Gary Heynes

Written by: Gary Heynes

Gary Heynes

Partner, Head of Private Client

Could tax relief changes cause the next property crash?

The amount of income tax relief landlords get on residential property is changing. From 6 April 2017 tax relief for finance costs is being restricted. The full restriction to limit relief to the basic rate of tax is being phased in over a period of four years.

Individuals who own property personally and let it out, and who pay tax at either the higher or top rate of tax, will be well aware that these changes have already started. This tax year (2017/18), 25 per cent of their interest costs will only get tax relief at the basic rate of 20 per cent. In the next tax year that will be 50 per cent of their interest costs and by 2020/21 all interest costs will only get tax relief at the basic rate.

To illustrate the effect of this, consider someone with a £600,000 property getting a 4 per cent yield. After running costs, repairs, insurance and other costs, their net yield may only be just under 3 per cent, say around £17,700 per annum. With a mortgage at 60 per cent loan-to-value and 4 per cent interest, they would be paying out £14,400 in interest costs. So, they would be making a net taxable profit of £3,300. If paying tax at the top rate of 45 per cent, in 2016/17 the tax bill would have been £1,485.

Whilst this year's tax bill will be £2,385, next year their tax bill will be just under £3,300 – that’s all the profit they currently make. In the year after it will be £4,185 and just over £5,000 thereafter, meaning it will cost them £1,700 a year to run their rental business in the future. That assumes an interest-only mortgage – the actual cost will be even higher as most landlords will have a part-repayment mortgage.

While some of the numbers might be higher or lower, the truth is that the margins are getting tighter for landlords. Add to this a possible increase in interest rates and the issue is exacerbated.

Many landlords will simply put rents up in order to cover the shortfall – increasing the cost of renting for many tenants. However, if a Labour government is elected, rent controls seem almost certain to follow so increasing rents might not be possible.

Higher interest rates coupled with rent controls would not be a great environment for personal landlords and could instigate ‘the great sell-off’ as landlords look to reinvest elsewhere. This response could cause the next property crash as the property market becomes oversupplied with assets to sell, pulling house prices down, impacting equity levels and mortgage agreements. So now is the time for landlords to look at their options and act quickly to mitigate any future risks.

For more information please comment below or get in touch with Gary Heynes.

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