Why 2017 could be the year for the Property Bubble to finally burst?

 

By Ian Futcher, Stock Broker at London Stone Securities

In 2016 there were good gains in the stock market, record-breaking low interest rates and significant changes within the property market. However, the changes that have occurred in the buy-to-let market were not all good, was 2016 the nail in the coffin for the middle class buy-to-let party?

Property prices in the UK have risen with a national average increase of 6.9% in the year to October. However, considering that house prices rose by 9.3% in June, house buyers are already suffering from a post-Brexit slow down. Nationwide recently reported that house price inflation across the UK had “slipped to its lowest levels in November”.

Nevertheless, this is not the most noteworthy drawback we have seen for the buy-to-let market.

The recent Autumn statement has brought in a raft of changes for private landlords who are reportedly being pushed out of the market altogether.

In 2017, landlords will face significant changes on the amount of tax relief they receive on buy-to-let mortgage payments. This means that those who pay a higher rate of tax will no longer be able to claim the 40% tax relief. Furthermore, any second home will incur an extra 3% stamp duty charge.

When the changes come in, tax relief will be amended to a flat rate of 20% therefore landlords on higher incomes will find themselves losing profit. So how much of a loss in profits would a landlord experience? Currently if a landlord has a £150,000 buy-to-let mortgage on a property worth £200,000 with a monthly rent of £800, they would currently see a net profit of approximately £2,000 a year. However, the proposed changes will see this drop to approximately £1,000 which is a 50% decrease in profits.

This wasn’t the only sting in the tail for landlords, as the introduction of new affordability checks will also come into effect. These new plans will grant the Bank of England new powers to check that house buyers applying for buy-to-let mortgages can prove they can make a 25% profit from the property, and be able to afford the mortgage repayments if interest rates were to rise to 5.5%.

So as an example, someone with a £200,000 interest only mortgage at 1.79% would have monthly repayments of approximately £300. If interest rates increase to 5.5% payments would increase to approximately £900 therefore the applicant would need to prove they could charge rent of approximately £1,100 per month in order to be approved for the mortgage.

On top of all of this house prices are being forecasted to slow down in 2017 to just 2% which will result in a reduction of people looking to place their savings into the buy-to-let market.

However, it is not all doom and gloom in property if you are willing to look further afield. It is well known that diversification is fundamental to the success of any portfolio; this also applies to property investment. However, the challenges lie in gaining exposure to areas that are not easily accessible, for example, the rise of Chinese mega cities. Currently three out of the top 5 global city index (cities with the best growth prospects for private investors) are China, New York and London.

However, buying a property in a foreign country is not always practical for an individual investor. In addition to maintenance and management issues, having knowledge of local laws and practices is crucial. Therefore, there must be a lot of effort put in in order to gain a profit.

The principle question is how an individual investor can gain exposure in foreign property without having the costs and difficulties of maintenance and other issues? The answer may be to consider investing into Real Estate Investment Trusts or funds that have exposure into worldwide property.

REITs and property funds are usually invested in commercial or residential property and allow individuals to gain exposure in the property market without having the challenges associated with property investment. Moreover, whilst Brexit has effected the value of the pound and property prices, lots of REITS in the UK can now be bought at a significantly large discount and typically have yields of 3% plus attached to them.

However, Article 50 has yet to be implemented which may result in further drops in REIT prices and UK property prices. It is fundamental while considering a new investment to always seek professional advice.