Rising interest rates and regulatory changes are compounding risks to mortgaged buy-to-let businesses already under pressure from the loss of tax reliefs, according to new research tracing the growth of the UK sector over 30 years.
As relationships between landlords and tenants has become strained in many parts of the country under the cost of living crisis and sharp rent rises, the government has announced new laws aimed at modernising tenancies and resolving disputes.
However the changes are looming at a time when the financial viability of many mortgaged buy-to-let investors is threatened by sharp rises in interest rates.
What does the research say?
The number of landlords in the private rented sector ballooned from 1.7mn in 1989 — when the advent of the assured household tenancy in its modern form gave landlords greater flexibility over rents and tenancy terms — to 4.6mn today, according to the research by estate agent Savills.
While the legislative changes laid the foundations for growth, the sector did not take off until the 2000s, when specialist buy-to-let mortgages became widely available — and the landlord business became a mainstream investment option for many middle-class Britons.
This growth was checked, briefly by the financial crisis in 2008-09, and more recently by restrictions on tax relief to mortgage interest payments, which was phased out over the four years to 2020.
By removing the option for individual buy-to-let landlords to offset their mortgage interest costs against tax at their personal rate, the measures ate into their profits — and its effects have intensified as rates have risen over the past year.
Lucian Cook, residential research director at Savills, said: “For a long period when interest rates were low, the potential impact of that restriction of tax relief was hidden because it didn’t necessarily have a material impact on landlords’ finances. But it’s really shown its hand as we’ve started to see rate rises.”
Savills gave the example of a buy-to-let investor on a 70 per cent loan-to-value mortgage who pays income tax at the higher rate. Last year, it said a landlord with a £236,000 property would have made an average profit of 23 per cent of their rental income — even after tax. That has now fallen to 3.9 per cent.
What’s happened to landlords’ interest rates?
Rates on buy-to-let mortgages have nearly doubled since March 2022, according to finance site Moneyfacts, with significant rises in the past two weeks. Both two- and five-year fixes are currently charged at an average 6.03 per cent, compared with 3.05 per cent and 3.29 per cent respectively in March last year.
This week, lenders which put up their buy-to-let rates included TSB — with rises of up to 0.75 percentage points — and The Mortgage Works, a subsidiary of Nationwide, as well as a raft of building societies.
How are landlords reacting?
In its monthly survey of the views of estate and lettings agents, the Royal Institution of Chartered Surveyors on Thursday said the interest rate rises, as well as the changes in the pipeline with the renters reform bill, were causing landlords to put more properties up for sale.
Tarrant Parsons, Rics senior economist, said: “Interest rate rises are also impacting the rental sector and combined with looming reforms proposed in the government’s renters reform bill, landlords are increasingly deciding to leave the sector and sell up property, causing further constraints to lettings supply.”
Agents’ comments on the state of the market suggested landlords were nervous of the measures. Richard Franklin of Worcestershire-based estate agent Franklin Gallimore said the legislation was “causing supply to dry up and rents to increase. More formal notices [are] being served than in recent history, which does not bode well.”
Cook of Savills, however, said fears of a return to the 1970s, when rents were regulated and tenants could be evicted only on breach-of-tenancy terms, were overblown. While the new legislation means fixed-term tenancies will be replaced by periodic tenancies, which do not have an end date, landlords have the right to end a tenancy if they wish to sell the property — neutralising the risk of a value discount.
So how will the sector change in the longer term?
The market for landlords will increasingly favour cash buyers or those with plenty of equity in their properties or who hold lower levels of debt, Savills said. But the majority of mortgaged individual landlords were last year still seeking substantial lending, with the average loan-to-value ratio on new buy-to-let mortgages at 72 per cent in 2022, according to UK Finance.
Higher rates also reinforce the trend towards holding properties within a limited company structure, in which profits are unaffected by the loss of income tax relief. Users of these structures are typically landlords with portfolios of four homes or more, often running the business as a full-time occupation.
But Cook warned that the loss of the Section 21 clause, which currently allows landlords to end a tenancy without a specific reason, risked problems for lower-income households seeking rental accommodation.
“The risk ultimately is that landlords will simply go with more affluent tenants who they feel offer greater security over the long term in terms of rent payments. When we do see less availability of rental stock, that could mean those difficulties fall on those in lower socio-economic groups.”
