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Budget may have big effect on house prices in the long term



If I didnít know better I would think George Osborne was one of my more regular readers. Last weekend wandering around Gilleleje harbour in Denmark, I noticed something slightly odd.

Every 20 yards or so I would lose my husband to a car. He stopped to look at a Porsche 912, then at a vintage Chevrolet. Next came an Aston Martin complete with amusing bumper sticker (ďall the parts falling off this car were made in EnglandĒ), a Triumph Stag and something very old and very black (I had lost interest by then).

I wonder why the Danish are so interested in classic cars, I said to our host. They mostly arenít, he said. Itís ďa tax thingĒ.

It turns out that taxes on new cars are eye wateringly high in Denmark (around 180 per cent all in) but taxes on very old cars are not. Which is why the average age of a car in Denmark is more than nine years and the average age of one in most of the rest of the EU (including the UK) is more like seven.

Incentivise people to own old cars and theyíll own old cars. In the UK we donít incentivise car ownership in quite the same way. George Osborneís Budget has added to the cost of buying a new car with his first year levy and his £320 a year charge on cars costing £40,000 plus, but thereís no 180 per cent here.

However, where we have long used our tax system to incentivise what at first glance looks like irrational behaviour is in the housing market.

We charge no capital gains tax on primary homes (regardless of how big those gains are), something that encourages people to leverage up as much as possible on their main home and resist downsizing from it for as long as possible. We charge very low council tax. And then we make it stunningly tax efficient for those with some cash to get into the buy-to-let market by allowing them to write all the interest they pay off against their taxes and to take a 10 per cent wear and tear allowance as well ó regardless of whether they have done any work on their rental properties or not.

Budget Buy to let

Letís look at how this works right now on a cute-looking flat in Southampton (one of the UKís many buy-to-let meccas). Rightmove tells us we can buy a two-bedroom flat in Telephone House for around £325,000 and rent one for around £1,000 a month (giving us, by the way, a pathetically low gross yield of 3.7 per cent). Letís also assume that the mortgage is £250,000 at 4 per cent (buy-to-let interest rates are typically higher than residential).

That gives us mortgage payments of £10,000 a year to make. Add in our wear and tear (10 per cent of our rent, so £1,200) and we now have £11,200 to offset against the £12,000 we are getting in income. Result? We only have to pay tax on £800. So even a 40 per cent taxpayer makes a reasonable net profit (£2,000 minus the £320 of tax is £1,680) on the deal (assuming he hasnít actually made improvements to the house in the year and, for the sake of simplicity, ignoring other costs).

As far as heís concerned, that works: all the costs are covered, there is a cushion and heís hoping to make his real money from capital gains anyway. When he gets enough cash together for another deposit heíll buy another. Incentivise people to buy houses and theyíll buy houses.

When George Osborne started talking on Wednesday it looked like his endless support for the UK housing market and anything to do with keeping the prices up within it was going to hold firm. We all knew for example that the special inheritance tax allowance for ďfamily homesĒ was going to turn up, something that can surely only encourage people to do exactly as they have always done ó leverage up on bricks and mortar.

But actually I am not sure it has held so firm. Look at the IHT business. The rhetoric is all about houses. But it is really just a rise in the IHT threshold in general. A couple now get £1m as long as one of their assets is (or was, since you get to carry the allowance around with you) a house worth £350,000 or more.

Eighty per cent of over-65s own their own home and those that donít probably arenít going to get to the current £650,000 limit anyway so the fact that there is £350,000 of house in the £1m allowance is by-the-by.

Look at it like that and you will see that the house shtick is just that, shtick. This is just the rise in the IHT allowance David Cameron has been hankering after for years. Georgeís gift to Dave.

Now look deeper and you will see that Mr Osborne might be starting the process of taking away some of the things propping up our housing market.

The wear and tear allowance for buy-to-let investors goes. You are only to be able to claim against cash actually spent. That means our landlord above is suddenly paying tax not on £800 but £2,000. His profit comes down to £1,200.

Thereís more. By 2020 he wonít be able to claim back 40 per cent on the interest, only 20 per cent. All relief is coming down to the basic rate of income tax. The result? His cash flow is negative (his tax bill goes up to £2,800 so he is down £800 at the end of the year) and thatís before rates start to rise.

He might stick it out in the hope of still getting capital gains. But new investors might think twice before getting in. It will be harder for them to get mortgages and now that buy-to-let is identified as a tax raising target, whoís to say that the 20 per cent relief wonít go too? Note that with no tax relief, our hypothetical landlord would be losing a net £2,800 a year.

The buy-to-let optimists say that landlords will simply put their rents up. I think this unlikely. More landlords, being capitalists, will be charging what their market can bear already. I suspect that if they canít carry the cost they will end up selling, and ó as all prices are set at the margin ó pulling prices down as they go. That might help out the bottom end of the market a bit.

If the UK isnít a tax haven why not live somewhere warmer?

On to the top end of the market and the miserable fate of the UKís non-doms. Those who have lived in the UK for 15 of the 20 previous years are now to start paying tax on their worldwide incomes and capital gains just like everyone else. This, say the analysts at Gavekal, captures ďmany famous billionaires who have lived in Britain for many years and who undoubtedly helped inflate the London property bubbleĒ.

They are now likely to sell out of that bubble. After all, if the UK isnít a tax haven why not live somewhere warmer? Note too that a good many of the overpriced new-build flats in London go to investors. Watch for the recent fall in prime London house prices to start gathering speed.

There were many other interesting things to look at in the Budget (if I didnít know better I would think George Osborne was one of my more regular readers) and Iíll come back to them.

But the smashing of these two Tory taboos (leave the super-rich and landlords alone) alongside the planning reforms announced on Friday might, I think, have unexpectedly strong long-term effects on the price of a house in the UK.

Merryn Somerset Webb is editor-in-chief of MoneyWeek. The views expressed are personal. Twitter: @MerrynSW

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