Safe as houses?
Home sweet home, home is where the heart is, an Englishman’s home is his castle…is it any wonder we have a national obsession with home ownership? However, as affordability puts home ownership out of reach for many, owning a home remains a distant dream.
Last week’s announcement by the Chancellor of the Exchequer, that stamp duty on property purchases would not be payable on properties below £500k in value, came as welcome news to home buyers and housebuilders alike. However, for the much-maligned first-time buyer, the initial euphoria may have been short-lived.
An unintended consequence is that buy-to-let investors will also benefit from the stamp duty holiday, putting them in direct competition with those looking to get a foothold on the housing ladder.
Property investment has become increasingly popular over the past two decades, with individual investors turning their backs on traditional pension schemes in the light of high-profile failures, and shunning the volatile stock market, shaken by the Global Financial Crisis. Bricks and mortar provided a tangible, attractive alternative for many.
Property returns can be split into two parts: capital growth (the rise of the value of the property over time) and income (rent paid by tenants). Both have contributed to the strong returns from property over the past two decades.
The holy grail for property investors has long been the rental yield earned on a property. The gross yield on a property is the annual rent earned on a property divided by the value of the property. With interest rates on savings close to zero, it is tempting to be drawn to the promise of higher rental yields from property investment.
A simple glance at a graph of how house prices have risen over recent years would also suggest that property investment is ‘as safe as houses’. However, growth in house prices and rental yields don’t tell the whole story. Does property make a good investment?
This simplistic view of property investment is akin to looking only at the revenue of a business, without considering any of the costs. Rental yields and growth in value and rents do not give the full picture; it is important to consider the bottom-line as well after the costs of property investing. Let’s take a closer look at some of the important costs and factors to consider before investing in property.
Purchase costs – Buying a property is an expensive business, and that’s before you get the keys. The professional fees of those involved in the buying process, including surveyors, conveyancers, legal and financial fees such as mortgage arrangement fees all add up.
Stamp duty – Then comes the biggie – likely to be bigger than all the other purchase costs combined – stamp duty. This is not just because stamp duty is payable by the buyer on nearly all property purchases in excess of £125k, but because the rate of stamp duty is higher on properties bought as buy-to-let investments. This may have been waived for the time being on purchases up to £500k, but in normal times, buy-to-let purchases pay higher levels of stamp duty.
Voids – in simple terms, this is when a property is unoccupied and not bringing in any rental income. When tenants change, there may be a period of time: weeks, maybe months, when a property is un-let and not bringing in rental income.
Ongoing fees, fees, fees – whether it be agency fees for finding tenants, credit or inventory checks, lease renewal, safety and energy efficiency checks, or managing the property on an ongoing basis, the list of potential fees goes on, unless you take this all on yourself.
Service charges – Different properties may be subject to annual service charges to maintain communal areas and services, or ground rents, so be sure to understand your ongoing legal costs and commitments.
Bad debts – If a tenant gets into financial difficulties, it could be that they are unable (or unwilling) to pay their rent leaving buy-to-let investors out of pocket. If a landlord has to evict a problem tenant, again they may have to incur considerable costs to do so.
Depreciation and maintenance costs – rampant house price inflation over recent years has stoked the image of property investment as a one-way ‘bet’. However, a property will suffer wear and tear over time and technological advancements may even render a property obsolete or cause its value to fall. The costs of maintaining the fabric of the property are an important and not insignificant cost to consider. Redecoration, replacing flooring or carpets, plumbing, heating, leaks, cracks, new windows…the list goes on.
Tax considerations – cash, stocks and shares can be held within ISAs, which allow capital growth and income to grow free from tax. Not so for capital gains or rental property income. Property investment needs careful consideration when it comes to tax as the legal ownership of investment property will have a significant impact on the tax due on rental income and any growth in value.
Liquidity risk – when time comes to sell your property investment, it can take a long time before a property can be converted back into cash in your bank account. First there’s finding a willing and able buyer with the means to complete and pay for the purchase. Buying and selling property can be a very protracted process and take many months. For those looking for a ‘quick’ sale, they may need to take accept a lower sale price.
Diversification risk – property ownership is not only expensive but brings with it different types of risk. Unless you are fortunate to have built up considerable financial resources, it could be that all your savings are tied up in a single property investment. Chances are you would not invest all of your money in a single company on the stock market, so why would you place all your eggs in one basket when it comes to property?
Safe as houses?
As ever, Miss Moneyready does not represent advice, but instead arms readers with the knowledge to make informed financial decisions. With any investment it pays to do your homework and when it comes to property investment that includes factoring in all costs and responsibilities involved, not just the income and growth. Make sure any investment in property is built on solid foundations.