Why volatility is the investor

What is going to happen to British and international property markets in the future? Where are the best opportunities? How can investors protect themselves from unduly punitive rates of tax? If these questions were difficult to answer before the Brexit referendum they are even harder to resolve now. For the foreseeable future we can expect nothing but uncertainty.

Received wisdom has it that volatility is bad news for property investment especially when prices are falling and tax is increasing. Yet, there is an argument that a fluctuating market is actually good news. True, there are losers, but there are also winners. More received wisdom has it that the winners will be those who possess cash, are not highly geared and – ideally – trade in a strong currency. Certainly these are great advantages but even a highly geared UK property investor is in a good position to profit providing he or she has a clear strategy. The last thing a lender ever wants to do is repossess due to all the expense and bother this involves. So even if things become tight for a borrower providing there is some income coming in it is almost always possible to renegotiate the terms of the loan.

Moreover, investors are currently enjoying a very, very low interest rate environment meaning that borrowing for solid, medium to long-term investments never cost less. Indeed, I don’t think it would be understating things to say that in the current climate it costs nothing to borrow. Swap rates, which are used by lenders to price home loans, have been falling, which allows mortgage lenders room to sweeten fixed-rate deals. Just a couple of days after the Brexit vote, HSBC launched the lowest ever two year fixed rate loan at 0.99 per cent. Given that in two years time or so the UK may be preparing to exit Europe, it might be safer to opt for a slightly higher 5 year foxed rate. Especially as, over the longer term, the bond market is pricing in continued low rates.

I invested in Dublin property all through the Celtic Tiger and although I had sold much of it when the crash occurred I was left with a commercial space in Stephen’s Green and a couple of blocks of buy to let properties in good areas purchased in around 2000. I had no tenant for the commercial space for over two years and then I had to accept a very low rent. I also dropped the rent on my residential properties to keep what were excellent tenants. I was able to borrow again at the bottom of the market (admittedly from overseas) and added to my portfolio. Now, of course, the property market in Dublin is booming. True prices aren’t back to where they were but a back of the envelope exercise suggests that even allowing for lower rents I have made a very reasonable return on my investments over the last 15 years.

Anyway, in the following article I am going to take a look at what has happened to property since the referendum and identify where I believe the best opportunities lie. At the same time, of course, I am going to look at what is likely to happen in terms of property taxation going forward.

British commercial property

Over the last couple of years, as residential property has become less profitable due to falling yields and a harsher tax climate, private investors have been piling into commercial property. Commercial property, the reasoning went, has all sorts of advantages including the possibility for longer leases, higher yields, tax-deductible borrowing and less troublesome tenants. Plus, of course, George Osborne hasn’t had commercial property investors in his sights for less favourable tax treatment. We have written about its advantages several times.

A few days after Brexit the FT announced that over £650m of commercial property deals in the City of London alone had collapsed one of which was the proposed acquisition of a landmark office block by Germany’s Union Investment worth £465m. Basically, almost anyone who could cancelled or postponed making a deal while waiting to see what happens to the City’s financial services sector, the worry being that many companies may decide to relocate. The FT reported that elsewhere in the UK it was a similar story although some estate agents were quoted as being: ‘Hopeful that the market could be stimulated by the weakening of sterling against other currencies that has made UK property comparatively less expensive for overseas investors.’ Certainly, there is an argument that London may be saved not by Europeans but by wealthy investors from the Middle East who take a longer term view of the capital.

What about elsewhere in the UK? It all depends on whether the UK dips back into recession and – if it does – how deep that recession is. Either way prices, have softened and there is every reason to believe that they will soften more. A spokesman from Knight Frank told me, off the record, ‘Whether you are looking at deals worth £100,000 or £100 million we believe that the commercial property market has a long way more to fall.

Which leaves the question of tax treatment of commercial property investment in the UK. This is unclear but if you believe there is going to be a recession expect tax breaks and tax stimulus packages for the worst hit parts of the country.

British buy to let

Britain’s buy to let investors have taken an awful beating over the last couple of years. George Osborne, on the basis of reasoning that was a little difficult to understand, argued that private buy-to-let investors should be discouraged. Possibly he disliked the idea of investors moving their money out of financial investments (such as pensions, stocks and shares, bonds and so forth) that are easier to tax, than into property, which is less easy to tax. At any rate it has been one new rule after another. Investors can no longer claim the same level of reliefs (in particular on mortgage/loan payments) and must suffer extra tax (such as the increased stamp duty on second homes).

The effect of these changes has been to slow down the private investor buy-to-let market. Indeed, the number of new rental listing properties becoming available has been falling by meaningful amounts – April fell 15.4%, May a more modest 5.7%. At the same time, the nature of private investment in buy to let is changing. Kent Reliance recently published the results of a survey that indicates mortgage applications via limited companies increased by over 80% in 2015 compared to 2014. Now, limited company loans account for more than one in five buy to let mortgages in the UK. Demand is expected to carry on increasing. In the first three months of the year, just under 38,000 loans were issued to limited companies, nearly four times the number issued in the same period in 2015.

It looks, as we go to press, as if George Osborne may have delivered his last budget. If this is the case then it is anyone’s guess what may happen next. It is not impossible that a future government will decide to stimulate Buy to Let. Equally, those who switched their investments into corporate vehicles may find those vehicles being taxed at a higher rate.

This is probably as good a time as any to mention some interesting research I came across the other day. On average 1 in 20 people move every year. Gocompare.com analysed the ONS Internal Migration data to identify some of the most popular places people are moving to throughout the UK. Apparently, 24% of people who move between the ages of 16 and 19 relocate to either London, Leeds, Nottingham, Sheffield, Birmingham, or Manchester, whereas
14% of people who move in their 20s move to London.
 For those moving out of London in their 30s, Surrey, Hertfordshire, Essex, Kent, Hampshire are the top destinations.

The counties with the highest rates of net migration are Essex, Kent, Devon, East Sussex, and West Sussex – these areas in the UK saw a lot more people moving in than moving out. These counties are especially popular with ex-Londoners, who account for 30% of people moving into these areas. Who are the losers? London, Birmingham, Bradford, and Manchester losing 68,634, 5,137 people, 3,336, and 3,076 people respectively.

British farmland

A year ago British farmland was considered one of the best property investment classes available. Over the previous 15 years prices had grown slowly but steadily from an average of around £1000 an acre to an average of around £8,000 an acre or £12,500 an acre when sold in blocks of 1,000 acres or more, this time last year. Indeed, betwee 2014 and 2015 prices grew 14% and between 2005 and 2015 they grew 228 per cent – the latter beating the FTSE 100 and even central London property. Why? Population growth, the sense of their being a finite supply of land and increasing global demand for meat (which requires a great deal of land in order to produce food for the livestock). Following on from the financial crisis, land was also seen as a stable and secure repository for capital at a time when the list of assets offering those qualities was shrinking fast.


This all changed when the government announced the Brexit referendum. Farmers Week, for example, noted a 24 per cent drop in prices in the three months from January compared to the same period last year and much lower sales. Why? British farmers receive annually €3.1bn in direct support from the EU’s Common Agricultural Policy (CAP) scheme and, given the current low prices for milk, wheat, pork and other agricultural commodities, many depend on it to stay in business. Obviously, if EU subsidies disappear then UK farmers will quickly find themselves in trouble.

It seems to me a relatively safe bet that farmland prices will continue to fall and that we are nowhere near the bottom of the market. Only when investors either know about subsidies going forward or feel prices are so low it makes no difference will they start to buy in. On this basis farmland could, in the no so distant future, start to look like good value.

As an aside, and I have farmed myself so I speak with personal knowledge, one of the problems with valuing farmland is that it is very difficult to compare like with like. True, farmland is graded (Grade 1 is the richest and most fertile soil, capable of growing nearly all crops, whereas Grade 5 is the poorest, good for little more than rough grazing). Nevertheless, average figures hide all sorts of variations. For example, a farmer will often pay double the expected price for a contiguous holding and larger investors will pay a premium for holdings where the economies of scale reduce farming costs. Other factors that affect the price include the land’s location and distribution, soil quality, crop yields and tenants’ rights.

From a tax perspective one of the biggest issues is whether the land has tenants on it. For many farms with so-called “1986 Act tenants”, APR can only be claimed at 50 per cent. In tenancies granted after 1995, which are known as Farm Business Tenancies, landlords can 100 per cent agricultural property relief. Here we touch on one of the major tax benefits of farmland and why it is often used by families as a way of passing on wealth. Agricultural and business property reliefs are aimed at ensuring that family businesses and farms do not have to be broken up and sold to pay inheritance tax. The other big tax advantage to be had from farmland is the fact that it is an ideal capital gains tax shelter. As the Guardian wrote last year:

Furthermore, agricultural land also offers generous tax breaks. It is exempt from inheritance tax after two years if it is actively farmed. And additional relief allows the sale of a farming asset to be rolled over into a new business or acquisition. Capital gains tax is thus deferred until the sale of the asset. By any reckoning, this amounts to a substantial, hidden state subsidy.

Farms can offer all sorts of supplementary income including the sale of land for development, forestry, the sale or rental of unwanted farm buildings for use by another business, farm shops, farm holidays and so forth. Each of these is taxed differently. Forestry is subsidies and produces tax-free profits whereas non-agricultural activities will be taxed at – generally speaking – the same level as any other business activity.

Investing overseas

At the time of writing the euro is standing at €1.19 to the pound but given the general sensitivity of the market anything could have happened by the time you read this. In fact, I have long been of the belief that there were lots of property opportunities within Europe and the 10% or so increase in prices post Brexit hasn’t changed my opinion. This is because inside or outside of the EU there are always going to be variations in currency and it is the underlying value of the asset, which is what really matters. Still, there is no doubt that Brexit throws up some interesting quandaries for those who own or who are thinking of buying property within the EU.

The first issue is whether restrictions will be placed on Britons owning property within the EU. At the moment we have the right to buy property without having to apply for permission from the government of that country. Of course, in some of those countries restrictions are – or maybe – placed on non-EU citizens purchasing property. Post Brexit Britons may, therefore, be stopped from making acquisitions or, although this seems extremely unlikely, forced to sell up. My own guess is that with so many Britons already owning

owning property in Europe and so many Europeans owning property in Britain if the exit proceeds then new treaties will have to be signed with each country allowing the reciprocal right to buy property.

If one’s sole interest is in investing in European property then providing there are no onerous restrictions in place there is no reason to care how British people living abroad may be treated in the future. However, in many parts of Europe the British are keen buyers (there are an estimated 2 million Brits living in the EU) and there is no doubt that this will influence prices in some areas. Many British investors will also have it in their minds to move to Europe, possibly to one of their own properties, at some point in the future. Under a full exit it is possible that anyone British who wishes to live, work or retire within Europe may have to apply for a visa. There will be other issues, too, of course, such as healthcare, other welfare benefits and pensions.

What about tax and European property? At the moment double taxation agreements mean that whatever tax you pay on a capital gain you make overseas can be used against any tax liability here in the UK. Also, investors are not penalized in terms of other taxes they have to pay in respect of their overseas properties. If the double tax arrangement we have with other EU countries disappears there is a high risk of an increased tax burden here in the UK. Of course, the hope is that new double tax agreements will be negotiated but one can’t count on it.

(As an aside, and it is a subject that I expect will come up again and again if Brexit proceeds, there is likely to be a breakdown in communication between HMRC and many of the countries with which we have signed tax information sharing agreements. For taxpayers pushing the rules and/or up to no good this may be very welcome news!).

What if you already own investment property in Europe? Should you sell now? It could certainly be worthwhile to test the market. After all, at the moment you will definitely benefit from the existing double taxation agreements as well as the 10% currency uplift mentioned above.

In conclusion

I survived and – eventually – prospered during the property crash in Ireland that following the international banking crisis of 2008. What saved me was the fact that I had good properties both in Ireland and elsewhere even if I was heavily geared. I used the fact that I had a really first class income stream to negotiate a period of interest only payments and was, after a couple of years, able to start borrowing again. I bought more properties at the very bottom of the market just before the overseas vulture funds came in and started snapping up bargains. 30.6.16