Forget Brexit – here’s the real reason the UK housing market is fragile

Foxtons estate agents © Getty
Profits at London estate agent Foxtons have fallen by almost two thirds

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What’s ailing the UK property market?

House price growth across the country has slowed to just 2.2%, according to the most recent Nationwide release. That’s a drop in real (after-inflation) terms.

Meanwhile, transaction levels are falling – mortgage approvals dropped to their lowest level in three years in December.

What dread apparition has rattled Britain’s favourite asset class? Could it be possible that you can go wrong with bricks’n’mortar?

“Brexit” is the go-to excuse for those in the property business, much as “unseasonal weather” is the go-to excuse for troubled fashion retailers.

But the reality is that the problems in the UK housing market are a lot bigger than mere Brexit…

The increasing weakness of the UK housing market

Last week, London estate agent Foxtons issued yet another set of grim results. The group halved its dividend as profits slid by nearly two-thirds to £6.5m last year. The big hit came from a near-25% drop in property sales activity (although lettings business revenue was down 3%, too).

London has been the hardest hit part of the UK housing market, for sure.  At the high end, discounts on asking prices are at their highest levels since the financial crisis, according to LonRes.

However, according to the most recent survey by the Royal Institution of Chartered Surveyors (Rics), activity is slowing across the country.

You can put it down to Brexit; you can put it down to political uncertainty. And both of those might be affecting the higher end of the market, in that the globally mobile super-rich are becoming less willing to buy luxury property in an era where populist governments might be tempted to tax non-portable assets.

But there’s a much more specific reason for house prices to be struggling, and it’s one that isn’t going to change any time soon. It’s the fact that one of the biggest and most powerful purchasing forces in the UK market of the past decade is being squeezed out of the market.

Between changes to buy-to-let taxation and higher levels of stamp duty, becoming a landlord is no longer seen as the sure route to riches it once was. And that is having a big impact on the UK property market.

Landlords are going to keep feeling the squeeze

The additional rate of stamp duty on those buying second homes is one factor putting off would-be landlords. But more important is that the ability for higher-rate taxpayers to offset their mortgage interest payments against their tax bills is being withdrawn in stages. The squeeze began last year, and it will be entirely withdrawn by April 2020.

The upshot is that it’ll be far harder for landlords to make the sums add up. It’s also become harder to secure a mortgage as a buy-to-let landlord, partly as a result of this and partly as a result of generally tighter mortgage lending rules. The figures make it clear that this is already having an effect.

Last year, according to estate agency Countrywide, landlords bought 12.5% of homes sold in the UK – a nine-year low – compared to 14.7% in 2016, and 16.3% in 2015. The biggest drop was in London. Meanwhile, the proportion of landlords buying in cash has been rising sharply.

The abolition of tax relief isn’t the only issue facing landlords. Buy-to-let mortgages are typically interest-only loans. That is great news when interest rates are this low – your monthly payments amount to buttons because you aren’t repaying any of the original capital.

However, it means you feel the pain of rising interest rates much more acutely than anyone with a repayment mortgage: because your entire payment is made up of interest, your bills will go up proportionately more when rates rise.

In short, if rates do rise – even a little – between now and 2020 (which seems very likely at the moment), then landlords are going to be squeezed even harder, between falling tax relief and rising rates.

While some landlords have already woken up to this, human nature means that many others will only realise just how much their property is costing them when they fill in their tax returns in years to come. For some, the resulting figures will come as a nasty shock. (The nice thing is that the government can expect a capital gains tax bonanza, according to accountancy group RSM, which may partly account for the current relative health of the public finances).

The only realistic conclusion is that we’ll see a bigger exodus from the sector and more than likely, the end of the era of the “accidental-turned-permanent landlord”. And the point is, this is not going to change any time soon. Soft Brexit, hard Brexit or no Brexit, this is a structural change.

A house-price crash seems unlikely – but a boom seems even less likely

The good news is that this leaves the field open to potential owner-occupiers. The tricky bit is getting from where we are now to a point where those first-time buyers can actually afford to buy the property.

You see, landlords always had more buying power than first-time buyers. Not only were they generally already property owners and both older and more established, they also enjoyed big tax advantages.

With that gone, competition on the demand side of the property market has fallen. Meanwhile, on the supply side, at the margins, some landlords will be squeezed out of the market – some may even be forced sellers.

What will happen to prices? As long as interest rates stay relatively low (and they could go up a bit from here and probably still not do too much damage), then the idea of a huge crash still seems unlikely.

But equally, there’s little reason to expect prices to rise. Whichever government runs the country for the next ten years or so, it’s clear that increasing housing supply is a major policy goal now. Interest rates can’t get any lower, so it’s hard to see how credit conditions can get any easier. And physical property is going to remain a tempting target for taxation.

In market terms, most of the risk is to the downside. And just to be clear, we’d heartily welcome lower house prices and a more sensible UK housing market. Let’s just hope the adjustment happens gently enough for our financial system to cope.

  • Glass Beach

    for sure landlords are now under pressure and I doubt anyone will have much sympathy as they’ve had it all their own way for too long. but i think you need to add this to some other factors facing the property market like Brexit (lack of confidence in the UK, substantial falls in immigration etc), massive excess supply of foreign owned and marketed London over-priced rabbit hutches (possible council flats of the future?), lack of affordibility for Millennials (though I always question this based on previous generations sacrifices to get on the property ladder) and Money Weeks consistent talking the market down and it continuing to go the other way 🙂

  • vicke

    I have seen estimates that 2/3 of privately rented properties don’t have any rental income declared against them. Assuming this is unlikely to change unless enforcement is changed how big an impact is the loss of tax relief going to be?

    • Ollie

      If you could link to the ‘estimates that 2/3 of privately rented properties don’t have any rental income declared’ that would be great! Comments like this are not helpful and just wrongly inflame debate.
      Do you also have similar figures for joiners / shop keepers etc. that don’t declare income?
      Very easy to jump on the bad landlord wagon…

  • Jack Worth

    The ability to offset higher income tax against mortgage costs was too much of an incentive for amateur landlords and should have been dealt with years ago. The market will stabilise apart from London (no tears shed) as the Londoners (who have only lived there for a few years and forgotten their roots) with large profits infiltrate the rest of the country with their offspring and London avoids the cost of educating them. The enormous costs of buying/moving and the possibilty of more rapacious taxes have become a huge deterent so the supply of “used” homes has fallen dramatically (no tears for estate agents either). We only need more housing to house the estimated 5million who have moved here since Blair opened the doors, plenty of whom appear to be able to exist in London by washing dishes.
    The smart money will invest in moveable and difficult/exempt to/from tax objects and the wealthy will look to the huge advantages by shifting themselves, assets, pensions etc to Portugal, Malta, Cyprus (warning) and others and dump property investments. The thought of Corbin at the helm will encourage plenty to move assets.

  • After the flood

    John, what exactly are the “big tax advantages” previously enjoyed by landlords? In most cases they were already worse off compared to a homeowner. The removal of mortgage tax relief has simply tipped the tax balance firmly in homeowners favour.

  • Anthony W

    Immigration might be down – but it is still running at more than 200,000 pa net. To accommodate just new arrivals then, we need to build a town nearly the size of Southampton every year. So demand is not falling, it is just going up slightly less meteorically – so no housing crash yet and landlords can sleep soundly. This also means, incidentally, that there’s no need to build on green belt to solve the housing problem. Just cut immigration by a lot more. Much kinder to the environment.

  • Cameron Holder

    Surely this is the best scenario. The only way to correct the property market without wrecking the economy is to have 10 or so years of stagnating or slightly rising prices so housing gradually becomes more affordable again. Looks like that’s finally starting to happen.

    • Michael R

      Another pressure on Landlords, that is rarely discussed, is that management service charges are very much on the increase, in the case where the property is a flat, or apartment. I am a Director of two blocks of flats, both with shared freehold interests, and EU led legislation (guidelines, then directives) are continuing to drive up costs at an alarming rate. Post “Grenfell Towers” is accelerating this process. I have personally seen service charges for a modern two bedroom flat, in a block with a lift, have to be increased from £1,100 per year to £1,800 per year in just over 12 months., whilst the rental income has remained static now for 3 years. CPI may well be currently stable at around 3%, but rents will have to rise. They don’t tell first time buyers (who can usually only afford a flat) that when they eventually do buy, they will have to finance these annual service charges, in addition to their mortgage, Council tax and utilities commitments, as well.

    • Ollie

      Or build more houses Cameron. The governments have known the problem for over 10 years but have never hit the targets to build 250,000 homes per year.
      Also empty dwellings really should be penalised. You would think this would be an easy hit. I see empty properties in prime areas frequently, double council tax or equivalent on these for example should incentivise use for home buyers or at worse letting.

  • Andrew Cave

    It seems wrong to compare the UK market as a whole when there are winners and losers across the UK. Regional cities such as Birmingham, Manchester, Liverpool and Edinburgh show much more prospect for growth than London and surrounding areas. This is an interesting piece using the Hometrack report last month

  • JamesTennant

    With prices this high, at this stage of the credit cycle, with Brexit – a major economic shock – on the horizon; interest rate rises in the pipeline – I very much doubt it.

  • arya

    Some landlords dont pay any tax on rental income by taking the rent in cash.When will the tax man get hold of them?

    • Ollie

      This statement would be true of an article on any ‘self employed’ business. Just replace landlords with ’tilers’, farmers’, ‘mechanics’ etc. Pointless statement.

  • DiverPhil

    Its all about affordability I paid three times my salary for a two bed flat in London in the mid eighties, that would probably be ten times the salary today. Unfortunately I do think London particularly needs a substantial correction and brexit might be the precursor as potentially interest rates go up, with less buying from foreign investors as the pound is attacked and at the same time as a glut of 26,000 or more apartment units become available through Nine Elms, Battersea and elsewhere and as prices go down reducing the attractiveness of the investment.

  • Sociopol

    Had a look at Fulham, seems to be a 25% drop on majority of properties in the area. How much further will it go