I have been working through the numbers to better understand how the impact of the BTL loss of tax relief will – or won’t - affect buy to let investors.
There is no doubt that some investors have seen some terrific returns from their property investment. But it’s also a risky investment and even hefty returns can be wiped out pretty fast. Most of the so called ‘property gurus’ I remember seeing on the circuit over the last 15 years have disappeared, or I am hearing stories of them being in trouble!
Mind you, I never understand why anyone would trust their hard earned cash with someone else when it comes to property investment, especially those that don’t even visit the property because they are ‘too busy’. Property investment is something that should be hands on – not an ‘armchair’ investment.
Unfortunately many people I have met have not only been too busy to visit a property but also too busy to check if their buy to let delivers any income at all.
What I hear them say is ‘well 5% is a better return than in the bank’, but what this ignores is:
Gross rental income doesn’t include voids
Many landlords don’t put £500-£1,000 aside for void periods
Few realise that if you own a property with cash, it has to increase by inflation each year, just for your property value to stand still.
If your rent is £7,500 ie 5% gross yield, with the average void being 2.7 weeks according to ARLA, the real income you would receive would be £7,110, reducing your yield down to 4.7%. Then there are all the costs such mortgage payments, maintenance etc, so by the time you take all this into account, plus the cost of tying up your capital and the risk you are taking, it’s actually quite easy for a property to slip into negative cash flow.
Buy to let break even analysis
Overall having done the calculations, the following buy to let would result in a negative cash flow. This is despite the fact that the lender would have passed this with ‘flying colours’ as it beats its requirement for a BTL to generate rental income 125% to 130% of the mortgage payments:
Property price: £100,000
Rental income: £5,000
Estimated yield: 5%
Void period: £4,740
Estimated running costs: £2,074
75% LTV Mortgage @4%: £3,000
In this case the rental income from a lender’s perspective would cover the mortgage cost by 166% - even though it loses the investor money based on our ‘average’ sums!
The only way to make this cash flow positive is to put in a higher deposit or buy with cash, but what this does is reduce your gearing potential and the opportunity for capital growth.
Inflation, maintenance and buying/selling costs substantially reduce BTL returns
According to the Bank of England inflation calculator inflation from 2000 to 2014 averaged at 2.9% each year.
So the average property price of around £55k in 2000 (outside of London) needs to be £82,500 today, just to keep up with inflation. That’s a 50% increase in value. You then have to add in buying and selling costs as well as expenditure on maintenance over a 15 year period, that could easily be another £20,000 in costs (minus tax relief) meaning if you had bought that property with cash it would have had to increase in value by nearly 100%, without you earning a penny on it from a capital growth perspective so far.
Read all our great Buy to Let Checklists
I will be producing some comparisons of investing your money in buy to let versus financial investments which I have been working on with Patrick Connolly at Chase de Vere.
From the work I have done so far, my main recommendations are:
If you haven’t invested in BTL yet, please speak to a regulated independent financial advisor first. For higher rate earners, the loss of tax relief looks like there are other ways of making money you should consider
If you have invested in BTL prior to 2004, you have probably done very well both from a capital growth perspective and for income generation. However, times are changing and you need to be aware of the implications of the budget to double check if property is still your best bet.
Read all our great Buy to Let Checklists
