Ask The Audience - UK Property Finance Question

[Benjamin]

We are considering buying a UK property (our French house is our only property). We've checked out the tax situation.

We have seen a scheme offered by a large UK builder whereby we pay 75% of the value of a new property and own 100% of the property. The remaining 25% is considered to be an "interest free" loan and must be repaid before the end of the tenth year. When the repayment is made the builder receives 25% of the then value so long as the property has risen in value but if not they receive the original 25%.

The property is intended as a buy to let so selling before the end of the tenth year to repay the "loan" would not be a problem.

Has anyone looked into this or a similar scheme or do you, the Audience, have any comments to make, positive or negative?

 

[Pickles]

[quote user="Benjamin"]We have seen a scheme offered by a large UK builder whereby we pay 75% of the value of a new property and own 100% of the property. The remaining 25% is considered to be an "interest free" loan and must be repaid before the end of the tenth year. When the repayment is made the builder receives 25% of the then value so long as the property has risen in value but if not they receive the original 25%.[/quote]

The first thing to note is that you will not be paying 75% of the VALUE: you will be paying 75% of the PRICE. And that is really the key. Essentially, the property is not currently worth the full asking price, and probably won't be for some time to come. If for any (unforeseen) reason you have to sell in the next couple of years (or maybe longer?), you will probably lose money. Try offering them 80% of their current asking price for a quick completion and start from there ... And if it is a two-bedroomed ANYTHING, be aware that the rental value will probably be less than you think.

Regards

Pickles

[Benjamin]

Thanks Pickles. You don't post very often but I always respect your viewpoint when you do.

Deciding on the value of anything in the current UK property market is very difficult and the situation is one that we had thought of. The fact that the asking price could already be inflated to take account of the financing cost of the 25% portion had crossed our minds. Is your statement that the property is not currently worth the asking price based on fact or is it the same "gut" feeling that we are also having?

Strangely enough it is a two bedroomed flat that we are looking at in a city with a sizeable student population and a large hospital not too far away. Why do you make this comment?

[Pickles]

[quote user="Benjamin"]Thanks Pickles. You don't post very often but I always respect your viewpoint when you do.[/quote]

Thank you kind sir!

[quote user="Benjamin"]Deciding on the value of anything in the current UK property market is very difficult and the situation is one that we had thought of. The fact that the asking price could already be inflated to take account of the financing cost of the 25% portion had crossed our minds. Is your statement that the property is not currently worth the asking price based on fact or is it the same "gut" feeling that we are also having?[/quote]

It is a market that I keep tabs on for various reasons. As you say, it is difficult to determine what is the "value" of any property in the current market conditions, and with new property it is even more difficult. However, what you CAN do is to take a look at the resale values of recently-built properties in the same area, and also do some research on anything that is going through as a repossession or similar distress sale (eg through auction etc). For instance, a lot of city-centre properties (eg Manchester) were being sold off-plan as being "worth" say £200k, but discounted by 10% as an off-plan purchase. The valuations that are being used for remortgages on these properties are now rather less than the actual price paid, never mind the original "value" ascribed by the builder. Some that are going to auction as distress sales are attaining less than £120K ...

[quote user="Benjamin"]Strangely enough it is a two bedroomed flat that we are looking at in a city with a sizeable student population and a large hospital not too far away. Why do you make this comment?[/quote]

In most cities (eg Manchester/Leeds/Liverpool as prime examples) now there is a gross oversupply of 2-bedroomed flats. They've been built because they gave the builder a good unit density. They do not really respond to the housing need - which is more along the lines of (3-bed?) houses or 1-bed flats. There is a large amount of unsold stock - some of which has been unsold for several years. From the rental point of view, there is a large amount of 2-bed flats that is vacant. They CAN find tenants ... eventually ... but when they are let they invariably attract a rather lower rent than was originally promised by the builder/lettings agent. You may remember the adverts offering rental guarantees (for a couple of years) of 6% on certain developments? Well, in general the people who bought into them found that the achievable rent actually equated to more like 3% ...

The other thing with these developments is the service charge, which seems to have become a stealthy way for the builder to construct an income stream either for themselves or which can be sold on. In Salford Quays (yes, well ... just as an example) there is a development where you would be expected to pay of the order of £10-12K for a parking space plus £5-600 per year service charge ... just on the parking space! You as the landlord end up paying the service charge but you don't get to pass any part of it on (whereas in France you would ...)

If you are tempted by a new-build 2-bedroom flat as a rental proposition, then take a long hard look comparing the prices with those of a recently-built resale property of similar type - and also look at the residential auction sales at present. You will probably find that the second-hand property is a better purchase, which will achieve pretty much the same rent. Then compare the price with that of an older house, possibly away from your current city-centre location of choice. The rental return may well be better, and while there may be slightly more in the way of maintenance, offset that against the flat's service charge and the tendency of houses to retain their value rather better than flats. Some of those doing well out of BTL have tended to buy houses that need a bit of relatively low-cost modernisation, which can provide a significantly better return than most flats.

[Edit 2]Be aware that student lets in particular equate to voids in the rental period ...

Just my initial thoughts ...

[Edit 1]And as luck would have it, here are the thoughts of the Times ... http://www.timesonline.co.uk/tol/money/article4627816.ece

Regards

Pickles

[Anton Redman]

It is financial snake oil. Given that the return from renting will be only a very small amount above the return from putting the money on deposit a large part of your reason for buying is that you believe the value of the property will increase by far more the net interest rate. If you were borrowing at 6 % to fund the property and the average house price inflation over the ten years is 8 % the cost of the deal to you is £36,807 per £100,000 of loan. I am not sure if the interest which you will eventually pay will be allowed against your rental income by UK tax authorities let alone French. It will not be allowed until it is paid and given we are looking at £ 115,892 per £100,000 of borrowings assuming house price inflation at 8 % will take a fair amount out of your rental income and possibly create losses which you cannot carry back far enough to use.

 

NB I am so far out of touch with French and UK tax legislation that I tend to work on £ s d . I would avoid the deal like the plague but run it past somebody else, who is up to date with a few different views of interest paid or receivable and house prices. Alternatively play with Excel and see what happens. Even the doom scenario where property prices tumble looks bad news

[Pickles]

[quote user="Anton Redman"]It is financial snake oil. [/quote]

A good summary! The builders are desperate to sell ... They will still be making a profit at 75% of asking price, and are prepared to defer additional profits if it means making a sale. Incidentally, in the commercial sector, there have already been examples of builders demolishing - or taking the roof off - speculatively-built, unsold/unlet property to avoid property taxes. In the residential sector, I think that once the property has been completed for 6 months and is unsold/unlet, the builder has to pay council tax at the empty rate on the property.

[quote user="Anton Redman"]I am not sure if the interest which you will eventually pay will be allowed against your rental income by UK tax authorities let alone French.[/quote]

Sorry, I'm not quite with you there ... just to clarify, I'm sure you are aware that the interest paid on any mortgage on the property (but NOT repayment of the capital) would be able to be offset against the rental income for UK and French taxation. If I've understood the original post correctly, then the 25% held by the builder is an interest-free loan, and therefore any repayments towards that count as capital repayments, and cannot be offset against income, because there aren't any interest payments in regards of this sum. However, until the builder is bought out, the values of the property for CGT purposes (both initial and sale) would be reduced by the respective values of the builder's holding. Or am I on a different tack to you?

Regards

Pickles

[Benjamin]

Anton

I should have made the point that we will not be borrowing to finance the purchase but using funds already in a UK deposit account. Our criteria therefore will be to beat what we currently receive and achieve some capital growth over time to protect ourselves from the effects of inflation. Whilst I may not agree (as a net saver) I think the next move in UK interest rates will have to be downwards, if only as a political decision.

Pickles

Thanks again for your informed comments. I'm looking at a fairly new "millenium" city that hasn't already had a lot of central regeneration so there isn't an overly large supply of new or nearly new properties for sale. I will, however, do my homework as you suggest.

I've only just noticed and read your edit at timesonline but I'm getting the message to go and negotiate hard as I'm not liable to be in the pound seats as far as being a cash purchaser goes ever again.

[Anton Redman]

The tax point I was trying to make was a that depending on exactly how the contract was drafted there were a number of different ways in which the payment you have to make to the builder could be treated for UK tax purposes. Assuming the amount deferred is £ 100,000 and that property rises by 8 % compound per year. At the end of ten years you have to pay the builder £ 215,892. which is £ 36,807 more than you would have had to pay to borrow at 6 % compounded.

The first £ 100,000 is repayment of the loan and therefore part of the base cost of the property for UK CGT. I do not know how the balance of the £ 115,892 will be treated for either UK tax or French Tax. Possibilities :

Treated as part of the base cost for CGT and allowed as a cost only when you sell the property.

Treated as interest paid and therefore only allowed in the tenth year as a cost against rental income.

Allowed as neither

I do not know but I would want to be very sure of my tax position in both France and the UK before I took up the offer. Assuming 6% interest then a deferred consideration of £ 100,000 equals about £ 41,000 off the price. So £ 25,000 deferred = £ 10,250. However once house price inflation is greater than the interest you could earn net of tax it looks like a very poor deal. Also it maintains a false market as the land registry records will show the flat selling at full price.

 

 

[Pickles]

Anton

Aha! I understand what you were getting at ... I evidently didn't read your earlier post carefully enough. As you say, how the repayment is treated by HMRC is of paramount importance, and though I think it ought to be treated simply as an offset against CGT on eventual sale only, it is not necessarily as clear-cut as I had suggested.

Benjamin: I'm sending you a pm.

Regards

Pickles

[Benjamin]

Anton

I am also guilty of missing your well made point. The nightmare scenario is that one set of tax authorities take one view and another the opposite view.

Thanks for the input. We are just about on the point of deciding that this route is too fraught with potential future administration problems before even the investment criteria can be sorted.