Paragon Group of Companies – Written evidence (EHM073)
Lords Economic Affairs Committee Consultation on the Economics of the United Kingdom housing market
A response from the Paragon Group of Companies
Introduction
Paragon is a leading independent provider of mortgages to residential property investors in the UK Private Rented Sector (PRS) through our specialist brands, Paragon Mortgages and Mortgage Trust. We are proud to be members of the Council of Mortgage Lenders, the Intermediary Mortgage Lenders Association, the Association of Residential Letting Agents' lenders panel, the National Landlords Association and the Finance & Leasing Association. We are also members of HM Treasury’s Home Finance Forum.
We launched our first buy-to-let mortgages in 1995 and have increasingly focused our business on professional landlords who have proven experience in purchasing and letting residential rental property. This focus is reflected in the excellent performance of the Group’s buy-to-let mortgage assets and our reputation as a leading voice in the sector.
We are part of the FTSE 250 Paragon Group of Companies, which has £11.2 billion of total assets under management and more than 40,000 landlord customers who are mainly professional landlords with larger portfolios.
Given our background and expertise, in this consultation response, we have focused our answers on the questions relating to Privately Rented Accommodation.
Background
As a way of background, the UK’s Private Rented Sector (PRS) is home to 4.9 million households – accounting for one in five households in England alone. Since 2001, the UK’s PRS has more than doubled in size. It is now the second largest housing tenure having overtaken the social housing sector.
As the PRS has grown, the decline in the social housing sector has been significant, falling by one million homes between 1991 and 2012. Owner-occupation peaked in 2002 at 69.2% of housing before falling to 64.2% in 2012.
Compared with rental markets around the world, the UK’s PRS, despite its expansion, is still relatively small. A report by the University of Cambridge compiled in 2012 noted that whilst the UK’s PRS accounts for over 18% of all housing, Germany and Switzerland are more than double at 49% (2006) and 58% (2012) respectively.
There are many factors that have contributed to the growth in the PRS including population growth, high migration and more young people entering higher education. Other lifestyle changes have impacted the sector too with people choosing to settle down later in life, therefore postponing home ownership. Alongside these demand-side factors, housing affordability has been impacted by low levels of house-building, tighter mortgage availability and tougher mortgage regulation.
The perception of renting has also changed. Whilst the PRS was once regarded as the tenure of last resort, it is now increasingly popular with young professionals, couples and families. The flexibility of the sector is being recognised by a larger and more varied demographic of people.
Unlike the picture often portrayed in the media, the majority of PRS tenants are happy with their homes. In fact, over eight out of ten PRS tenants reported that they were satisfied with their accommodation in the 2013/14 DCLG UK Housing Survey.
The introduction of the Assured Shorthold Tenancy (AST) agreement in the 1988 Housing Act paved the way for the flexibility that tenants in the PRS enjoy today, allowing them to break their tenancy after an initial six-month period. The AST also allows for stability, with the average tenant staying in their rental property for 2.6 years and families for 3 years, according to BDRC data from 2015.
What measures can be taken to increase the supply of low cost private rental properties in the UK?
Savills forecast the number of households in the PRS will need to rise by 1.2 million by 2019. Further investment is needed to keep pace with demand. One of the key factors that has facilitated growth in the PRS has been the success of buy-to-let mortgage finance. The development of the buy-to-let mortgage market has enabled the sector to meet the increasingly diverse needs of a dynamically evolving population.
Buy-to-let mortgage lending contracted sharply following the financial crisis. The market has made significant steps on the road to recovery and is performing well. However, further growth is needed to enable landlords to invest in quality property to meet the increasing demand from tenants.
Buy-to-let mortgage advances peaked at 346,000 in 2007 with a value of £45.7 billion. In 2010, advances dropped to 85,200, with just £9.1 billion of new lending. In 2014, advances had recovered to £27.4 billion – a good rise, but still 40% below the market at its peak.
Additionally, buy-to-let landlords’ rental investments are also subject to stringent credit stress testing. After the worst economic environment for nearly 60 years, buy-to-let has been severely stress-tested and has proved its resilience. Along with the rest of the mortgage market, arrears rose but from a very low base and have been in decline since Q1 2009.
Buy-to-let is a key component of the PRS and is enabling its growth, including the supply of low cost private rental properties. Given this, it is essential that Government policy recognises the important role but-to-let plays in meeting demand in the UK housing market.
Will the reduction of tax relief available to private landlords announced by the Chancellor of the Exchequer in the 2015 Budget increase the cost of privately rented accommodation?
The Summer Budget 2015 introduced a number of measures that will impact buy-to-let landlords. Intended to ‘create a more level playing field’ between landlords and home-owners, the initial reaction from many landlords suggests the measures may result in a reduction in investment levels in the PRS which will potentially lead to rent rises for tenants and a lack of supply.
Regarding buy-to-Let tax relief, currently, landlords are able to deduct all finance costs from their rental income, with profits taxed at the landlord’s marginal rate. However, effective from April 2017 and phased over a four year period, tax relief for finance costs will be restricted to a basic rate tax credit.
Additionally, landlords of furnished properties are also currently able to deduct 10% of their rental income from taxable profits to account for wear and tear, irrespective of actual expenditure. Effective from April 2016, only the actual cost of replacing furnishings in the tax year of replacement will be allowable for deduction.
In response to the announcement of these measures, IMLA (The Intermediary Mortgage Lenders Association) polled landlords on their reaction. Landlords were particularly concerned about the change to the finance tax relief measures:
- 64% said they would buy fewer properties
- 43% said they would sell some properties
- 71% of landlords said they would need to increase the rent
- 29% of landlords said they will spend less on maintenance
It is also worth highlighting that the Opening Remarks of the IFS Budget Briefing stated:
“There is a big problem in the property market making it difficult for young people to buy, and pushing up rents. The problem is a lack of supply. This change will not solve that problem.”
Moreover, the implementation methodology proposed in the Finance Bill to reduce tax relief on buy-to-let finance to the basic rate may have unintended consequences for some landlords. The proposal removes any deduction of finance costs when computing statutory total income (STI) and allows tax relief for interest as a credit against total tax.
This will increase STI, moving some taxpayers to higher rate bands and may result in claw back of child benefit and loss of personal allowance for others. A sliding scale for taxpayers who straddle tax bands as a result of the new measures, together with a longer phase-in for those with larger portfolios would help to minimise negative impacts.
Appendix 1 includes infographics which illustrate some of the intended and unintended consequences of the measures.
Will the current trend of a decline in home ownership and an increase in private renting continue? How can the Government encourage a stable long term rental culture?
The UK population is expected to grow to 73.2 million by 2035 but housing supply is failing to keep pace. It has been estimated that 290,500 new homes will need to be built each year to meet this growing demand. Only 141,000 homes were built in the UK in 2014. The current supply is failing to meet demand placing severe pressure on the housing stock and the PRS. The government is making positive steps to boost housing supply. However, the importance of a healthy and competitive PRS cannot be emphasised enough.
It is vitally important that we foster a regulatory environment that encourages the continued participation of both residential property investors and lenders. The UK has recognised that a buy-to-let loan is a business transaction. It is the borrower’s intent to let property in which they are investing to generate a return and in the long-term, to sell it at a profit.
The but-to-let market is heavily regulated and landlords have to comply with a wide range of rules governing the sector. The Mortgage Market Review does not directly impact on the buy-to-let market and we welcome this given the regulations that are already in place.
We urge the Government to support a long term and sustainable rental culture and not to impose any further regulation that could have an adverse effect on the supply of rented property at time when more investment it the sector is needed. In particular, we would not advocate longer fixed term tenancies or rent controls which may serve to distort the market.
What are the advantages and disadvantages of restricting rent increases in the private sector?
ONS statistics have record a 1% annual increase in rents. Therefore, excessive rent increases are not a reality and rents typically only change when tenancies change.
Moreover, the English Housing Survey (2012-2013) found that average private rents increased only 6% over a five year period, far beneath the overall inflation rate for the same period.
The English Housing Survey also found that, in general, those who live in their home for longer pay less rent. For those who have been in their property for three years or more, rent is generally over 6% lower, for those in properties five years or more, rent is generally 12% lower.
Additionally, HomeLet’s December rental index showed rents on new tenancies stayed flat or fell slightly in 10 out of 12 regions compared with the previous three months. The research also found that 9 in 10 landlords do not intend to raise existing rents in the first six months of the 2016. Even looking further ahead, only 34% per cent of landlords plan to increase rents over the next 12 months.
As mentioned above, excessive rent increases are not a reality and rent restrictions run the risk of building in a mechanism to increase rents annually.
Private Ownership: Are there tax measures that would improve housing supply and affordability? Has the 2014 reform of Stamp Duty Land Tax improved the affordability of houses for first time buyers? Should there be further reform to Stamp Duty?
The current Government has introduced a significant change to the Stamp Duty tax regime for house purchases. The abolition of the previous ‘slab’ structure and introduction of a more progressive system was long overdue. It is, however, having an impact on house prices and demand and will need time to ‘bed down’. In the current context of a shortage of housing supply and increasing demands on the PRS, there should be no further taxation measures on the housing sector.
We remain concerned about the impact of recent taxation changes on the buy-to-Let sector which is a core part of the PRS – particularly reforms to the stamp duty surcharge announced in the Autumn Statement. These measures are likely to significantly impact both rents and the longer term supply of property in the private rented sector
Paragon
16 December 2015
