Residential property has long been attractive for the small investor but the traditional method of buy-to-let is a less appealing option than it once was.
It takes a lot of time and effort to be a good landlord, and recent tax and regulatory changes mean it may not be as profitable as it has been in the past.
As a result, hundreds of thousands of smaller landlords have left the market in recent years.
If you’re not a big player, buy-to-let is an increasingly hard environment to make money in, but that doesn’t mean that residential property isn’t still a good investment – so is there another way?
Buy-to-let is less appealing than it once was, but there are other ways to invest in property
Like any investment asset class, the property market has its ups and downs, and at the moment worries over coronavirus may prompt buyers and sellers to stay put rather than move house.
But uncertainty like this doesn’t last forever and the country’s population continues to grow whilst building rates fail to keep up with demand, suggesting property is a solid long-term investment.
And there are several other ways to gain exposure to this market without having to become a landlord yourself.
What is a REIT?
A REIT, or a Real Estate Investment Trust, is a type of fund that uses investors’ cash to purchase and manage portfolios of properties. Investors purchase shares in a REIT, they do not own the properties directly. REITs generate returns from rental income and capital gains, and have some advantages over other forms of property investing.
Investment funds and trusts that invest in homes are not common – most invest in commercial property instead, but some do invest in residential property.
To qualify as a REIT a fund must pay out 90 per cent of its rental income to its investors through a dividend. REITs don’t have to pay capital gains tax on their properties, meaning they can generate more tax-efficient returns.
And there are several other advantages that investing through shares in a REIT has over traditional buy-to-let.
You can invest in a Real Estate Investment Trust through a stocks and shares Isa
Why can a REIT be more profitable?
Sweeping tax reforms over the past few years mean that for many investors, buy-to-let may not be as financially viable as it once was.
For several years the Treasury has hit buy-to-let investing from several different angles by removing some of the tax incentives for landlords.
These measures were sparked by criticism that landlords were scooping up properties as they came to market, making it more difficult for first-time buyers to get onto the housing ladder.
Firstly, since April 2016 landlords have had to pay a 3 per cent stamp duty surcharge on new buy-to-let purchases. That means that if you buy a rental property direct, you can pay tens of thousands in tax. On a £300,000 buy-to-let, the bill is £14,000. On a £500,000 property it is £30,000.
Another move that hurt landlords was the tax raid, introduced by George Osborne in 2017, which saw landlords begin to lose their mortgage interest tax relief on rent.
From April this year, landlords will have to pay tax on their entire rental income rather than just on their profit after mortgage costs. The relief will be replaced with a 20 per cent tax credit.
Investing through an Isa means you won’t be taxed on increases in the value of your investment
The Bank of England also clamped down on mortgage lenders, forcing them to require landlords to earn a much higher ratio of rental income compared to their mortgage payments.
All of this can seriously eat into a landlord’s profits – and that’s before they even have to worry about managing a property.
As a result, there are some 222,570 fewer landlords now than in 2017, a drop of 8 per cent, according to recent reports. This means there are now fewer landlords in Britain than at any point in the past seven years.
Investing through a REIT instead means you won’t be impacted by the tax changes to mortgage interest payments, and stamp duty is covered by the REIT fees.
And if you invest through a stocks and shares Isa up to your £20,000 yearly allowance, you don’t have to pay any tax on income or capital gains.
This is also the case if you invest through a Sipp, where you will also get income tax relief, giving basic rate taxpayers a 25 per cent uplift on money paid in.