Buy-to-let has been a mainstay of the residential property sector for the past decade. By the third quarter of 2015, 14.5 per cent of all mortgage lending was headed to buy-to-let purchases. But changes to the taxation of buy-to-let landlords in this year’s Budget could be the straw that breaks this particular camel’s back.
This Budget confirmed that the Government is going to introduce a three per cent stamp duty surcharge for all second homes over £40,000 in value. That will hit holiday home purchasers, of course, but it’s going to hurt buy-to-let landlords far more. The Government seems to have declared open season on landlords. Steve Olejniak, sales director at Mortgages for Business, speculates, “George Osborne must have had a very bad experience with a landlord back in his student days.”
An exemption for larger landlords had been expected. That would certainly have supported the Government’s stated desire to discourage rogue landlords. Randeesh Sandhu, CEO of Urban Exposure, says, “You’d think the Chancellor would want to promote institutional development in build-to-rent, purpose-built developments, professionally managed, and increasing the supply of properties to rent. So it’s a surprise to everybody that the exemption’s not there.”
LOOKING FOR LOOPHOLES?
The Government has closed off one potential loophole; companies will pay the surcharge even on the first residential property purchased, so there’s no point setting up a special purpose vehicle to avoid the charge.
There are, however, two possible exemptions where multiple dwellings are bought in a single transaction. If more than two properties are bought together, purchasers can apply for multiple dwelling relief. That can create significant savings since the rate of SDLT is then based on the average value per property, not the overall transaction value. For deals involving more than six dwellings, purchasers can choose to apply non-residential rates of SDLT. (But in that case, Randeesh Sandhu says, they wll still get hit by the Chancellor with a rise in commercial property stamp duty.) That could lead to an increased interest in multiple purchases on new developments as landlords eye savings in stamp duty.
Stuart Law, CEO at Assetz for Investors, thinks the impact of a three per cent additional duty may have been overstated. “At the forecast growth rate of five per cent in house prices this year,” he points out, “it will take just seven months to get back! So let’s move on.”
The numbers back this up. Research by Jackson-Stops & Staff shows that for eight out of ten UK regions, house price growth this year should be higher than the stamp duty increase. In London, for instance, average prices are forecast to increase by £70,000, against stamp duty of £32,433.
But the increase in SDLT wasn’t the only change in the budget. Buy-to-let properties will now be disadvantaged compared to other investable assets by a higher rate of Capital Gains Tax (CGT). While an investor in shares or funds will pay CGT at the new lower rate of 10 or 20 per cent depending on his marginal tax rate), a buy-to-let landlord will pay CGT at 18 per cent or 28 per cent. (Richard Lambert, CEO of the National Landlords’ Association, points out that the Chancellor is discouraging buy-to-let investors from retaining their properties, but has also, ironically, made it more expensive for them to sell.)
David Smith, Director of Financial Planning at Tilney Bestinvest, says the change is deeply damaging for buy-to-let investors. He believes it’s now far more tax efficient for individuals to consider pooled residential property based investment funds instead. Naomi Heaton, CEO of fund manager London Central Portfolio, says that’s particularly the case when (as in the case of LCP’s funds) a fund can be placed in a tax wrapper such as a SIPP or ISA, sheltering the income as well as the capital gains from tax. While SDLT is payable at purchase and CGT on disposal of a buy-to-lets, the real issue for many is the removal of mortgage interest from allowable expenses, taking effect next year, and the removal of the 10 per cent ‘wear and tear’ allowance. This could have a double effect for many landlords, not only increasing the income on which they pay tax, but also pushing them into a higher tax band.
A report from accountants Smith & Williamson shows that a landlord with four properties could see a 14 per cent drop in income once the tax change is fully implemented in 2021. Landlords who have bought primarily for price appreciation, and who currently just break even on their mortgage costs, could end up under water.
However, unlike the SDLT changes, this tax change can be circumvented by setting up a company to hold the properties. Administratively it’s easy to do; Steve Olejnik, Sales Director at Mortgages for Business, says, “You can buy a limited company off the shelf for £15.”
He’s seen mortgage applications from companies increase from 18 per cent to just over 50 per cent of all applications.
Though there may be some pipeline effect as landlords try to beat the stamp duty deadline, he expects the proportion of corporate business to continue at much higher levels than previously. “The majority of landlords will now set up companies if they’re coming into the market fresh,” he says.
This Budget’s reduction in the corporate tax rate from 20 per cent to 17 per cent makes incorporation even more tax efficient for those starting out in buy to let.
But investors who already have properties may not find the decision so easy: there will be an immediate SLDT hit on transfer of ownership from the individual to the company, together with CGT on any profit. That may be one reason that while the NLA says 40 per cent of landlords are considering incorporation, only one per cent have actually done it. Richard Lambert says, “Many landlords will realise that incorporating simply doesn’t stack up financially.”
Finance has also, traditionally, been more expensive for companies. But Steve Olejniak says that’s changed, as lenders have started to compete aggressively for corporate buy-to-let business. Foundation Home Loans has reduced its pricing on corporate mortgages, Paragon is active in the space, and challenger banks like Shawbrook and Aldermore, as well as Axis, Keystone Buy-to-Let Mortgage, and Fleet Mortgages, all offer competitive products.
It’s difficult to work out what’s happening in the market right now, as the past few months have seen a flurry of buyers trying to get deals done before the stamp duty surcharge came in. The Council of Mortgage Lenders’ figures show a 22 per cent increase in buy to let mortgage loans in January, with a 40 per cent increase in the total value. But what happens next?
The National Landlords Association reckons that landlords will vote with their feet; it forecast in February that half a million buy-to-let flats will hit the market in the next year.
Richard Lambert says confidence is at an all-time low, even lower than after the 2007 financial crash, with 19 per cent of landlords now looking to sell in the next twelve months. Meanwhile, brokers John Charcol have already seen clients who had been planning to buy deciding to hold back after realising the impact of tax changes on their finances.
Randeesh Sandhu notes that the last changes in stamp duty massively slowed the market. In fact, the increases in duty were counterproductive – the Chancellor now gets 12 per cent less revenue from SDLT than before the change, a £620m deficit. He expects sales to slow again, as developers and landlords take stock of the situation.
You’d think the Chancellor would want to promote institutional development in build-to-rent, increasing the supply of homes. Randeesh Sanhu Urban, Exposure.
Steve Olejnik, on the other hand, says he’s still seeing applications coming in “from landlords who know full well they’re not going to hit the end of March deadline” to avoid the surcharge, “Professional landlords will just negotiate harder on pricing, and perhaps pass some of the cost on to their tenants.”
Some landlords may also decide that if they have to pay more tax, one way to balance the books is to do more work themselves. Richard Price, Executive Director of the UK
Association of Letting Agents (UKALA), warns, “that would mean less business to go around for agents, and certainly less of a need for full service offerings.”
Worse still, the changes in taxation could kill off build-to-rent, just as it was taking off. Steve Sanham, development director at London developer HUB Group, warns that it’s impossible to deliver more homes in the rented sector “if investors are put off from creating large developments of new homes to begin with.” So far, the government has put the dampers on buy-to-let without any idea of how to replace it.
Some landlords may decide to balance the books by doing more of the work themselves. That would mean less business to go around for for letting agents. Richard Price, UKALA.
Though Randeesh Sandhu thinks the sector will survive, he admits “the latest changes make it that little bit harder.” He has seen developers, particularly those who build specifically for the buy to let market, are holding fire on some sites, “and they’re very nervous at the moment.” And he warns that the Chancellor’s strategy courts significant risks. “I don’t think it was well thought through,” he says.
As things stand, the sector can probably muddle through. But the risks are increasing. Very high price levels and low rental yields leave landlords exposed. They may be able to bear the increased tax burden, but if interest rates rise at some point, the sums might no longer add up. And there’s some evidence already that the London market is beginning to stall.
If the NLA’s prediction of a flood of buy-to-letter exit sales is right, that could mean not just the end of the buy-to-let landlord, but a full scale housing crash – and that’s not at all what the Chancellor planned.