The Role of Buy-to-Let in the Housing Market

The housing market has undergone a significant transformation in recent years, especially in the rental sector. The buy-to-let market, which was once a niche investment strategy, has grown rapidly. This article aims to explain the role it plays in the overall housing market.

What is Buy-to-Let?

Buy-to-let(BTL) is a property investment strategy where individuals or companies purchase residential properties to rent them out. This approach is often seen as generating a regular rental income and also leading to a capital gain from the appreciation in the value of property over time. BTL has become a popular investment choice in urban areas with strong rental demand.

Social Housing and Private Renting

While social housing provides affordable properties to rent for those in need, supply shortfalls leave many reliant on the private market. Even though social houses are being built at a rate of 234,400 houses per year, they are below the government’s annual target of 300,000, which itself is considered inadequate by some campaigners.

BTL investors have bridged some of this gap, but at the cost of higher rents, eroding affordability for some. The shift towards private renting to some extent reflect show social housing has not kept pace with demand. Social housing waiting lists as well as rents rise in the private rented sector. As private sector rents rise, BTL investment becomes more attractive and gathers momentum.

The Role of BTL and the Impact on First-Time Buyers

The BTL market is vital in fulfilling the need for rental housing, particularly in densely populated areas. BTL investors also provide rental options for people who need more time to be ready for buying a property. However, they also compete with first-time buyers in the housing market, which can drive up prices and make it harder for first-timers to become owners. This dual role of BTL investors as providers of rental options and active participants in the housing market presents a challenge for first-time buyers.

Imbalanced Market Dynamics

While private renting fills a void, it cannot address the root causes, including a short fall in social housing and the lack of homeownership affordability. More accessible affordable housing for those in need would relieve pressures on the entire housing ecosystem. The government needs to adopt a holistic long term strategy to help recalibrate the housing market’s imbalances.

Policy Changes Place Added Strains on Landlords

Meanwhile, policy changes are making BTL investing more challenging. Some landlords may exit the BTL market in the face of new policies, further reducing rental stock while demand continues to rise. Some portray recent policy changes as a 'war on landlords', as additional expenses squeeze BTL investor returns.

For example, BTL investors now have to pay a surcharge of3% on the stamp duty land tax rates that are applied to residential property purchases. Likewise, the government has made interest payments on BTL mortgages taken out by individual investors (not companies) progressively non-deductible for tax purposes. Now, it is only possible to deduct 20% of mortgage interest against rental income for tax purposes. Other items could still be tax deductible, such as letting agent commissions, tenancy management fees, service charges, property maintenance and repair costs, and insurance premia.

Lower Loan-to-Value Ratios

Lenders typically view loans to BTL investors as carrying a higher risk than those to owner occupiers, so they impose stricter lending criteria. For example, the maximum loan amount as a proportion of the property's value (the loan-to-value ratio or LTV) differs significantly between owner occupier and BTL lending.

BTL investors may only be able to borrow up to a maximum of 75% of a BTL property's value. The maximum LTV can be reduced further, even to 60% or less, depending on the lender’s affordability assessment.  This includes assessing rental income versus hypothetically inflated interest costs, plus other costs such as letting agent commissions, service charges, and maintenance expenses and insurance premia.

By contrast, owner occupiers can secure mortgage loans covering up to 95% of their purchase price, subject, of course, to affordability and also depending to an extent on whether they are first-time buyers. The broad reasoning is that owner occupiers have a stronger interest in retaining their homes and continuing to live in them with their families for the longer term. Thus, they are less likely to default on their mortgage payments even during challenging financial periods, such as when mortgage interest rates rise dramatically or house prices fall. BTL investors, on the other hand, are likely to have much less of a personal incentive to keep financing a poorly performing investment property.

Opportunities Born from Challenges

Despite the challenges, the BTL market encourages new housing development and can lead to regeneration in certain areas. For investors, it offers a potential avenue for asset growth and income.

How Pauzible can help the BTL market

Pauzible offers a novel solution for landlords facing negative cash flow in their BTL investments. Instead of having to find additional personal funding or sell the property in an unfavourable market environment, Pauzible can provide qualifying landlords with monthly payments to offset their increased mortgage costs for up to 5years. This financial cushion allows landlords to benefit from future improvements in the market, such as reduced mortgage rates, rising property values and better rental yields, thus potentially enhancing their property's equity and long term financial outcomes.

FAQs:

Q. What are the main ongoing costs for buy-to-let landlords?

A: Key ongoing costs include mortgage payments (if applicable), maintenance and repair costs, insurance premia, service charges (if applicable), letting agency commissions (if applicable) and tenancy management fees (if applicable). There may also be cost of foregone rent during void periods, and legal costs associated with evictions and repossession.

Q. What buy-to-let mortgage rates are currently available?

A: As of April 2024, indicative BTL mortgage interest rates on c. 60% - 70% loan-to-value mortgages are c. 5.2% (2-year fixed) and c. 4.5%(5-year fixed). However, it is important to understand that actual BTL mortgage availability and the rates applied can vary across lenders. This will in any case depend on the characteristics of each individual application. For example, affordability assessment might include analysing rental income versus hypothetically inflated interest costs, and other costs such as letting agent commissions, tenancy management fees, service charges, and maintenance costs and insurance premia. Personal income and credit assessment could also be taken into account. All this will affect the size of the loan offered and the interest rate applied.

Q. Does being a landlord take up a significant amount of time?

A: If fully self-managing, especially if you have multiple properties, expect a major time commitment when you source new tenants. This includes managing advertising the availability of the property, arranging and conducting viewings, doing credit and reference checks, and preparing tenancy agreements and deposit certificates and so on. Appointing a letting agent will substantially reduce your time commitment to tenant sourcing and may also result in tenants being found more quickly because of their wider professional reach and resources. However, letting commissions for standard tenancies of 6 months or longer can be of the order of c. 11% (plus VAT) of rental income.

Again, if fully self-managing, especially if you have multiple properties, expect reasonable time commitment on an ongoing basis during active tenancies, including for liaison with tenants and service providers with respect to ongoing maintenance and repair requirements. Appointing an estate agent to manage your tenancy, again, will substantially reduce your time commitment. However, management fees for standard tenancies of 6 months or longer will be of the order of c. 6% (plus VAT) of rental income. This will be over and above the letting commission.

Q. What are the tax implications of earning rental income?

A: If you are a basic rate taxpayer, you will pay 20% tax on taxable income (after deducting allowable expenses). However, if any such income falls into the higher rate tax band, you will be taxed on that element at 40%. Beyond that, an additional tax rate of45% applies. Please also note that, so far as mortgage interest payments are concerned, it is now only possible to deduct 20% of mortgage interest from rental income for tax purposes.

References:

1. The war on landlords has backfired –and Britons are paying the price | MSN.com | Released on: 22-Dec-2023

2. Quantitative easing | Bank of England| Updated on: 31 January 2023

3. Buy-to-let mortgages explained | Moneyhelper.org.uk