Welcome to the fourth issue of Property Trends the monthly bulletin that focusses on property trends for residential property investors.
There is growing evidence that we are in the “mid-cycle wobble period” of the 18 year property cycle. According to the theory, we are not moving to a crash but to a period of short but significant downturn, followed by a period of aggressive growth leading to a crash at the end of the 18 year period.
This month we take a closer look at property prices so far this year and look to see what trends can be drawn. Is the wobble here or on the way?
Further, we conclude the two part article “WHAT’S WRONG WITH HIGH RISE FLATS”? – the first part of which can be found in last month’s bulletin.
We also get out our crystal ball and try to discern how the onslaught of regulatory changes affecting the private rental sector in the last few years is likely to impact the sector in the foreseeable future.
WHAT IS HAPPENING TO HOUSE PRICES?
Rebel Property Coach Dalton Barrett casts his rebellious eyes over what could be happening to house prices countrywide.
First time buyers, homeowner and investors alike are keen to know what is happening to house prices.
The picture is not entirely clear and month to month figures from the various analysts may seem contradictory when looked at in isolation.
However, if figures over a longer period are considered, the clear overall picture is that prices are leaning more to a fall than a rise.
According to Halifax figures, there was a 1.5% rise in prices in May compared to a steep 3.1% drop in April. House prices were up 0.2% in the 3 months to May compared to 1.9% in the previous quarter.
House prices fell by 0.2% in May according to Nationwide – the third fall in 4 months.
The position over the longer term
While the latest figures point to a possible decline in house prices, it is important to realise that viewed over the longer term, the housing market is still remarkably healthy.
Looked at over the last year, prices in most parts of the country are still rising significantly. The notable exception is London, where prices are falling.
According to recent Office for National Statistics (ONS) figures, London prices fell by 0.7% in the year to March 2018. That was in contrast to the rest of the country which witnessed rises from 2.1% (North East) to 6.7% (Scotland).
The average price of a UK house is still increasing. According to ONS, the average price of a house in March 2018 was £9,000 more than in March 2017.
It is noticeable that there is a clear north-south divide. Most of the best performing areas are in the north – a region where prices are most affordable. In the south, the South East is the third worst performer and the South West the seventh.
The ripple effect
If history is anything to go by, the clear slowdown in London and the South East can be expected to spread further north over time. Many experts have identified a pattern where prices in the rest of the country rise as London and the South East become too expensive. Investor landlords in particular fan out to cheaper parts of the country where they can secure greater rental returns.
If this pattern holds true in the future, northern house prices are not likely to outperform London and the South East indefinitely. There is no long-term, seismic shift in favour of northern property prices, simply a temporary trend which will be reversed in time.
In the not too distant future, northern prices seem likely to follow London by falling; at that point, London prices may be on their way up again.
The effect of Brexit
Several commentators blame Brexit for the softening of house prices in London and the south. However, there is also a case for seeing falls as simply an inevitable correction of the stellar growth London has enjoyed since the 2007-8 credit crisis.
The need for caution
Many selling agents, especially those selling in the north and midlands, have been talking up the future prospects of house prices outside London and the South East.
However it would be premature to suggest that there has been a balance of power shift away from the south.
Investors are being roared on to invest in the north and midlands where best returns are currently to be found. However, investors – especially buy-to-let landlords who have not yet bought – need to be super careful about the decisions they take and should be mindful of paying inflated prices.
It could be that the market peak has already been reached in various parts of the north and midlands, with future buyers more likely to see falls rather than rises in their investment.
WHAT’S WRONG WITH NEW HIGH-RISE FLATS?
Dalton Barrett concludes his assessment of the challenges and issues around the rapid growth of high rise apartments.
Last week, in Part I of this two part article, I looked at the meteoric rise of modern high rise apartments in recent years.
Apartments now outstrip houses in terms of the type of accommodation being built. Many interest groups see densely built town centre apartments as a sensible, practical and economic solution to the much talked about housing shortage.
In Part I, I looked at the story behind the rise of high rise units and questioned whether there was truly a nationwide housing shortage. I also queried the orthodoxy that residential property is generally unaffordable.
In this concluding part, I will look at the problems endemic in high-rise apartments and offer a few possible solutions.
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The problem with modern tower blocks
Though appearing to be a great solution at a superficial level, a deeper dig reveals a range of risks or dangers with the number and type of high-rise blocks which are being thrown up on every postage stamp of land in most of our popular towns and cities.
Below I take a look at some of the most obvious concerns inherent in the explosion of high-rise flats – concerns which will only increase if and when build to rent truly takes off and the number of high-rise blocks goes into the stratosphere.
The slums of tomorrow
It is a question you often hear:
“Are the high rise blocks of today likely to be the slums of tomorrow”?
The question may seem preposterous – especially when some high rise flats sell for millions of pounds.
However, it is not hard to find similarities between sixties council blocks and their modern day cousins. Here are a few:
- They are both houses in the sky with little outside communal space
- They both carry relatively high levels of fire and other building risks
- They both have lifts and other services or facilities which are prone to breakdown or vulnerable to damage or vandalism
- They both have the disadvantage of households living in close proximity with the outcome that anti-social behaviour by the few affects the many
- They both have a physical layout – basically flats and corridors – which reinforce social atomisation and does little to foster community interaction, shared experiences or trust
- Their high density population is typically not catered for by adequate local facilities and services such as nurseries, schools, shops, GP surgeries, eateries and safe playing areas for children.
Further, it must be mentioned that whereas the tenants of high-rise blocks of the past had the sweetener of subsidised council rents – the occupiers of today – tenants and owner-occupiers – are usually not so lucky.
Insurance company and supermarket landlords
With local authorities and housing associations typically not having sufficient funds to build all the units needed, big corporations – often big household names encouraged by the government’s build to rent initiatives – are increasingly building high rise units which they see as ideal investments, having the advantage of both capital and income growth.
This all seems very well in terms of increasing the number of housing units and apparently reducing the shortage of housing. However, there are clearly a wide range of questions which have yet to be asked as to how such landlords will impact the housing market in the longer term.
Will the insatiable demand of shareholders for profits mean that rents for such units will escalate beyond the means of average earners? Will such units solve one affordability issue (house prices) only to replace it with another (rents)? What issues of conflict or ethics may arise if a person is both an employee and a tenant of their landlord?
There is likely to be a need for this new breed of landlord to be tightly regulated and the record of government is sadly to legislate only when problems become acute.
What will stop rents going through the roof?
Although the government is currently very busy in terms of regulating the landlord and tenant sector, one aspect on which it is conspicuously quiet is the matter of rent inflation.
If rents in build to rent units become unaffordable, the question of statutory control of rents will arise.
There are strong arguments for and against any form of rent control, however it is likely to be an issue which government cannot avoid if rents escalate out of control as corporate landlords are driven on by shareholders to maximise their profits.
Regulation by government is likely to be tricky because of the increasing trend of corporate landlords to charge an inclusive rent – which includes not just traditional rent but also elements for things such as council tax, gas, electricity, water, broadband, TV services and the like.
With this composite rent, it is going to be fiendishly difficult to ascertain whether the actual rental element is fair or reasonable.
Many tenants have fallen in love with the “simplicity and convenience” of just making a single payment for the bulk of their living costs. In the long term, many of them may see that simplicity and convenience are not always best.
Any degree of rent control by government may make the rental sector less attractive for corporations to invest in. Far from being a cure for the country’s housing shortage, high-rise build to rent may simply replace one problem with another.
Leasehold is a second-class type of ownership
Where high-rise units are purchased by owner-occupiers a different range of problems arises. From a legal and practical viewpoint, the leasehold title received when a high-rise flat is bought, is not as good as the freehold title received when a house is bought.
The physical nature of a flat, with its communal areas and common facilities, means that the owner has less rights, freedoms and room to manoeuvre than the owner of a house.
Put simply, the leasehold ownership of a flat is as a rule a second-class type of ownership compared to the freehold ownership of a house.
Drawbacks of leasehold flat ownership include:
- Ownership is not forever as with a freehold house; ownership is for the duration of the lease – typically 99 or 125 years
- Inability to add to the size of the flat or make substantial changes without the permission of others such as a freeholder, a management company or other residents
- Limited control over communal or common parts expenditure and the service charge
- Living in close proximity to neighbours means there is a high propensity for issues or disputes relating to noise, anti-social behaviour or crime.
The service charge scandal waiting to explode
Most switched on professionals dealing regularly with service charges are aware that there is another national money-based scandal about to happen in the not too distant future.
With the big increase in the number of high rise blocks, there has been a proliferation of management companies taking over the running of blocks on behalf of owners of the freehold.
The management companies run the blocks, charging not only for the services provided to flat owners but also their time. There are a range of safeguards protecting the flat owner, but the reality is that they are out of date and inadequate and, as a result, service charges have increased greatly and unfairly in recent years.
As yet protests are not loud enough and so government is doing nothing. However, the increase in high-rise blocks is likely to make the voices of protest deafening before not too long.
But, with the best will in the world, high rise blocks are costly to maintain. Expensive high-rise flats, together with expensive service charges, may prove too much of a burden even with top quality regulation.
In the longer term there seems a very strong risk that the high cost of service charges – especially as blocks age – will depress the capital values of high rise apartments, causing many owners to lose money – and perhaps even fall into negative equity.
The dangers of all-in rents
The unhelpfulness of all-inclusive rents was considered earlier in relation to deciding whether landlords are charging a fair rent for occupation of their property.
There is also the risk of tenants being overcharged for the add-on services provided such as gas, electricity and broadband. At the moment, all-inclusive rents are unregulated and the opportunity for abuse by unscrupulous or profit-hungry landlords is obvious.
There are many unanswered issues and questions – for instance, would a landlord be able to cut off a tenant’s broadband, which may be the source of the tenant’s employment, in the event of a monthly payment not being made?
On the other hand, if there is not enough protection for landlords against unscrupulous tenants, the all-in-rental model may prove commercially unattractive and the output of build to rent units may decline.
What the future may bring
What is clear is that the rapid growth of high-rise residential blocks has raised as many questions as answers. Modern high rise blocks may prove to be the solution to our housing problems; however, until then, there are likely to be many formidable challenges and issues which need to be tackled.
Alternatives to mass high-rise building
There are a range of alternatives to the blanket building of high rise blocks.
- Policy makers could look to reducing the height and number of high rise blocks as well as improving the quality of blocks and the local services and amenities which they will need to prosper. A reduction in the number of blocks would lessen the impact of some of the negative scenarios outlined above.
- The government could try harder to shift population away from over-popular, over-populated parts of the country such as London and the South East. Additional investments into projects such as HS2 and the Northern Powerhouse would help. Special attention needs to be given to parts of the country, such as the North East, which despite highly affordable house prices are not attracting sufficient incoming population to take the burden off over-popular parts of the country.
- Judiciously making greenbelt land available for the building of houses will lower the demand for high-rise flats and re-balance new-house building away from flats and towards houses, which typically provide a more attractive and healthy living environment – especially for families, the elderly and the disabled.
Policy makers need to take on board the fact that housing is not just about having a physical roof over our heads. In a rich country such as ours, it is primarily about health, welfare, quality of life, well-being and community contentment.
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THE CHANGING FACE OF THE PRIVATE RENTAL SECTOR
Dalton Barrett takes a quick look at the sector and identifies big changes of the recent past as well as developments likely in the not too distant future.
It is fair to say that the private rental sector is undergoing profound changes and has been doing so for the last two or three years.
Property investors missing the changes, or not responding appropriately to them, may well find their position irreparably harmed further down the line.
The Osborne revolution
If the rise of buy-to-let mortgages was the last revolution of the private rental sector in the last century, the first revolution this century was the unexpected decision of Chancellor George Osborne to progressively remove mortgage interest relief available to buy-to-let landlords owning property as an individual rather than by way of a limited company – thereby threatening to wipe out the profits of countless buy-to-let landlords (“Section 24 changes”)
Fundamental changes in the buy-to-let landscape
Section 24 changes have thoroughly shaken up the buy-to-let sector, bringing about developments such as:
- A shift to BTL properties being bought/owned by limited companies rather than individuals
- A significant growth in buy-to-let mortgage products for limited companies
- A reduction of so-called accidental landlords, people who got into letting property almost by accident – for instance as a result of an inheritance or following a divorce.
- A clear trend towards professionalism by landlords, as they develop systems and practices aimed at increasing profitability and reducing tax liability in response to Section 24 changes.
Tightening of lending criteria
At the same time as attacking the income of landlords, the authorities, in the form of the Prudential Regulation Authority, have also made it more difficult for landlords to raise funds at the same time as reducing the amount of funds they may be able to secure.
Stress tests have been tightened, effectively restricting the loan to value lenders can offer in areas of low rental return such as London.
Landlords with 4 or more mortgages have been classified as “portfolio landlords” and – in addition to compliance with the stricter stress tests – have to provide much greater financial disclosure and information with the risk of lender refusal being increased.
Increase in regulation and red tape
Another major change has been the never ending growth of regulations affecting the letting of property. Regulation is necessary and reasonable for the safety and protection of tenants, but in recent years landlords have been inundated by a plethora of regulatory requirements including:
- How to rent guide – containing prescribed information
- Gas safety certificate
- Energy Performance Certificate (EPC)
- Deposit protection
- Checking the tenant’s right to rent
- Electrical safety regulations
- Electrical Installation Condition Report (EICR)
- PAT Testing Certificate
- Furniture & Furnishings Fire Safety Regulations
- Fire safety certificate
- Smoke and Carbon Monoxide Alarm (England) Regulations
- Premises licence
- Landlord licence
- Legionella Risk Assessment Report
- Compliance with General Data Protection Regulation (GDPR)
Writing in City A.M. in April of last year, Foxton’s managing director of lettings, Ed Philips, observed that there had been no less than 145 pieces of legislation impacting on landlords in the previous 5 years.
Failure to comply with regulations can have serious financial implications for landlords. For instance, GDPR which came into effect on the 25th May 2018 means most landlords need to register with the Information Commissioner’s Office (ICO) and pay the registration fee.
Failure to comply can lead to a fine of up to 20 million euros or 4% of turnover, whichever is the greater.
Buy to let landlords taking stock
With this vast number of changes, it is pretty clear that buy-to-let landlords are seriously considering their alternatives and increasingly taking up property strategies other than regular buy to let.
The move away from buy-to-let
There is statistical and anecdotal evidence that investors in large numbers are moving away from mainstream buy-to-let in order to boost profits as a way of off-setting Section 24 changes.
Many buy-to-let investors have turned to HMOs – converting larger properties into multiple letting units as a way of boosting rental income. HMO owners have thrived in recent years as high rents in many locations have favoured landlords with smaller relatively cheap rental units appealing to cash-strapped tenants.
Buy-to-let investors have also migrated to the serviced apartments sector where the provision of hotel-type services allowing landlords to charge an attractive premium rent can bring high profitability, even without full occupancy throughout the year.
Income from serviced apartments also has the benefit of not normally being caught by Section 24 changes.
Buy-to-sell or flipping also seems to be on the rise. By buying a rundown property, adding value to it and selling it on, landlords make a capital gain which is not affected by Section 24 changes.
Many investors like the “do-and-go” nature of flipping compared to the ongoing commitment of letting property for years on end. Once a flip has been completed, the investor has breathing space to decide what to do next – such as proceeding with another flip or looking at alternative strategies.
The rise of micro-flats and communal-style accommodation
There are clear signs that micro residential units are going to play a major part in the future of the private rental sector.
Many developers taking up the government’s “build to rent” initiatives have sought to be creative and cost-effective in the type of units and nature of accommodation they build.
Many well-designed micro-flats can be crammed economically into relatively small spaces and accordingly they are gaining traction in London where space is at a premium. The lack of size of the personal accommodation is typically made up for by the provision of communal facilities such as kitchens, living rooms and recreational rooms.
This move towards communal or quasi-communal living is a noticeable trend even where the individual units are not micro. Developers seem to have identified a demand among young and not so young professionals for shared-facilities accommodation on similar lines to that enjoyed by university students in purpose built student accommodation (PBSA).
Buy to let landlords with average quality houses and apartments need to be alert to these developments. When high quality PBSA first began to come on the market in quantity, many landlords renting average or poor quality accommodation to students failed to react promptly – perhaps thinking that students would prefer the cheaper, old school accommodation they were providing.
In fact PBSA has proved popular with students notwithstanding the cost and many landlords renting to students have had to exit the market.
Further, this is a trend which seems likely to continue as more and more PBSA units are coming on tap in university towns up and down the country. Landlords currently catering for students still need to keep a close watch on the continuing growth of PBSA units – if they too are not to be forced out of the market.
Buy-to-let landlords with traditional houses and flats need to carefully monitor the interest in and take up of micro flats/student style communal accommodation. The new providers of build to rent accommodation are in many cases raising the bar in terms of quality, facilities and convenience.
For instance, some build to rent landlords are offering three year tenancies – which are appealing to tenants wanting to put down roots. The convenience of all-inclusive rents is being offered by some landlords.
There is every indication that the new forms of accommodation will prove popular and will thrive. Traditional buy-to-let landlords will need to be super careful so that they are not progressively squeezed out of the market in pretty much the same way as landlords renting to students.
Squeezed from all angles
It would be wrong to say the future for buy-to-let landlords is bright. Higher levels of stamp duty along with tighter stress tests will make it harder and more expensive to purchase properties. Higher taxation and lower profits are likely to follow as a result of Section 24 changes.
The level and cost of regulation is likely to eat into profits, making it prohibitive for landlords with just a few properties to stay in the market.
There seems little doubt that the private rental sector will increasingly favour larger corporate landlords at the expense of the small landlord with just a handful of properties.
The message for small landlords seems fairly clear:
“Scale up or get out”!
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DISCLAIMER: This bulletin, which is provided for information purposes only, is fully intended to be accurate but no representation as to its accuracy is intended. It does not provide legal or any other advice to be relied upon. All liability to all persons acting or not acting on anything in this bulletin is disclaimed. NOTE: Where you require advice to rely on in any matter, it is best practice to consult and retain a suitably qualified expert in the relevant field.