Investing in buy-to-let property: capital returns


If you’re considering investing in buy-to-let property to help fund your retirement, you need to think long term as well as working out how much you might make from rental income.

Buy-to-let landlords can also make financial gains or losses from movement in the value of the property. So let’s look at the way house prices have performed over that last eleven years.

The following graph uses Land Registry data for England, and shows the annual change in house prices between February 2006 and February 2017. You may like to compare this graph with one showing fluctuations in gross rental yield in English residential property over the same period. You’ll find this in our article Investing in buy-to-let property: rental yields. 


Source: Land Registry

House price data is currently only available at national level, which is why the following chart uses data for England only. However, these comparisons are purely for illustration and similar trends have been experienced in Scotland, Wales and Northern Ireland.

Over this 11 year period, the highest annual increase in the average price of a house in England was slightly over 10% in the 12-month periods to April 2010 and June 2016, with the worst 12-month period to March 2009 resulting an a fall of over 15.5%.

The annualised rate of return over the whole period was 3.1% a year.

Please bear in mind that previous fluctuations in house prices aren’t an indicator of how prices might fluctuate in the future.

 

Think about the costs

Like rental yield, one-off costs are incurred when buying and selling property. These costs will have the effect of reducing the overall return. For example:

  • Stamp Duty Land Tax

An additional rate of 3% stamp duty is charged on the purchase of a second home or buy-to-lets worth more than £40,000 from 1st April 2016. On the purchase of a buy-to-let valued at £200,000, £7,500 in stamp duty would be payable and, on the purchase of a £500,000 property, the stamp duty would be £30,000.

  • Legal fees

These depend on the value of the property, but typically around £1,000 - £1,500 including VAT.

  • Valuation and survey fees

They can range from zero to around £2,000, depending on the requirements of the lender.

  • Furnishing

If the property is to be let as furnished, then furniture will need to be purchased. Depending on whether this is bought new or second-hand, the cost of beds, tables and living room furniture could cost anything from £250 to £2,500 or more. 

  • Estate agent fees

These fees are typically 1% to 3% of the sale price plus vat at 20%.

  • Removal costs

These will depend on how many possessions you are moving, how far away the new property is and the property location but the typically range is from £300 to £600.

All of these costs need to be factored in when calculating the return on your capital investment.

 

Example

Assume a buy-to-let property worth £200,000 is purchased, and its value grows at 3.1% a year over 11 years to £277,000. However, costs incurred in buying and selling the property need to be taken into account. Assume these are as follows:

·         Stamp duty – £7,500

·         Valuation/survey fees – £500

·         Furnishings – £1,000

·         Legal fees – £1,000

·         Estate agent fees – £1,800 

TOTAL CAPITAL COSTS – £11,800

This has the effect of reducing our £77,000 capital profit to £65,200, and our annualised rate of return to 2.96% (from 3.1%).

Taking both the income and capital returns together, we can see that over the 11 years to February 2017, the net annual return would have been around 5.5 to 6% a year, roughly half coming from net rental income and half coming from the net of costs capital return.

Please bear in mind that this example is for illustrative purposes only, and actual costs may be lower or higher.

  

You might also be interested in…

> Investing in buy-to-let property: rental yields

> Retirement Planning: pension vs property 

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