Posted on 8 July 2015 by
I think it is pertinent to relate the budget measure on Buy to Let (BTL) tax relief to last week’s Financial Stability Report comments on BTL lending, from which it was clear the Bank of England is itching to have the powers to restrict BTL lending, something it did last year with residential lending. If, as a result of the budget, lenders tighten their affordability criteria for BTL mortgages, it may reduce the Bank of England’s desire to impose restrictions.
The budget will force lenders to reassess their affordability calculation for BTL mortgages. At the moment most lenders require the rental income to be at least 125% of mortgage payments, based on an interest rate of between 5% and 6%. The 125% cover is to allow for letting agents fees, voids and repairs, etc. For higher rate taxpayers the cost of the additional tax will now have to be considered in as well.
A difficulty for lenders is that for basic rate tax payers the budget has changed nothing but higher rate taxpayers will see a very significant impact on their overall costs. Lenders will have to balance keeping their rental calculation simple, coupled with perhaps changing it, or requiring a higher level of cover for higher rate tax payers. However, it seems rather counter intuitive to offer a higher mortgage for any given rental income to borrowers with a lower earned income.
Phasing in the additional tax charge over four years should mean that there will be no rush by higher rate taxpayers to sell their BTLs but most will want to reassess the viability of their investment. For higher rate taxpayers the greater the LTV of their mortgage and the lower their rental yield the more the changes will hit them and hence the more likely they will decide to sell when they deem it an appropriate time. Perhaps more importantly the changes will make new BTL investment less attractive for higher rate taxpayers.
The budget changes will of course make no difference to landlords without a mortgage on their BTL property. However, a large proportion - probably a majority - of mortgaged BTL properties will be owned by higher rate taxpayers. As the budget makes BTL less attractive for these taxpayers, and indeed those who expect to shortly move into that tax bracket, the inevitable effect will be to reduce the supply of rental properties.
To avoid rents rising to reflect this lower supply other investors will need to fill the void and one possibility is institutional investors. In particular Legal & General has said it plans to expand its investments in this sector.
One other property related issue in the budget was a long overdue increase in the tax free limit for income from the rent a room scheme from £4,250 to £7,500. This should encourage more people with a spare room to let it out. It will also make it more viable for single people, or a childless couple, to buy a two or three bed property with the intention of letting out one room until they need it. Now that much more, and all in some areas, of the lodger’s income is tax free the rent from the spare room will go a long way to paying the mortgage!
The views expressed here are those of the author and do not necessarily represent or reflect the views of John Charcol Ltd
The blog postings on this site solely reflect the personal views of the authors and do not necessarily represent the views, positions, strategies or opinions of John Charcol. All comments are made in good faith, and neither Charcol Limited nor Ray Boulger will accept liability for them.