The reality is that if you are an experienced landlord, then you will know the potential pitfalls of the buy to let portfolio; it’s not always plain sailing just collecting the rent every month and waiting for property prices to go up every year. So, let’s talk about some of these issues, and why a rental portfolio may work against you.
The challenges of buy to let property
Not all tenants will pay their rent on time, so the risk of rental arrears is very common, this can lead to loss of rent, court costs, and bailiff fees to force eviction – all very stressful!
Often, we look at the headline rents, but forget the other costs that need to be considered. These can include; agency letting fees, property insurance, gas and electrical inspection fees, ongoing maintenance costs and rental voids, and in extreme situations, deliberate damage and squatters.
Many private landlords have lost previous tax advantages, rents may not get paid on time, and if you don’t maintain your mortgage payments, you risk having your property repossessed.
To buy an investment property at £300,000, this will be £14,000 in stamp duty including the stamp duty surcharge. Add the conveyancing costs around £1,500, and so far you have a total spend of £315,500. Both of these costs can never be recovered.
Now if we assume, this was your typical buy-to-let property you might be financing this with a 60% LTV Mortgage. Going into the coronavirus lockdown one of the best buy to let rates on the market was the TSB BTL 10 Yr fixed rate at 2.44%; financing (£180,000) being 60%, would cost you £9,799 pa, plus a £1,745 arrangement fee, so the costs would £11,544 in your first year, and over ten years this would be £99,735, so for simple numbers, let’s call this £100,000.
We are just using a market leading buy to let mortgage as an example; you could apply the same mathematics to any one of the buy to let mortgage products on the market this spring. We will have to see what the BTL mortgage market looks like once we emerge from the current crisis.
Now let us assume the potential rental yield is 4%, this means your £300,000 property would be generating you £12,000 pa rental income, and if we presumed this was increasing at a 4% compound rate, over ten years your total gross rental income would be: £144,000. But what about income tax?
If you are a 20% taxpayer your net income would fall from £144,000 to £115,259, if you were a 40% taxpayer it would fall to £86,444, and as a 45% taxpayer, your net income only £79,240. We can now see that the real cash flow is negative, remember your mortgage interest costs over the 10 years are £100,000, and yet you are only receiving £79,000 as a 45% taxpayer, only £86,000 as 40% taxpayer, and £115,000 as a 20% taxpayer, and this is before any of the other costs like letting fees, gas and electrical inspection fees, rental voids, and routine maintenance and so on…
This also assumes you have today’s best mortgage rate with 40% equity in the property.
Comparing buy to let with life tenancies
Now, here is the real eye-opener. The same value property bought as a life tenancy with a discount of 60% could be bought for £120,000 cash, this would not be subject to stamp duty, saving you a further £14,000, and of course as a cash buyer no mortgage interest or mortgage fees.
Unless your buy to let substantially increases in value, you would not not making a profit, you would be actually offering subsidized living for your tenants and picking up all the maintenance costs!
If we assume property prices will continue to increase over the next ten years, a life tenancy buyer who only paid £120,000 for a £300,000 property would always be in front of the game return wise. If property prices never increased, a buy to let landlord will certainly make a loss, while a life tenancy owner has locked in his profit from his discount from day one, and without the headaches associated with buy to le.