How to beat the squeeze on buy-to-let

As tax rules tighten their grip, some landlords are now investing in high-risk but tax-efficient funds, says Harry Brennan

Fed up landlords are increasingly looking at alternative investments to offset the squeeze on their rental incomes following the scrapping of valuable reliefs in recent years. The Government has not been kind to buy-to-let investors. First it restricted tax relief on mortgage interest payments. Under the old regime, buy-to-let investors paid tax only on their profits and declared their rental income only after they had paid the interest on their mortgage. This resulted in a cut to their income tax bill of potentially thousands of pounds. Under rules introduced in 2017, which will be fully implemented in 2020, landlords will not be able to deduct mortgage costs from their income but will receive a 20pc tax credit on the amount of mortgage interest they pay, regardless of tax status.

For many, tax bills will be higher. As an example, before 2017 someone who earned £11,400 a year in rental income, with mortgage interest payments of £7,200, would pay tax on the £4,200 in profits – £840 for basic-rate taxpayers or £1,680 for higher-rate taxpayers. From 2020 a landlord would pay tax on the full £11,400, receiving a 20pc tax credit on the £7,200 mortgage interest payments worth £1,400. A higherrate taxpayer would end up with a £3,120 tax bill – nearly double the previous amount.

On top of this, since 2016 anyone who buys a residential property in addition to one they already own has to pay 3 percentage points in stamp duty on top of current rates, which typically range from 2pc to 5pc of the value of the property. To cap it all, at the same time the Government abolished the “wear and tear allowance”, which allowed landlords a tax clawback of up to 10pc of the net rental income to repair or replace furnishings, even if a property was unfurnished.

Landlords are now able to claim only for the cost of buying new appliances or furniture.

While this squeeze on earnings has caused some to turn their back on property, others are channelling their rental incomes into investments that keep the taxman at bay.

How to beat the squeeze

Clem Vogler, a buy-to-let investor and retired physics teacher, has saved £50,400 in income tax in just three years by putting £168,000 into venture capital trusts ( VCTs) and the Enterprise Investment Scheme (EIS).

VCTs are investment companies listed on the London Stock Exchange that nurture Britain’s smallest businesses. The EIS play a similar role, encouraging investment in small, unquoted companies. Both provide up to 30pc upfront income tax relief, taxfree growth and tax-free income. Tax relief on VCTs applies only if you buy newly issued shares.

By claiming this relief you can offset the tax you pay on your buy-to-let. For example, someone who earns £30,000 a year from their property and expects to pay around £6,000 in income tax can put £20,000 into a VCT, keep the rest safe in an Isa, claim back 30pc on the £20,000 VCT investment and write off the tax bill.

Mr Vogler, 72, bought his first rental property in the early Seventies when working as a teacher, taking out a mortgage with a building society. The property cost him £3,950 and he let Cheapest buy-to-let mortgage from Leeds Building Society undercuts lowest residential rate ‘for the first time’

The battle between buy-to-let mortgage lenders has intensified, with Leeds Building Society offering a mortgage rate that undercuts even the cheapest residential deals.

Mortgages for landlords are typically more expensive than residential loans, as banks believe

there is a greater risk when properties are let out compared with being occupied by the owner. But as Telegraph Money reported last month, the slowdown in the buy-to-let market has forced lenders to take drastic action to drum up new business. Several lenders have cut rates and eased lending

rules in an attempt to lure in landlords.

Leeds Building Society has become the latest to cut rates by launching its 1.14pc two-year variable-rate mortgage for landlords. This loan is subject to a £2,499 fee and borrowers must have a 40pc deposit.

This rate means it undercuts every

residential mortgage now available. The lowest homeowner rate comes from Yorkshire Building Society at 1.17pc, subject to a £1,495 fee and a 35pc deposit. Aaron Strutt of Trinity Financial, a mortgage broker, said: “It is highly unusual for buy-to-let rates to match or even undercut the

lowest residential mortgages and it shows how hard the lenders are pushing to tempt landlords to buy properties or refinance.

“I am not sure this has actually happened before.”

The Leeds mortgage is not without its drawbacks, Mr Strutt added, as the variable rate moves in line with Leeds

Building Society’s standard variable rate (SVR).

In a risinginterest-rate environment, this could mean borrowers see their monthly payments rise in future.

“There is always the danger the mortgage will go up when Bank Rate rises, but that could be a while off,” he said. However, I understand they need more funding and they need to get money from somewhere, so I expect this will just continue,” he said.

He added that he had also benefited from a “few hundred pounds” in tax-free income from the investments every three to six months. Although VCTs and the EIS are inherently high-risk, as they often deal with smaller and growing companies, he has experienced little volatility compared with holding individual shares. “I used to hold BP, but after the Deepwater Horizon oil spill in 2010 they tanked overnight,” he said.

The VCTs he has owned include Mobeus Income & Growth, Hargreave Hale and Amati.

Paul Latham of Octopus Investments, a VCT provider, said investing in this way could be risky but could help “squeezed” landlords who didn’t want to sell up.

“There’s no question that the investment outlook for buy-to-let has come under increased pressure in recent years as the steady stream of tax changes have eaten into landlords’ returns,” he said. “Yet property remains an attractive asset and the prospect of further taxation in the form of capital gains tax can make selling a property less palatable.”

Alex Davies of Wealth Club, an investment platform, also warned of the risks, but said VCTs were “one of the last simple and tax-efficient investments left for higher earners”.

He tipped three VCTs. He said Octopus Titan had a good track record of spotting rising stars and selling them off to be incorporated into larger companies such as tech giants Amazon and Google.

Maven Income & Growth is another with an “impressive track record”, investing in “mature businesses” that make “real things people need”, Mr Davies said.

British Smaller Companies VCTs are “among the VCT ‘grandads’, with a very experienced manager at the helm”, he added.

Its past successes include the sale of camping shop Go Outdoors to retailer JD Sports for £130m.

Mr Vogler saved £50,400 in income tax over three years

Clem Vogler and his family own 20 properties. When buy-to-let tax relief started to be ‘clobbered’ he invested in tax-efficient funds