Market reviews

Viability of buy-to-let called into question

Private landlords facing much higher tax bills

The viability of the residential buy-to-let (BTL) business model has been called into question by Iwona Hovenko, equity research analyst of real estate, housing, and construction at Bloomberg Intelligence.

Hovenko said the model is seeing some difficulties with private landlords facing much higher tax bills and other hurdles, including the need for costly energy-efficiency upgrades triggered by legislation changes.

“This, combined with prohibitive transaction costs resulting from hefty stamp duties, may curtail the UK’s BTL market,” she said.

She went on to explain that there has been an exodus of landlords from the sector – leaving with the intention to sell. Propertymark data showed an accelerated outflow from March 2019 to March 2022, as 84 per cent of landlords who that withdrew their property from the rental market in those three years did so to sell.

“This is likely a result of the tightening regulation that has drastically curbed returns. This has led to 49 per cent fewer rental homes per realtor branch in March versus the same month in 2019,” Hovenko added.

She said that while the tougher BTL rules were meant to help first-time buyers by reducing competition from property investors, the legislation may have backfired, as limited rental stock drives steep rent rises, meaning prospective buyers may find it tougher to save for a deposit.

At the same time, Hovenko said the demand for rentals may increase, given the stretched “The stamp-duty hike on nonprimary residences is a major barrier to new landlords entering the UK’s BTL market, and [that may] deter some private investors”

housing affordability and mounting economic headwinds, which could deter some buyers.

According to Hovenko, the key changes in BTL tax legislation are the phaseout of the deduction of finance costs and the withdrawal of the automatic 10 per cent wear-and-tear allowance.

“The shift may render the investment moneylosing if the applicable marginal tax rate doubles to 40 per cent from 20 per cent, as almost all rental revenue is now taxable,” she said.

Higher-leveraged BTL portfolios may become unprofitable, especially as interest rates rise.

Private landlords with several leveraged properties, Hovenko said, could see the additional costs add up to a significant loss, triggering disposals, with proceeds potentially used to cut leverage.

Hovenko explained that the falling returns were also driving a ‘professionalisation’ of the BTL sector, with small private landlords exiting the industry and others with larger portfolios now operating as limited companies rather than private individuals.

In addition, she believes that a limited-

company structure could lower tax bills applicable to BTL landlords, yet she said a massive shift of private landlords to a corporate vehicle is unlikely.

“That is due to the high cost of transferring privately owned BTL properties to a company, given mortgage-transfer costs and the property taxes applicable,” she said.

Diving deeper, Hovenko said that a private landlord would crystallize a capital-gains tax on the sale, followed by the company having to pay stamp duty tax on the purchase of the property. That said, she detailed that about half of all 2021 residential-property purchases by investors were acquired via limited companies, based on data from Hamptons.

The stamp-duty hike on non-primary residences is a major barrier to new landlords entering the UK’s BTL market, and Hovenko believes it will deter some private investors and company buyers.

“On average, stamp-duty tax expenses in England and Wales for a higher-rate taxpaying landlord are more than one-and-a-half years’ worth of after-tax rental income,” she added.

Following recent changes that have resulted in rising tax bills, Hovenko said potential landlords will have to wait much longer before making any profit on their property, especially in the most expensive regions.

“Ironically, that is where demand for rented housing is the highest, due to constrained affordability,” she said.

Looking to other financial challenges facing landlords, Hovenko pointed toward the government’s push for all privately rented homes to achieve an EPC rating of at least C in the coming years.

Based on the 2019–20 English Housing Survey, upgrading a home with an EPC rating of E to band C may cost £13,285, which Hovenko believes has likely risen further amid steep build-cost inflation.

She concluded that “renovation capacity may also not be sufficient to complete such a scale of works in such a short period.”

Industry can do more to dispel limited company myths and misunderstandings

Moubin Faizullah Khan

CEO, GetGround

Investing in property through a limited company has become far more common in recent years. Tax changes introduced by the government, aimed at dampening the appetite to invest in property among accidental landlords, has resulted in a spike in interest in incorporation.

Recent statistics released by Hamptons make this clear, with a record 47,400 limited companies set up in 2021 specifically for the purpose of property investment. That’s not just a jump of 14 per cent on the year before, but almost double the number established back in 2017 when those tax changes first came into force.

WHY SOME LANDLORDS DON’T INCORPORATE

There remain some landlords who might benefit from incorporation, and yet don’t go ahead with setting up a limited company.

There are a few pain points that property investors associate with the limited company route that act as a barrier – yet, in my experience, they are often unfounded.

First and foremost, it can seem a daunting prospect. Speak to landlords about incorporation and you will hear questions and concerns over holding board meetings, implementing management structures, or having to deal with Companies House.

The act of setting up a business appears to be intimidating, with the impression that landlords will have to adjust the way they operate in order to go through with it.

Of course, the reality is rather different. A limited company is simply a structure through which to invest — the way land“There are a few pain points that property investors associate with the limited company route that act as a barrier – yet, in my experience, they are often unfounded”

lords go about appraising their portfolios and future investing strategies does not have to change.

Then there is the cost. It’s understandable that landlords may be concerned that the cost of setting up a limited company will be punitive, particularly if they are unclear about the potential savings that incorporation could provide to their business.

Again, though, this isn’t necessarily true. Some landlords might want to go down the route of appointing their own accountants and solicitors, but at GetGround we have set out to trim the process down through the smart use of technology. It means that the process of designing a limited company can take as little as 30 minutes, with the rest in place within a day. Not only is it fast, but it’s also budget-friendly, too.

There are other areas where the cost of investing through a limited company is far more financially appealing than some landlords assume. Take mortgage finance. The fact that limited-company structures mean that mortgage interest can be deducted as a business expense is a big selling point for limited-company investing, particularly as that deduction can balance out the slightly higher interest rate the landlord might have with a limited company buy-to-let mortgage rather than a traditional one.

However, even this price differential is becoming a thing of the past. The increased demand from professional landlords to purchase property through limited companies has pushed mortgage lenders to do more to meet their needs. That has not only meant far more lenders entering the market, delivering a greater degree of product choice, but also more competitive pricing.

As a result, not only has the cost of limited company buy-to-let deals fallen, but in some cases, lenders have aligned their pricing so that landlords pay the same interest rate, irrespective of whether they borrow as an individual or through their business.

ADDRESSING LANDLORD MISCONCEPTIONS

There are certain steps that, as an industry, we can take that will make the process of incorporation less daunting and more appealing to landlords.

The first is doing a better job of educating landlords around what is actually involved in setting up a limited company. It’s easy for these misconceptions and out-of-date attitudes to put landlords off pursuing what could prove an incredibly efficient way for them to invest. Across the sector, we need to be far more open in explaining what is involved, why it isn’t as scary as it may seem, and why it will make sense for some landlords to consider.

Alongside this education, we need to continue to embrace the technology that can make the actual process of incorporation easier. It’s not enough to tell landlords that the process is straightforward; it’s vital that we demonstrate just how easy it is, and continue to look for other improvements technology could provide that will ensure that setting up a limited company is quick, easy, and financially viable. BTL I

Renters’ Reform Bill a winner for the PRS

Adrian Moloney

group intermediary director, OSB Group

As an Irishman, I largely let the recent Jubilee celebrations pass me by, being rather more involved with the proceedings at the Epsom Derby. Apparently, Her Majesty took a different approach and avoided the races this year in order to pace herself for the parties. Fair enough, horses for courses – I always was more of a one for punting than bunting. But I did note with interest the queen’s speech last month and its updates to the Renters’ Reform Bill (originally proposed in 2019), which seeks to deliver a better deal for the 4.4m households in the UK’s Private Rented Sector (PRS).

The bill looks to improve the quality of around a million homes by extending the Decent Homes Standard from social housing to cover private rented property, and by placing a curb on non-compliant landlords.

As you know, the UK’s PRS fulfils a very necessary role in the UK housing landscape, providing homes for around 20 per cent of households. But it seems that 23.3 per cent of the UK’s 4.5m privately rented homes are not currently up to the Decent Homes Standard, compared with 10 per cent of socially rented properties and 16 per cent of owner-occupied dwellings.

As buy-to-let lenders, I believe we have a responsibility to help improve the quality of the stock in the PRS. In fact, through careful property assessment and careful underwriting in our buy-to-let departments, we have already helped over the years: according to the English Housing Survey, in 2006, 47 per cent of privately rented homes did not comply with the Decent Homes Standard; the improvement in this rate means the journey has begun, albeit slowly.

The push for greater energy efficiency and EPC proposals for rentals in recent years have also been instrumental in upscaling property, of course. But there is evidently more work to do. As an industry, we need to raise awareness of the issues, and buy-to-let brokers have an important role to play, not least in educating landlords about the broad range of financial solutions available to fund the necessary improvements – including bridging, which is too often overlooked.

The bill also proposes the scrapping of Section 21 no-fault evictions, which means landlords will have to use a Section 8 notice and provide “concrete and evidenced reason” before they can get rid of a tenant at the end of their fixed-term contract. This is a move that was first proposed three years ago, and now seems a sensible time to introduce it, particularly in light of Shelter’s warning that Section 21 evictions in Q1 2022 were up 41 per cent on pre-pandemic levels, following the end of the eviction ban. Landlords may not initially be keen to embrace a legal change that looks on the face of it to transfer power from them to their tenants. But in reality, the changes should not only work in tenants’ favour – they should also give landlords more powers to tackle rent arrears, get rid of serial antisocial miscreants, and reduce the notice periods for some offences so that repossessions can happen more quickly in instances in which the tenant is at fault. So this is potentially a win-win development.

The bill also proposes a new, dedicated ombudsman to settle tenant/landlord disputes in the PRS more quickly, and the creation of a property portal to “help landlords understand their obligations and give tenants performance information to hold their landlords to account.” The government is expected to produce its proposals for future legislation for the Renters’ Reform Bill later this year, so we must wait for more details and a timetable for implementation – but if the bill helps to create a more stable PRS with better-quality homes, that has to be a horse worth backing. BTL I