I’m not much of a sportsman, but I enjoyed watching a bit of the Olympics, like you I imagine. The determination and dedication of these people to winning – and their hard work – could be a fine example for most of us.
So what does winning mean? Career progression, a better standard of living, a better work-life balance, perhaps? In difficult economic times and with low rates of returns on investments (record lows for interest rates don’t help), these can all be threatened.
Some of the banks are warning their customers that they may need to start charging interest for money that they’re looking after. This is already happening in Germany and Switzerland and it may spread. In some ways, it’s little different from money held at times of inflation – when in effect it loses value to the extent that interest is less than the rate of inflation. But this somehow doesn’t seem quite so painful as the idea of actually paying a bank interest for positive balances in our accounts. I was speculating about this with another accountant and it seemed fairly clear that the interest couldn’t be claimed by individuals against other income or as a capital loss. However – and it’s a small consolation – it would be a valid business expense in a business bank account.
So what can we do if we don’t want to keep money in the bank? Here are a few ideas for you if you’re lucky enough to have some spare, and assuming you don’t want to just spend it:
1. Pay off any borrowings – especially credit cards and high-interest loans
2. Give it to your children, relatives or friends (probably IHT-free if you survive for 7 years)
3. Pay it into a pension fund – you can get an immediate increase of 25% on what you pay in, and more if you’re a higher rate taxpayer
4. Invest in an ISA – whether cash (negligible interest, but at least it’s stashed away safely) or in stocks and shares
5. Invest in the stock market (having taken advice). This can give both income and capital growth
6. Make some peer-to-peer loans. A portfolio of crowdfunding loans can give higher rates of interest. These compensate for the risk, and the risk can be spread by investing in several.
7. Improve your property
8. Invest in another property (perhaps buy-to-let – see below)
9. Invest in your business
10. Etc, etc.
I was looking at this for someone recently, and I thought you might be interested to see how I worked it through. The government, or at least the previous chancellor, had rather a negative view of this sector and made it rather less attractive, but it may still suit some people.
You have to make some assumptions, so let’s say that the property costs £300,000. There’ll be stamp duty of £14,000 and other costs – solicitors, mortgage fee, survey etc. of perhaps another £3,500, so it costs a total of £317,500. (You’ll remember that there’s a new surcharge of 3% stamp duty on a second residential property – part of the new disincentives for the sector.) If you can scrape together one-quarter of the original £300,000 plus the extra £17,500 (total £92,500), you could probably find a buy-to-let mortgage of 75% “loan to value” at 2.4% at the moment. So the lender puts in £225,000 and you put in £92,500.
You might assume monthly income of £1,100 for a property of this sort of value, but it would be wise to allow for an average of one month empty each year, so you’d only have income of £12,100 for the remaining 11 months. But there are quite a few expenses against this each year: mortgage interest £5,400, agent’s fees at perhaps 12% of the income (plus VAT), plus an initial charge for finding a tenant. You need to allow something for maintenance and, if it’s a flat, there’ll be a flat management charge. These other costs could well total another £3,750, giving total annual costs of £9,150 and a profit of £2,950 for the year.
A basic rate taxpayer would pay tax of £590 on this £2,950 profit, so the net profit on their investment of £97,500 is just £2,360, a yield of 2.4%. A higher rate taxpayer would pay more tax and the interest would only be allowable at basic rates (this is the new system that’s being phased in over the next few years), so the yield would be rather lower.
If you’d like to see how all these figures work, please get in touch, and I’ll show you.
So far, it’s only a moderately attractive proposition – there are quite a few unknowables that could make it worse. If interest rates go above 3.7%, you’re into negatives. What if the flat is empty for more than 1 month each year? If the roof needed repairing for the block of flats, what would your share be? But at least it’s likely to be paying for itself (“washing its face”, as some people would say) and you’ve got an asset that is likely to increase in value. How likely? – no-one can say, but history and demographics suggest a strong probability, even if there may be temporary dips in the market.
What could you do to make the income better? The main thing (unless you have enough funds to reduce the mortgage) would be to cut out the agent. You then have the inconvenience of having to liaise with the tenants, find new tenants yourself, etc. – it’s perhaps more of a worry, but it certainly reduces costs. Another strategy would be to invest more in furniture and decorations to justify a higher rent.
But it’s the longer term gain that property investors have traditionally relied on. If we assume an annual increase of 5%, it’s worth £315,000 after one year (still not quite up to what you paid for it – and that’s before selling costs) but £330,750 after two years and £347,288 after three. If you can sell it for that amount, there’d be estate agents fees at, say 3% plus VAT and solicitors fees etc. of perhaps £1,500 (all including VAT). After tax, that leaves £1,828 after two years or £16,650 after three years, or less if the gain takes you out of basic rate tax.
This is so long as it’s agreed to be a capital gain. There’s something in the last Finance Act (not yet passed into legislation) to suggest that it could instead be treated as income, and so taxed at income tax rates. This would supposedly happen if HMRC can show that one of the main purposes in acquiring the property was to realise a profit or gain from its disposal. This seems to be very debatable – even if the gain outweighs the rental income, the taxpayer could argue that he was selling the property because the primary purpose of getting rental income had failed, so he was just getting rid of the property. The gain would in this case be a fortunate by-product… When the position becomes clearer, I’ll give you an update. The worst that could happen would be that you’d have to pay more tax, but having to pay tax would still imply that you were making a profit.
(A reminder about Capital Gains Tax: for residential properties it’s at 18% to the extent that the gain falls within your basic rate band and 28% thereafter. If you live in the property for a while there are extra tax-saving allowances, as I’ve mentioned on other occasions. It can be quite complicated, so please ask if it might be relevant. And if you own the property jointly with someone else, there’ll be two lots of CGT annual allowances to deduct from the gain, ie. less tax payable.)
So after three years you’d have had net income of £23,730 after tax – on an investment of £92,500 – an annual return of about 8%. Better than you’d get from most other investments at the moment – but of course it’s based on a lot of assumptions. Leaving everything else as it is, if the annual increase in property values goes up from 5% to 7%, the net income after three years could approach £40,000. But if it’s only 3%, there’s no capital gain after costs, and you’ll only have had the net rental income.
It looks as though you can probably get reasonable income from a property investment, although the stock market could give you more if you’re invested in the right things – whatever they might be! Capital growth can be attractive, provided you’re able to leave the money invested for several years – but who knows what property prices will do?
If you’d like me to go through some specific figures, please let me know. The scenario can change significantly based on your other income, whether you’re investing alone or with someone else, whether you’d plan to manage it yourself rather than via an agent, etc.
You might also like to consider buying a commercial property, in which case the 3% doesn’t apply, and capital gains tax is at a lower rate. I may explore this option in future newsletters, if anyone shows any interest.
Things don’t change much!
“The Budget should be balanced, the Treasury should be refilled, Public debt should be reduced, the arrogance of officialdom should be tempered and controlled, and the assistance to foreign lands should be curtailed, lest Rome will become bankrupt.
People must again learn to work instead of living on public assistance.” – Cicero, 55 BC