Which is best – buy-to-let or shares?

There was a time when buying a second property to let out was a popular investment choice. But in recent years, buy-to-let’s popularity has declined after the government imposed higher costs and tighter restrictions on landlords. 

In 2016, the government added a 3% surcharge to stamp duty for properties other than your main residence. And changes to tax rules mean higher-rate taxpayers can now only claim 20% tax relief on their mortgage interest payments, rather than 40% or 45%. 

But with stockmarkets sliding and returns hard to come by, is buy-to-let a better choice?

What is the return on a buy-to-let property?

A good property rental yield in the UK is considered to be between 6% and 8%, says NatWest. But that’s a crude figure based purely on the purchase price, ignoring stamp duty and any legal fees. 

Add in insurance, repairs and maintenance, fees to letting agents and voids (times when the property is empty and not producing any rental income) and your expected yield starts to fall. In reality, many landlords find their rental income covers their expenses, but produces very little on top of that. 

Of course, there is capital growth to consider, too – the old adage that you “can’t go wrong with bricks and mortar”. The average UK house price has risen from £170,000 in June 2012 to £286,000 in June 2022, according to the Office for National Statistics – an average annual rise of 6.8%. 

But when you come to cash in that gain by selling the buy-to-let property, you will have to pay capital gains tax. On those average prices, for a basic rate taxpayer after expenses incurred in buying and selling, that works out at roughly £25,000, which reduces your annual price increase to just 5.4%.

And those kinds of gains are in no way guaranteed. Interest rates are on the rise, and that’s going to have an effect on house prices – and your returns. 

What about stockmarket returns?

Compare all that to putting your money into the stockmarket. Investing in the S&P 500 would have returned 10.7% on average since the index’s inception, and 14.7% in the last ten years, says Business Insider. The average ten-year return from investing in the UK’s FTSE 100 index is 8.4%, says IG. Since the index’s inception, total returns have averaged 7.75%.

Capital gains tax applies to investments too, of course, unless you have put them in a tax-free wrapper such as an Isa or Sipp. 

There is also the amount of work to consider. Investing can be as much work as you make it. Picking stocks is tough and involves a lot of research, but putting your money in a FTSE 100 tracker involves about as little effort as it is possible to make. 

Being a buy-to-let landlord can be very labour intensive, even if you farm out much of the day to day business to a letting agent. A landlord has a host of legal responsibilities from gas and electrical safety certificates, and even regulations covering what furniture you can use. And if you don’t vet your tenant properly and it turns out that they do not have the “right to rent'' in the UK, you could face five years in prison or an unlimited fine.

Alexa Phillips in the Daily Telegraph reports that Netwealth, a wealth manager, compared investing £55,000 in a pension and a buy-to-let property. After 20 years, the pension would have grown to £170,254 assuming a net return (after fees) of 5% a year. The property investment would have returned £148,353, taking into account both capital appreciation and rental income. That’s assuming house-price growth of 2% a year; if house prices rose at 5% a year, “ property would far outperform the pension”. But, says Phillips, “that’s a big if”.

But with house price growth slowing and mortgage rates rising, buy-to-let is far from a sure thing. Yes, stockmarkets are faltering, but in the longer term, equities look like the better bet.