under the new rules, perhaps increasing rentals as a result. This may be causing some landlords to hold fire on further purchases until things settle down. This very position may well open up an opportunity for first time buyers such as yacht crew looking to buy “entry level” properties and has certainly created a window of opportunity to get into the market at possibly static prices.
More established, high net worth yacht crew may also consider looking at this as an opportunity to buy as the smaller scale investors look fearfully on not knowing whether to jump in or not.
The backdrop of strong rises in house prices and rents over recent years make buy-to-let an interesting facet to any investment plans. A word of warning though since putting all your eggs in one basket is never a good idea and property investment is no exception. Take advice on what to do from a professional Financial & Mortgage Adviser on the best way forward for your full circumstances. Work out the numbers carefully and consider setting up a Limited Company as an alternative holding vehicle for your property, especially if you intend to have multiple properties.
If you would like further advice on any of the points raised in this article please feel free to email me on the link below:
Any tax advice in this publication is not intended or written by Marine Accounts to be used by a client or entity for the purpose of (i) avoiding penalties that may be imposed on any taxpayer or (ii) promoting, marketing or recommending to another party matters herein.