The future for buy-to-let

Buy-to-let - get wise to the changes

Tax changes aimed at damping down the buy-to-let market come into effect on 6 April next year. Higher and additional rate mortgage interest relief will be phased out over three years and from 2020/21 interest relief will be limited to the basic rate of 20% for all rental property owners. It is estimated that a higher rate taxpayer whose mortgage interest is 75% or more of their rental income will see their profits wiped out completely - see example at the end of this article.

This change is part of a number of moves by the government aimed at making the housing market more accessible to first time buyers. It follows the 3% addition to stamp duty on residential property purchases other than the buyer’s main home, which came into effect this April.

What are the implications?

It is too early to say whether the changes will prompt an exodus from buy-to-let ownership. In fact, there was a massive surge in residential property sales in March this year (nearly double March 2015) as people rushed to buy ahead of the stamp duty increase. Sales for the first part of this tax year were slightly lower than in 2015, but this is thought to be partly in response of the Brexit vote and not indicative of a slow-down in buy-to-let.

The changes should, however, make anyone who already owns or is considering investing in rental property pause to reflect on how they will be affected and whether this is still the best option for them. There are a lot of different issues at play so these considerations will vary according to personal circumstances.

The increase in stamp duty alone may be sufficient to deter first timers from investing in buy-to-let. But demand for residential property continues to outstrip supply and the rental market is expected to remain strong for the time being at least. So there is still the prospect of a regular income and capital growth and this could hold an attraction for some investors. One example might be cash buyers, such as those with a pension lump sum to invest, who will not be affected by the mortgage interest relief tax changes.

Another important consideration is how returns on buy-to-let compare with the other options available. Rightly or wrongly, many people see investment in property as low risk; it is a ‘real’ asset and as such it is easy to understand, with values less volatile than equities. Anyone seeking an alternative safe haven for their money will struggle to find a deposit account offering more than 2% each year. 

Time to get out?

Tax relief on buy-to-let mortgage interest has always been a key selling point, but this is now considered unfair as it favours investors over people looking to buy a home. The tax changes have been implemented to address this inequity (but still don’t create a level playing field as buy-to-let purchasers will continue to receive 20% relief on their mortgage interest). Under the new regime, higher and additional rate taxpayers with a buy-to-let mortgage will see their profits slashed. There is also the prospect of interest rates eventually going up, making mortgages more expensive to service, so some might decide to get out of this sector now, fearing that a mass exodus will depress property prices.

But rental income for people without mortgages and basic rate tax payers will not be affected. But both existing and prospective buy-to-let investors need to consider the costs of managing a buy-to-let property, including repairs and any gaps in tenancy, and the time, particularly if they choose to manage the property themselves. In addition, a rush to sell could lead to an unwelcome Capital Gains Tax bill – this is 8% higher on buy-to-let property than on other assets.

Whatever your situation, it is important to consider the alternatives before taking any action.

For example:

·         You may be able to reduce the tax payable on profits by transferring ownership to a spouse or civil partner who is a basic rate tax payer. This might, however, trigger a Capital Gains Tax charge and Stamp Duty charges as the transfer is treated as a property sale. It is important to make sure that the additional income does not push the recipient into a higher tax band.

·         Rental properties owned by limited companies are subject to a different tax regime, so for some people setting up a limited company to hold a residential property or properties may be a tax-effective alternative to direct ownership.

As the tax change is being phased in, the point at which a specific buy-to-let is no longer a worthwhile investment may be some way off.

Not everyone uses buy-to-let as a business investment. Some people use buy-to-let properties as a way to help their children (or even grandchildren) to secure decent accommodation near where they study or work. In such cases the considerations and priorities are likely to be very different from where the property is relied upon for an income.

Get the whole picture

Direct investment in property is not for everyone. It is a long-term financial commitment which must be managed to maintain its value. Unlike stocks and shares, the capital value cannot usually be realised quickly and there are significant costs involved in selling property. These days there are plenty of options for those who don't want to tie up huge sums of money, but still wish to gain access to the property market. These range from unit-linked commercial property funds, run by large asset managers to crowd-funding schemes, which allow you to buy a share of a property for as little as £1,000. Not all are fully regulated so it is important to get advice.

Whether you are already an investor or interested in property investment but unsure if buy-to-let is right for you, your Origen Consultant can help to guide you through the options available and help to find the best way for you to invest.

The Origen guide to preserving your wealth brochure link

How are the changes being phased in?

  Pre 06/04/2017

  2017/18

  2018/19

  2019/20

  2020/21

  Tax relief on
  mortgage interest

  100%

  75%

  50%

  25%

  0%


Example: How the changes will affect a 40% tax payer with an interest-only buy-to-let mortgage

  Current rules

Transitional rules

  New rules

  Pre 06/04/2017

  2017/18

  2018/19

  2019/20

  2020/21

  Rental income after
  deduction of
  allowable costs

  £10,000

  £10,000

  £10,000

  £10,000

  £10,000

  Interest on
  mortgage

  £7,500

  £7,500

  £7,500

  £7,500

  £7,500  

  Pre-tax profit

  £2,500

  £2,500

  £2,500

  £2,500

  £2,500 

  Interest now
  taxable

  £0

  £1,875

  £3,750

  £5,625

  £7,500

  Taxable profit

  £2,500

  £4,375

  £6,250

  £8,125

  £10,000

  Tax charge

  £1,000

  £1,750

  £2,500

  £3,250

  £4,000

  Less 20% tax credit

  £0

  -£375

  -£750

  -£1,125

  -£1,500

  Tax payable

  £1,000

  £1,375

  £1,750

  £2,125

  £2,500

  Profit after tax

  £1,500

  £1,125

  £750

  £375 

  £0

Notes
- Allowable tax deductible costs have been factored in.
- The personal savings allowances, applying from April 2016, are not included.
- The impact on the clawback of child benefit, gift aid and pension contributions relief are not included.

The calculator provides an indication of the tax impact of the changes, but does not cater for all possible circumstances.

Table source: Tax formulae provided by accountacy firm Smith & Williamson


[ Date Posted: 26/10/2016 14:16:10 ]