It’s a question financial planners hear regularly, often after someone inherits money or gets a windfall. The thing is, the question isn’t always directed our way. It could be a casual conversation between friends in a coffee shop. But, it’s a big question, and despite property being a go-to option for previous generations, the consideration really requires some professional advice.
We Brits have been obsessed with owning bricks and mortar for decades. But, pension options and flexibility have come a long way recently. For a number of reasons, which we’ll outline shortly, the tide is also changing for some Buy to Let investors.
But first, let’s discuss one of the nation’s favourite subjects…
Across the UK price increases have slowed; the golden age of larger profits may have come to an end. The latest House Price Index shows the average UK house price to be £226,798; down 0.2% on the previous month and an increase of just 1.4% compared to the previous year. When you consider the latest rate of inflation is 1.9%, in real terms, the value of that asset would have been slightly eroded.
We’ve witnessed some notable declines in the South East. The London prime market (between £1 million and £10 million) is especially struggling, with Coutts reporting sales taking 6 months on average and almost a 13% discount off asking prices. Incredibly, the average discount for super prime property (worth more than £10 million) is over 21%.
Many are blaming the continued economic and political uncertainty of Brexit.
The Royal Institution of Chartered Surveyors (RICS) April market survey also shows subdued demand, with nine successive months of falling buyer inquiries. Overall, the number of listings and sales are down too.
But, even with a stagnant property market that might put off new investors, research from RICS found that even with tenant demand increasing, landlords are more likely than ever to leave the market. In fact, landlord instructions have continued to decline every quarter since mid-2016, the longest uninterrupted sequence of falling instructions since 1998. Which begs the question, why?
Times have changed
Landlords have been hit with numerous tax and legislation changes:
- Before April 2017 Buy to Let investors were able to claim mortgage interest as a business expense from rental income. This interest rate relief is slowly being axed, and since April you can only claim 25% of the interest as tax-deductible. This will reduce to zero next year, meaning more Income Tax will be liable. This could even mean negative earnings for some landlords with smaller margins.
- Since April 2016 a higher rate of Stamp Duty is due when purchasing a Buy to Let or second property. This additional outlay is tiered from 3% for properties up to £125,000 then 5%, 8%, 13% and 15% respectively for the portion of the value of the property that falls into each price tier.
- The future removal of the Section 21 notice – where landlords can give two months’ notice to a tenant to vacate. Because no reason needs to be given, it’s commonly used for rent arrears as it’s simpler and cheaper than having to go to court. Removing this clause effectively creates open-ended tenancies and large headaches for landlords with trouble tenants.
- Then, the banning of letting fees will also come into force in June this year. Whilst some agents might have abused their position, there will still be some cost to pass on to the landlord or tenant with higher rent. With the high-street still struggling, we might also see the closure of some traditional estate agents.
We’ve all heard past Buy to Let success stories, but people don’t often mention the broken boilers, rent arrears and occasionally empty property*. All make a significant impact to profits when yields are already diminishing.
In reality, being a landlord is like running your own business. It can take up significant time and attention, but if you pass this responsibility on to a letting agent, profits again are strangled with management fees. To top it off, Buy to Let mortgage lending has also become more expensive and harder to acquire.
Eggs in one basket?
With your home likely to be your biggest asset, having rental properties too would mean a significant proportion of your total wealth is wrapped up in a single asset class. This can be quite risky, as you’re widely exposed to the movement of a single market.
Having your savings in a physical, tangible asset might feel like it’s safer, but property is very illiquid, meaning you can’t quickly release its value without discounting its price. Ultimately, ‘cashing in’ a property involves its own costs and months of time. Timing the sale is also a one-time event, which can make maximising your return challenging.
Then, what to do with that money? If you want it to outperform inflation, you’ll likely need to invest it, in perhaps, a pension?
Increased pension options and flexibility
Investing in a pension means you are able to spread risk by investing in all manner of markets. Having the ability to make regular payments and withdrawals, as opposed to a single purchase and sale of a property, means that market fluctuations are smoothed out over time.
Pension Freedoms rule changes which came into effect in 2015 means you also have complete access to the full value of your pension from age 55. You can spend it as you wish, but it’s important to plan ahead as there can be tax implications, and you will want to ensure the income will last your lifetime.
Finally, pensions are actually remarkably cheap when you directly compare to the potential running costs, stamp duty, taxation and unforeseen expenses of a Buy to Let property. You also have the costs detailed from day one.
Property or pension?
This piece might sound a little over critical on Buy to Let investing, but in reality, there’s no right or wrong approach. What is clear, however, is that property can no longer be treated as a cash cow. Whether it’s best for you to purchase a Buy to Let or maximise your pension will depend on a range of personal circumstances.
It’s clear that recent legislative and tax changes have reduced the attraction for landlords. But, property could still make up part of a diversified portfolio. If you’re in the position of choosing where to invest, or are likely to inherit some money in the future, get in touch and let’s have a chat.
*Borrowers will still be responsible for maintaining the payment of any mortgage in the event that the property is not rented out, and therefore may wish to make suitable provision for this event.
The value of investments and income from them can go down as well as up and investors may not get back the amount originally invested. Levels and bases of any reliefs from taxation are subject to change and their value depends on the individual circumstances of the investor. Your home or property may be repossessed if you do not keep up repayments on your mortgage. The Financial Conduct Authority does not regulate taxation and trust advice and some aspects of buy-to-let mortgages. We suggest that you seek legal advice and advice on tax issues before purchasing a property to let. The value of a property is generally a matter of opinion and the true value may not be recognised until the property is sold. It may be difficult to sell or realise the value of the property in adverse market conditions. Accessing pension benefits early may impact on levels of retirement income and your entitlement to certain means tested benefits. Accessing pension benefits is not suitable for everyone. You should seek advice to understand your options at retirement.