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By The Next Step

Is buying-to-let worth it?

3 min
Man in shirt staring out of window holding mug

Given your potential earnings throughout your career, at some point you may consider going down the route of buying a buy-to-let property.

There are many conflicting opinions on whether this is worthwhile or not. An increasing tax burden and level of tenant’s rights has meant that less and less people are buying buy-to-let properties.

However, this type of investment may still be an option for those investors willing to take the risk.

Financial benefits?

There are two main perks of owning a buy-to-let - the rental yield and the potential increase in the property value. Typical rental yields (as in the rent you charge) range from 5% to 7%, although this depends on the property and location, as there are vast ranges across the country.

Here is an example:

Say you owned a property worth £200,000 and you were getting a rental yield of 6%.

Annual Rental Income = £200,000 x 6% = £12,000 (or £1,000 per month)

In addition, there’s also the potential increase in property value (realised when you sell the property). Over the long term this can add up, but the important thing to note is that it is not guaranteed growth year on year.

In fact, it is much more cyclical and there are many occasions where house prices have dropped, meaning you get back less than what you put in.

The tax can’t be that bad?

There are a few things to note here. Not only do you pay a ‘3% surcharge’ on stamp duty tax when you buy a second house (whether it is a rental or not), there are also elements of tax throughout the journey of owning a buy-to-let property.

After you have paid the increased stamp duty for buying the house, any profit from the rental income is taxed at your highest marginal rate of income tax (possibly 40%).

Yes, you can claim back certain expenses (such as any maintenance costs or letting agency costs), but on the mortgage interest tax relief the rules have changed (you used to be able to claim at 40% as a higher rate taxpayer, but this is now capped at 20% for all).  

Although an accountant would be best placed to calculate this, the taxation on any rental income can often mean you make little or no monthly profit when you take into account a buy-to-let mortgage on the property.

Sometimes it can even mean you are subsidising the mortgage, not to mention any periods where the property is vacant.

Then, when it comes to selling the property, you pay an enhanced level of Capital Gains Tax on the ‘profit’ from the sale (28% for Higher Rate Taxpayers or 18% for Basic Rate Taxpayers).

Putting it simply, you are heavily taxed when you buy a house (stamp duty surcharge), you are taxed whilst you rent it out (income tax) and you are taxed when you sell the property (Capital Gains Tax).

So, what’s the point?

Owning a buy-to-let property can give a good level of diversification in your investment portfolio (it is important not to rely solely on ‘cash-based investments’ or ‘stocks and shares’). It can generate good levels of return which could top-up your retirement, help you retire early or just provide an extra source of income.

But be warned, it is not plain sailing: high taxation, periods where the property is vacant, likely maintenance costs and other fees such as letting agency fees do not make it a guaranteed way to make money.