Landlord tax to hit renters hardest

The buy-to-let market has gone bonkers, it seems, as would-be landlords race against the clock to complete their purchases before the introduction of a 3 per cent stamp duty surcharge on buy-to-let properties and second homes from 1 April.

National estate agent Connells saw a 34 per cent upturn in the number of buy-to-let transactions in February, compared with the same month in 2015, and a month-on-month increase of 25 per cent.

Meanwhile, property services provider LSL's latest data shows an 18 per cent increase in buy-to-let loans over the fourth quarter of 2015, compared with the previous year - twice that seen across the mortgage market as a whole.

A stamp duty hike is an expensive extra in the already costly transaction process. But it's a one-off. The stampede to get these deals done before the tax hike indicates that property has not lost its fundamental allure for investors, though it's a fair bet that the buy-to-let market will go pretty quiet for a while after April.


A more targeted and enduring body blow to landlords was dealt by the chancellor in last year's July Budget, however, when he announced phased changes to the way mortgage interest is taxed.

At present, it's tax-efficient to have a buy-to-let mortgage, because landlords get full tax relief on the interest payments, paying tax only on the rental profit.

But by April 2020, when the changes are fully implemented, they will pay income tax at their marginal rate on their whole rental income, and will receive just a 20 per cent tax credit.

For heavily mortgaged landlords in the higher tax brackets, the change may well make all the difference between running a slim profit or a monthly loss.

An example from Brewin Dolphin makes this clearer. Let's take a landlord paying tax at 40 per cent, with an 80 per cent loan-to-value mortgage. He gets £10,000 in rent and pays £8,000 in interest. On his £2,000 profit he currently pays 40 per cent tax (£800), leaving him a net gain of £1,200.

However, come 2020 his tax bill will be calculated on his turnover minus a 20 per cent tax credit. And 40 per cent of his £10,000 turnover is £4,000.

The relief comes to 20 per cent of the interest (£8,000 × 20 per cent = £1,600), leaving him with a tax bill of £2,400. With the £8,000 of interest, he's now shelling out £10,400 - a loss of £400.

Of course, everyone loves to hate a miserly, rent-grabbing landlord, and the government's focus on getting more first-time buyers onto the property ladder at their expense is a crowd-pleaser.

Moreover, only around a third of private rented properties have a mortgage on them, according to Savills' calculations, and the loan on those that do averages only around 53 per cent of the value - so the new regime will only affect a segment of landlords.


Nonetheless, the new tax regime seems bound to have undesirable wider fallout, in two respects.

First, many of those landlords are not hard-nosed empire-builders but ordinary individuals, who have heeded the government's message to take greater financial responsibility for their own retirement and invested in a rental property with a long-term view to supplementing their pension.

Their figures may look quite healthy in the current era of low interest rates and tax relief. But if rates go up, as they may well have done by 2020, the average higher-rate taxpaying mortgaged landlord could face a distinctly more anaemic scenario.

Lucian Cooke, head of research at Savills, did the sums and found that the net annual cash surplus on the average buy-to-let property will fall from £2,900 to £1,100 by 2020, assuming a property worth £227,400 with a mortgage of £119,000 on a rate of 4.5 per cent, and generating a gross income yield of 5 per cent. Those with more than average debt or invested in lower-yielding markets will be more affected.

Critically, what is the most obvious response from affected landlords? Larger landlords may rationalise their portfolios over time, selling less profitable properties (and thereby reducing the rental supply). But the easiest outcome will be simply to recoup some of the lost profit by putting up the rent.

Either way, the real losers are the growing numbers of tenants for whom buying their own home remains a distant dream - Savills estimates around 220,000 new households a year will join the private rented sector over the next five years, despite the government's first-time buyer support.

The last thing these people need is rising rents and dwindling supply. But the investors best able to cater for that continuing growing rental demand will of course be the cash-rich ones with the means to sidestep the mortgage trap. Plus ça change.


Frank Nash, partner at accountant Blick Rothenburg, provides a formula for buy-to-let investors to work out how much extra tax they will pay once the rules are fully in force:

  • Multiply the value of the mortgage by the interest rate (not as a percentage)
  • Multiply this by 0.0025 (45 per cent taxpayers) or 0.002 (40 per cent taxpayers)
  • For example, a higher-rate taxpayer with a £100,000 mortgage at 4 per cent interest will pay an extra 100,000 x 4 x 0.002 = £800 a year in tax

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