Gold vs Buy-to-Let
For years, having a rental property has been considered a smart way to make large investments. A tangible asset, steady monthly income, and a large profit upon sale are all draws that seem like a no-brainer for an investor. In recent years though, changes to regulations combined with market uncertainty have diminished the potential returns for buy-to-let properties significantly. Managed poorly you could even see your investment lose money.
Buying a rental property
The first major hurdle is funding a buy-to-let property. The average house price in January 2018 was £217,933. Unless you have the capital already this could be a sizeable figure to overcome. With prior funds you can reduce the cost of purchasing a second property, but if you don’t have these funds available then you’ll need to look at raising the money through borrowing.
A residential mortgage can already be an expensive prospect but, when purchasing a property for rental purposes, you’ll need to apply for a buy-to-let mortgage. Due to the risks involved with renting out a property, a buy-to-let mortgage has much stricter and expensive restrictions placed on them.
A buy-to-let mortgage will typically require a much higher deposit than a residential one. This can be 25% or higher, and in our example average house this would result in paying a deposit of £54,483. Interest rates can also be higher for a buy-to-let mortgage, but this may be offset by the reduced loan-to-value ratio. Given the time frame involved in a mortgage, the impact of interest rate fluctuations (arguably more likely to be increases given the current lows) could impact your yield.
A mortgage is leverage but there is added risk involved in taking on debt to invest. A 5% shift either way on a £100,000 property is a greater swing of value than 5% affecting £10,000 worth of gold bullion. This is great if market prices improve, but if house prices should fall (as they have begun to do so in London - a good indicator for the UK market at large) then you could find your asset has decreased in value.
It’s important to remember that a mortgage will not be your only cost when purchasing the property. Legal fees, agency fees, and surveys will be required. Since 2016, Stamp Duty on a second home/buy-to-let property has a surcharge of an additional 3% per tax bracket. For our example home this would mean paying an additional £8,396 of tax just for purchasing it.
Lastly, it is important not to underestimate the impact of refurbishing the property. Most people when looking for a rental property expect a high quality of finish, as well as furnishings. A new kitchen with white goods, a new bathroom, carpeting the property… all of this could easily add £20,000 cost to the project and result in the property being empty while work is completed.
With a huge initial cost, and large monthly mortgage payments to make, you need your rental income to cover this cost and ideally surpass it, but this is not always possible.
Cost of a rental property
The property is yours, it has been refurbished, and after a few months of viewings you have found a tenant. It is easy to imagine that you can sit back and let the money roll in. If you have a mortgage repayment of £500 pcm and you’re renting the property out at £850 pcm then it might seem like your yield is £350. The reality however is that there is a myriad of hidden costs that could easily reduce this yield to little or nothing, or worse – even a loss.
Landlord Insurance is a smart way to protect your investment, though not compulsory. If tenants cause damage to the property then Landlord Insurance could save you from costly repairs and the purchase of new furnishings. As with any non-compulsory insurance it is a gamble between paying the premium and the likelihood of needing to make a claim.
Some landlords enjoy taking a hands-on approach to the management of the property. Carrying out inspections, collecting rent, dealing with any issues that might crop up; to some these may be a challenge to relish. For many investors though the day-to-day hassle of managing one, or several, properties is more than they bargained for, or even wanted when investing. If you live far away from your properties, have a troublesome tenant, or part of the property develops an unforeseen problem then this can add additional stress on top of the financial costs.
If you prefer the hands-off approach, then you can always find someone to manage the property for you. They’ll do all the hard work, allowing you to enjoy the rental income. The cost of doing this however is losing a slice of your monthly earnings. Property management fees can range from 5 - 15% of your gross income and there may be other admin fees to set it up.
As the years pass and the property is lived in, it will require further repairs and refurbishments. The general rule is to redecorate and refurbish every ten years in order to keep the property in good condition. The downside, aside from the expenditure, is that every month the property sits empty is a month you might be paying mortgage, insurance and agent fees without earning a single penny.
The same loss of earnings is risked depending on the type of tenants you accept into your property too. Many do not accept students due to the term-time occupation of these houses or flats and the downtime in the summer when the property is not occupied, but many do on the basis that there is a high demand for student accommodation. This is another balancing act for you, the investor, to weigh up.
Rental Income Taxation
Prior to April 2017, landlords enjoyed a certain amount of tax relief on their rental income. Any interest paid on a buy-to-let mortgage could be deducted from the rental income before it was taxed.
Since April 2017 however, new regulations mean that this tax relief is being reduced slowly. By 2020, landlords will be expected to pay tax on all rental income with a flat tax relief of 20% on the total bill. If you’re earning £10,000 a year in rent, and are paying £9,000 of mortgage interest payments, then you will still be taxed on all £10,000 of the rent.
As you can see from the table below, this can have a significant impact on the tax you will be paying from 2020 onwards.
If declaring your rental income means you will be taxed on a higher bracket, this will also have an impact on all your earnings. This should be taken into serious consideration before purchasing any buy-to-let property. Changing tax brackets applies to you and not just the property in question.
Selling your property
There may come a time when you wish to sell your property, whether because house prices are at a high point, the market is suggesting an imminent price drop, or you might simply wish to release the equity for some other use.
After all the costs of purchasing and maintaining your property you now face further expense in selling it…
One of the biggest factors to consider is the price you can get when selling the property. The house price market historically has improved since 2006, but as seen in the chart below there are certainly risks that the price could be lower than when you purchased it.
On the plus side for property investors, demand is high. House building has been slow and with an ever-increasing population the need for housing keeps rising. This has been a large driving force behind the growth in the market up to now.
The outbreak of Covid-19 has seen property prices in rural areas grow considerably, as people move out of cities for remote working purposes. This has combined with a Stamp Duty break from the UK government to encourage the housing market during the pandemic. These two factors have combined to help push house prices to new highs in many areas.
Uncertainty remains high however as to how long these rises will continue. With the Stamp Duty break due to end and unemployment expected to rise, buyers could dry up quite quickly in the years ahead, though supply remains far below demand, suggesting house prices could hold up in the short term.
Cost of selling
Assuming you’re happy to sell your property then once again you’re faced with several additional costs. Estate agents and legal fees will eat into your profit margin, and you may need to refurbish once again in order to sell, but CGT is likely to be the biggest cost of all.
Capital Gains Tax – CGT – is a tax paid on the profit made from the sale of an asset. For properties that are not your main home, CGT will be charged on your profit from the sale. Going back to our example home of £200,000, if you were to sell it at £250,000 then the £50,000 profit would be subject to CGT, at a rate up to 28%. There is a tax-free allowance set each year (£12,300 for 2021/22) for CGT, which may be deducted from the profit, but only subject to certain conditions. For more information on CGT we recommend reading the official information provided by the government here.
Considering that the house price may have increased in value due to inflation, rather than improvements made by yourself, paying CGT may be a tough pill to swallow for a serious investor.
Gold as an alternative investment
As an alternative form of investment, gold offers many benefits over buy-to-let properties. The most obvious one is that you can’t sell part of a property, but you can sell some of your gold bullion. Many investors choose a variety of bars and coins as a way of giving themselves flexibility with their asset.
The entry cost for gold is considerably lower, to the point that it can be purchased within a few minutes simply by ordering online like any other commercial product. The initial costs are also far less, and at BullionByPost we sell our gold at an average of 5-8% above the spot price.
Your asset will not be subject to the same risks as the housing market, and trends show the price of gold is rising independently of other market influences. When you decide you want to sell this can also be done simply and quickly. If your investment is of qualifying types of gold then it will be exempt from both VAT when purchasing and CGT when selling, maximising your profits. We buy back gold at 96% of the market value.
The chart above gives a rough comparison of the value of Gold vs a Buy-to-Let property. It shows the flat value of the house, the value of the house with an additional small rental income of £1800 per year, and the value of the house if you had no mortgage and increased your rental income to £6000 per year. As you can see, an investment in gold of the same value made in 2000, and sold following the financial crisis of 08/09, would have seen a much higher return.
The decision on where to invest your money should always be made after careful consideration of all available information and options. Financial data and regulations change regularly so be sure to check for the latest information.
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