Lettings Director, Leaders
Every £1 invested in the buy-to-let market in 1996 would be worth £15 today, underlining just how rewarding the market has proved to be over the years.
But does it still present the most attractive opportunity to investors?
The government has taken several steps in recent times to restrict the earning potential of some landlords, but despite these restrictions, in my view the return on a buy-to-let investment remains both reliable and substantial in the majority of cases.
High demand = large, reliable returns
Buy-to-let outperformed all other major investment types in the period between 1996 and 2014, according to a study by economist Rob Thomas of Wrigglesworth Consultancy. Every £1,000 spent in the sector would have resulted in a total return of £14,897, compared with commercial property (£4,494), government bonds (£3,329) and equities (£3,119), making it the highest performing investment option on the market.
Today, the rental market is stronger than ever, with demand at an all-time high and showing no sign of slowing in the coming years. Landlords who buy in the right locations and present their properties well can be confident they will be snapped up by quality tenants, at a good rent with a low risk of any void periods.
A recent study by PwC discovered more than half of people aged between 20 and 39 will rent, rather than own, their home by 2025. This will take the total number of homes in the private rented sector to 7.2 million by the halfway point in the next decade.
With the pool of tenants forecast to be larger than ever in the years to come, landlords can be assured of ongoing demand and stable returns in the long term.
And this is before capital growth is factored into the equation. The average UK property cost £68,000 in 1990 but this figure now stands at more than £200,000 with longer-term house price growth around six per cent per year, according to most reliable measures. This underlines just how much scope there is for landlords to benefit from rising property prices. Depending on where you invest, capital growth could even generate a more substantial payout than rental income.
So what are the challenges?
Chancellor George Osborne dealt two recent blows to landlords in the UK in the shape of an increase in stamp duty and the decision to stop landlords deducting mortgage interest costs from their rental income before calculating taxable profits from 2017.
There is no doubt these regulations will have an impact on investors, with the stamp duty policy adding three per cent to the levy paid on buy-to-let properties (an extra £7,500 on a home bought for £250,000).
Tax changes will mean landlords can only claim a flat rate 20 per cent rebate, whereas under the current rules they are able to do so at their tax band - in some cases, this is up to 45 per cent. It effectively means tax relief is being more than halved for high-rate tax payers who invest in property.
Landlords will have to do their sums carefully before making any future investments. Seeking professional advice will be more important than ever in ensuring they invest in the right property and make the most of every opportunity to increase their returns.
Confidence remains strong
Despite the new legislation, I anticipate the buy-to-let market remaining strong and investors having extreme confidence in it. The return on investment is still considerably higher than those generated by almost any other investment type.
For instance, a person with £57,500 to invest can put down a £50,000 (25 per cent deposit) on a £200,000 buy-to-let property, using the remaining £7,500 to pay the stamp duty fee under the new regulations.
Receiving a typical monthly rent of £800 (£9,600 per annum) and paying mortgage payments of £273.57 per month (£3,283 per annum) based on a buy-to-let mortgage at 2.19 per cent, the investor would enjoy a 10.98 per cent gross return on their capital investment in the first year alone from rental income, taking the size of their fund to £56,315.
This is before capital growth is taken into consideration. With many experts predicting annual house price increases of six per cent, the £200,000 property will be worth £212,000 in 12 months’ time, meaning the initial £57,500 sum would by then be worth £68,315 including rental income and capital growth - a total return of 18.8 per cent against the capital investment.
In comparison, a typical savings account from a high street lender currently offers a rate of approximately 1.4 per cent. In a year, an investor’s £57,500 fund would grow to only £58,305.
Property investors can benefit from a strong buying position, with no chain behind them, finance already in place and a flexible approach to completion. This could give them room to manoeuvre on the price they are willing to pay for a buy-to-let property to recoup part or all of the additional levies.
So while the additional stamp duty will affect investors’ initial capital outlay from 1st April 2016 and a reduction in mortgage tax relief will start to squeeze the profit landlords can achieve each year, buy-to-let is so far ahead of other investment vehicles that these pieces of legislation are unlikely to change the perspective of UK investors who have long since viewed bricks and mortar as the safest and most steady investment.
The private rented sector will continue to be a crucial supply of much-needed housing in the UK, with up to a quarter of all households expected to fall into it by 2025. With demand set to remain exceptionally high - and prices and rents rising - we are still seeing landlords and new investors continuing to invest with confidence in an asset that has demonstrated consistent growth over more than two decades.
Despite buy-to-let providing an excellent investment option for a number of years and many signs suggesting it will continue to do so in the future, there have been a number of legislative changes that could catch out unwary landlords. There are severe penalties associated with breaching these, so it is essential investors seek proper advice from the most experienced lettings professionals on the market.
The key to success will be working with qualified professionals who can help landlords maximise profit. Whether it is using an independent mortgage advisor to lower the cost of borrowing, an experienced letting agent to achieve the highest rent and lowest void periods, or a tax accountant to minimise a landlord’s tax burden, working with the best experts in these fields will pay dividends in the positive impact they will have on the long-term return from a buy-to-let investment.