Following the government’s unexpected plan to raise stamp duty for all buy-to-rent properties, Philip Nell, Fund Director of the Vista UK Real Estate Fund, the residential property fund established by Hermes Investment Management and Countrywide plc, the UK’s largest property services group, considers the wider context of the decision, how it impacts the opportunity set for institutional private rented sector strategies and why it reduces competition from smaller-scale landlords.
The policy at present
The government announced some months ago that it was planning to introduce a 3% stamp duty surcharge for second and subsequent property purchases. Many professional investors and the British Property Federation, which represents them, anticipated that large-scale investors would be exempt. In the latest budget, Chancellor George Osborne made it clear that this would not be the case. Despite this, lobbying on the matter continues and we are working with investors to contribute to these efforts.
The increase is part of a broader reorganisation of property taxation, with the government announcing it would also increase stamp duty on commercial property. This could help limit the damage that higher stamp duty on second and subsequent residential properties has on the attractiveness of build-to-rent projects for developers and investors relative to other real estate sectors.
Implications for property investing
Nevertheless, the 3% rise will likely reduce the supply of housing to the private rented sector (PRS). However, these investment opportunities are long-term in nature and in the context of planning cycles our calculations indicate a probable decline of only about 700 units each year over the next decade. Further, the sector remains severely underfinanced, which suggests that prices would revert to current levels over time. This dynamic has been demonstrated by past stamp duty increases in the commercial property sector.
Small-scale landlords hit hardest
The key benefit for institutional investors from the stamp duty increase is a likely reduction in the competitiveness or number of individual landlords. For these buyers, the impact of the rise will be aggravated by a reduction in the tax relief available on mortgage payments against rental property, making the asset class much less attractive.
However, demand for private rental housing in the UK continues to rise rapidly, with the government doing little to address the structural problems that have driven this trend. The combination of fewer competitors and rising demand could help encourage developers to create and sell purpose-built PRS properties, mitigating the damage done by the rise in stamp duty and maintaining consistent deal flow for institutional investors.
Any dampening of developer appetite can also be partially addressed by carefully managing the structure of deals. Because we focus on purpose-built PRS real estate, we could purchase a site and then fund the development costs, with only the acquisition incurring stamp duty. Or we could forward-purchase the site with the developer financing construction and then fund the acquisition upon completion. We can adapt the method of procurement in the context of the developer’s financing needs and the new stamp duty arrangements, as the value of the units would likely make one route more tax-efficient than the other.
Strong PRS policy support remains in place
Long-running government policies still support the PRS market. Fast-tracked planning approvals of brown-field sites, new planning regulations for commercial-property conversions and previous changes to stamp duty legislation all contributed positively to the growth of the sector as an institutional asset class. Despite higher stamp duty, the positive planning infrastructure that was developed by the last two governments remains in place and continues to support the sector.
Through adept negotiations with developers, we believe that the impact of higher stamp duty on rental properties can be mitigated. This, combined with continuing policy support for PRS property development, greater pressure on smaller-scale landlords and the persistent demand and supply imbalance in the UK rental market, should ensure that investment opportunities in this sector remain compelling.
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