Why traditional property investments will not give you the financial returns you hope and expect

Buy-To-Let investments will yield declining and even negative returns in the coming years, and here’s why.

Buy-to-let has been the obvious entry-point for property investors in the UK for decades. And for good reasons. This has mostly been a lucrative investment decision. For over three decades, buy-to-lets have been the default investment for most British and even foreign property investors. According to the trade body UK finance, more than 180,000 mortgages were given to landlords looking to invest in properties in 2007 when buy-to-let was at its peak.

Since then, a series of changes have made this much-loved investment strategy close to obsolete - at least if your target is building a large and profitable portfolio over the next few years. We are expecting activities in the buy-to-let market to collapse or at least significantly decline due to several factors, but mainly because of the tighter government regulations and financial restrictions. 

Over the past five years, the government has introduced a number of regulatory changes that directly affect the buy-to-let sector. The changes in policies contribute to the decline in profit, consequently forcing investors out the market, finding the once profitable investment no longer so profitable.

So why is the buy-to-let sector facing collapse? Here’s the breakdown:

Tougher mortgage regulations (higher deposit and rental income required)

As stringent mortgage rules come into force, borrowing becomes tougher for landlords, especially the ones entering the arena for the first time.. 

Lending requirements are continuously becoming tighter. This means that landlords will need to increase the deposits coming from their own pockets, in addition to be required to prove a higher rental income to afford repayments. 

Increased stamp duty

Landlords seeking to buy properties for investment purposes have been facing increasing stamp duty levels.. In 2014, a surcharge was introduced adding a 3% charge for any buy-to-let properties.

Ultimately the Increased stamp duty impacts the profitability of an investment, as it also increases the required deposit (stamp duty is normally not financed by the lender). A £200,000 home now has a hiked stamp duty rate of £7,500.

Interest tax relief to be phased out

Possibly the most consequential policy revision putting property investors and landlords under increased tax-strain, is the gradual ending of the tax relief coming from interest costs.

Private landlords and property owners are facing a decline in tax relief which means that they can claim a smaller tax relief than what was previously the case.. This significantly increases the actual amount of tax paid on rental income. 

For many investors this has had an additional effect on their total income, pushing them into a higher tax bracket, and consequently they are now taxed at a significantly higher rate on their total income. In some cases, investors have seen no other outcome of the financial stress than to sell off parts of their portfolio. Selling off what was previously considered to be a safe investment for the sake of being able to pay taxes, is certainly not the ideal scenario. 

Small investors hardest hit

Tough regulations leave small investors with no choice. A mortgage is one of the most important pieces that help people purchase a property. In the UK and also the rest of the world, new investors will generally need to get a mortgage in order to get into property investment. 

Clearly, tougher regulations and hiked tax levels make the returns more volatile and even negative. We believe smaller investors are less likely to be successful in the market, and will not be able to get the returns they are expecting and hoping for.

A large number of landlords likely to sell off parts of portfolio

We all know being a landlord comes with risks. And as investors we should be prepared for the coming years as policies continue to change. Sadly, according to recent research, more and more landlords are considering or deciding to sell parts of their portfolio in the near future to prevent more losses and adjust to new circumstances 

The recent changes in regulations and tax policies are in many cases forcing landlords to exit the market. More than a hundred thousand properties have been sold by landlords since high taxes were imposed. 

Is this the death of Buy-To-Lets?

It can be argued that buy-to-let still provides a feasible method to get in the property investing business. However, after the outlined changes in regulations and policies, can it still be considered the right choice for profit-hungry investors?

Over a decade ago, you did not have to be a sophisticated investor to become wealthy, you just had to buy a property and sit on it for a few years. House prices had a history of doubling every 7-10 years, and the property market was booming year after year, indeed with a few hurdles along the way. Given the outlined problems already mentioned, can we still realistically see an average home doubling its growth? Or can these properties at least still be considered a wise investment?

We believe 2020 and the years ahead is going to be tough for the buy-to-let sector. Obviously, the new taxation resulting from Section 24 is a huge factor, along with tighter mortgage rules, and we see BTLs are gradually becoming a less efficient route to gain the financial returns you hope and expect. It is clearly difficult to see this traditional property investment is still the place to be putting your money in 2020. 

So is it too late to get into property investment?

Our short answer is No. There may be a number of considerations to take into account when investing in UK property, but there are still great opportunities available. You need to look at where development and growth is happening, as well as a fresh look at risk and the market changes that may lie ahead. The UK is currently in what many refer to as a housing crisis, which resulting in a situation where the demand is higher than the supply. Normally this fuels price increases, which is generally good news for investors. 

It is vital that investors work with the right team of professionals, choosing their projects carefully, do the proper due diligence, and ensure that the investments reflect their goals.

You are likely to now recognise the fact that what was previously considered a low-risk, easy and secure investment strategy such as buy-to-lets, will not necessarily remain so for all eternity. In practical terms this means that already from the very beginning, the risk was actually higher than most people realised.

The latest market changes caused by the Covid-19 situation clearly shows that investors are not in control of all aspects of an investment. There are, however, ways to mitigate and reduce your investment risk which we will cover in a future article.