Buy-to-let investors have been well rewarded over the years. They have benefited from rising residential property prices and increasing rental incomes as more people have struggled to get on the housing ladder, raising the demand from renters having to pay for somewhere to live.
With generally positive sentiment about the ongoing prospects for residential property, and with interest rates still at record low levels, many investors have been keen to take advantage by investing in buy-to-let properties.
These investors can see that they own a real tangible asset, rather than a number on a statement from an investment or insurance company, and can benefit from capital growth and, through rental payments, could achieve a consistent and regular income.
Read - Will your property deliver a retirement income?
We could even see more people looking to buy property, using money accessed from their pensions through new freedoms, which were launched in April. However, there are significant drawbacks to this, as they’ll be moving from a tax efficient environment where they can achieve investment diversification and liquidity, to one where income and gains are taxed and diversification and liquidity are limited.
It should also be remembered that property prices can fall as well as rise and this could be more of a danger when interest rates start to rise and mortgage payments become that more expensive, although more properties are now owned outright rather than having mortgages attached to them.
For buy-to-let investors there is also the risk of not being able to find tenants for prolonged periods or that the tenants in place might create unnecessary hassle, cost or inconvenience. It is difficult to get any real diversification if investing in residential property, as most people can only afford to buy a small number of properties, so they are unable to spread risks adequately. Property is also quite an illiquid asset meaning that investors might not be able to sell quickly at the price they want.
Read - Will your property deliver a retirement income?
A further consideration is how the future tax regime might look. Landlords can currently offset the mortgage interest they pay on buy-to-let properties against the rental income they receive to reduce their tax liability. However, from April 2017 new rules will be introduced over a four year period, This will mean that tax will be applied to rent received rather than the rent after mortgage interest has been deducted. The Government will then provide a tax credit equivalent to basic rate income tax of 20% on the interest. The big losers will be higher and additional rate income tax payers who currently benefit from 40% or 45% tax relief on their mortgage interest, and basic rate taxpayers who are pushed into the higher rate tax bracket by the change.
Also from April 2016, landlords will lose the right to automatically claim 10% of the rent against wear-and-tear costs. They will only be able to deduct costs they actually incur.
Both of these measures will reduce the profitability of buy-to-let investments for many investors and, with landlords now being targeted, who knows what further tax changes might be around the corner.
Read - Will your property deliver a retirement income?
Investing in buy-to-let property can still have a role to play for some people. However, investing in only residential property is a high risk strategy. Instead, where property is held, it should be alongside other assets such as shares, fixed interest and cash, ideally utilising tax efficient pension and ISA wrappers.
Investors must hold the right mix of assets to meet their objectives and so it is important that they take independent financial advice.
