October 25, 2023 9:36 am

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Nikka Sulton

The landscape for potential landlords has evolved significantly due to changes in mortgage interest relief and the introduction of a stamp duty surcharge for second homes. These alterations in tax laws have prompted many to reevaluate the viability of buy-to-let investments. Landlords have encountered a reduction in their profits as a result of these changes, leading to the fundamental question: Is buy-to-let still a financially rewarding income source?

In light of these shifts, individuals considering property investments are grappling with whether this avenue remains a viable option for generating income, or if it’s time to explore alternative avenues for financial growth. The changing tax landscape has placed buy-to-let investments under a new lens, challenging both aspiring and experienced landlords to adapt to the evolving dynamics of the property market.


How has buy-to-let changed?

Property price growth has exhibited a slowdown in recent years, introducing increased risk into the buy-to-let landscape compared to its more stable past. In tandem with this, the government has adopted a stricter stance on the buy-to-let market by implementing significant tax system changes.

Initially, in 2016, the government introduced a 3% surcharge on stamp duty for additional properties, encompassing second homes and buy-to-let properties. Subsequently, beginning in 2017, the government initiated the gradual reduction of mortgage interest relief, a policy that had formerly enabled landlords to deduct their mortgage interest payments before calculating their tax liability.

Under the previous scheme, higher-rate taxpayers enjoyed a generous 40% tax relief on their mortgage payments. However, the revised approach offers landlords a flat-rate tax credit based on 20% of their mortgage interest. While this adjustment won’t detrimentally affect most landlords who were already categorized as basic-rate taxpayers, it will notably impact those in the higher or top-rate taxpayer brackets.

One aspect to consider is that landlords must now declare the income utilized to cover their mortgage on their tax return. This is in contrast to the old system, where they could declare rental income after deducting mortgage repayments. The apparent increase in income may potentially push some landlords from the basic rate to the higher tax bracket, leading to an elevated tax liability.


How have buy-to-let profits changed?

Mortgage interest relief, once a benefit for landlords, has been phased out, leading to substantial profit reductions for many, especially those in higher tax brackets. This change effectively halves their tax relief from the previous 40%.

These modifications particularly affect landlords with interest-only mortgages, which comprise the majority, and who are subject to higher tax rates. To illustrate the impact, let’s consider an example: a landlord paying £500 per month in mortgage interest and earning £1,000 per month in rent.

Before 2017
From 2020
Annual rental income £12,000 £12,000
Annual mortgage interest £6,000 £6,000
Taxable annual income £6,000 £12,000
Tax credit of mortgage interest 0% (£0) +20% (+£1,200)
Tax bill (lower rate) £1,200 £1,200
Tax bill (higher rate) £2,400 £3,600


Is buy-to-let still a worthwhile investment?

The decision of whether buy-to-let is a suitable investment goes beyond tax considerations and hinges on your investment goals and financial needs. Here are some pros and cons to consider:


Advantages of buy-to-let:

  • You can earn rental income, with some areas offering higher rental yields, like Liverpool, Glasgow, and Leicester at around 8%.
  • Your property’s value may increase over time, leading to capital growth.
  • Insurance options are available to protect against rental income loss, damages, and legal costs.


Disadvantages of buy-to-let:

  • Increased taxation can impact your profits.
  • Property vacancies can result in income loss without proper insurance.
  • Property price drops can reduce your capital, especially if you have an interest-only mortgage.
  • Additional costs, such as stamp duty, insurance, and maintenance, need to be factored in.
  • Managing rental properties comes with significant responsibilities.
  • Some individuals use buy-to-let for retirement income, withdrawing substantial sums from their pension savings for this purpose.

Should I stay or should I go?

Buy-to-let investors face complex considerations when deciding whether to sell or what to sell. The financial impact stemming from mortgage rates varies widely, contingent on borrowing levels and property yields. Landlords in London and the south-east, where house prices are notably higher, tend to feel this impact more. Recent data from Q4 2022 shows that average yields in these regions hover around 5%, significantly lower than the north of England, where figures of 7.5-8% are observed in places like Liverpool and Newcastle.

Monthly profitability is also a pivotal factor for lenders, who typically require a minimum interest coverage ratio of 125% (the ratio of gross rental income to mortgage interest payments) for buy-to-let mortgage approval.

For landlords at a crossroads, energy efficiency considerations could sway their decisions. Robert Salter, director at Blick Rothenberg, highlights that many rental properties are aged and in need of costly energy efficiency upgrades. “I can certainly understand why landlords with properties rated EPC D or lower might be considering selling at this time,” he notes. As per government proposals, landlords may be compelled to invest up to £10,000 in energy efficiency improvements, regardless of property value or rent.

Measures like energy efficiency requirements suggest the government’s interest in professionalizing the buy-to-let market. Landlords who opt to remain should brace themselves for heightened regulation and scrutiny. Rob Morgan, chief investment analyst at Charles Stanley, advises viewing buy-to-let as a “mini business” rather than a passive investment.

In this context, he suggests that buy-to-let can be a viable way to supplement the pensions of individuals in their 50s and 60s, who have amassed experience and contacts but are still energetic. However, he notes that preferences may change as individuals get older. “I’m not sure you’ll want tenants calling you in the middle of the night to report a broken boiler,” he adds.


How do I get started with buy-to-let?

Your journey to becoming a landlord will typically involve five steps:


Step 1 – Organize Your Finances:

Begin by consulting with a financial adviser to determine your investment budget and target returns. Additionally, seek advice from a mortgage broker to secure the best deal or obtain a mortgage in principle, ensuring you’re ready to make offers when you find the right property.


Step 2 – Find and Secure Your Property:

Locating and having your offer accepted on a rental property can be a relatively swift process, but it’s wise to allocate a few months for it, just in case.


Step 3 – Obtain Insurance:

Apart from buildings insurance, consider protecting against unforeseen costs like tenant injuries, property damage, and loss of rent.


Step 4 – Attract Tenants:

You have the choice of using an agency or finding tenants privately, depending on your preferred level of involvement. Regardless of the method, always draft a legally binding contract even if you know your tenants well, as disputes can strain relationships.


Step 5 – Actively Manage Your Buy-to-Let Investment:

Buy-to-let demands hands-on management. Regularly review your mortgage when your current deal expires and perform necessary property maintenance. Optimize your income from buy-to-let in a tax-efficient manner, a task where an accountant’s expertise can be valuable.



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