07 04 2016

Buy-to-let clampdown: Which alternative investments should landlords consider?

The latest budget from UK chancellor George Osborne spelled bad news for landlords, with various tax changes coming into force from 6 April designed to undermine the booming buy-to-let market.

IBTimes UK has previously detailed how the four main tax changes will be bad news for landlords who use property as an investment. With the rapid rise in London and South East England house prices since 2009, buying a flat or house to rent out in the future requires one of two things:

1.You manage to buy a property well below market value, perhaps in an auction or from someone you know well who is willing to sell quickly at a discount; or
2.You have heroic assumptions for the future rate of house price growth in the years to come.

If you don't fit into one of these two categories, then it is perhaps better to invest your savings elsewhere. An Individual Savings Account (ISA) may be a simple, attractive option for most people (although if in doubt, please get independent financial advice for your personal situation).

Remember that savings shielded in an ISA avoid:

1.Income tax on any dividend income paid;
2.Capital gains tax on any price gains over time;
3.Inheritance tax if the investment passes upon your demise to beneficiaries of your estate.

Attractions of ISAs, especially 2017's Lifetime ISA

Remember that in the tax year 2015/16 (up to April 5), you can still put up to £15,240 into an ISA. Better still, from April 2017 those of you who are aged between 18 and 40 will be able to invest in a newly introduced Lifetime ISA.

This is attractive because the UK government has decided on the annual amount you save in this lifetime ISA, up to £4,000 per year, they will then add a further 25% (up to £1,000 per year), effectively a 25% rate of return in Year 1 even before you invest the maximum £4,000, now £5,000 in the Lifetime ISA.

This is very attractive for those saving up for their first home (worth up to a maximum of £450,000), as the money can be either used as a pension pot (which can be accessed when you reach 60) or released when you want to become a first-time homebuyer.

But beware: for budding first-time homebuyers in or around London, the £450,000 cap on the first home when using Lifetime ISA savings for the deposit could present a problem, and could even artificially inflate the prices for homes below this threshold as first-time buyers may generate abnormally high demand for homes under this threshold.

Cash vs peer-to-peer ISAs

So let's assume that you have put money into an ISA – now what? The most cautious amongst you may opt to stay in cash and simple earn tax-free interest. However with cash interest rates so low (typically well under 2% per year in a cash ISA account), this is not as attractive an option as it might have been in the past.

Aside from cash, the two most obvious options are to put the ISA savings into either a fund investing in stocks and shares, or a fund investing in corporate bonds (IOUs where you lend money to a company, which both pays you interest and promises to pay back to amount borrowed at a certain time).

There are also peer-to-peer (P2P) 'Innovative Finance' ISAs where you lend your money to smaller companies, which offer higher rates of interest. But this comes naturally at a higher level of risk, that the companies in question may not be able to repay the borrowed money in full when the time comes. The three largest P2P lending platforms engaging in this type of lending in the UK are Zopa, RateSetter and Funding Circle.

Given the newness of this type of investment, I would rather play safe and stick with more established share or corporate bond funds, unless you are an experienced investor and understand the risks you are taking with a P2P investment.

Some share, corporate bond funds for your ISA

But which share or corporate bond funds should you go for, given that there are literally thousands to choose from?

Let's keep things simple: I generally prefer to invest in so-called' index funds', which track a given stock or corporate bond market. They are generally the cheapest funds in terms of costs, which are known from the outset, while chasing performance by investing in the latest popular fund manager can often end up performing less well over time (given the higher management fees to pay, plus the difficulty for any fund manager to keep "beating the market" consistently).

The life insurance company Legal & General has a long history in providing very cheap, index-tracking share and corporate bond funds focusing on different geographic regions such as the UK, continental Europe and the US.

If you have a stocks and shares ISA from a platform provider such as TD Direct, Hargreaves Lansdown or The Share Centre, then you can also invest in index-tracking Exchange-Traded Funds (ETFs), of which there are a large selection.

I personally like the range offered by the largest ETF providers such as iShares, Amundi and x-trackers, and would focus on share-based ETFs that copy the UK FTSE All-Share index or the FTSE Europe index.

Easiest of all, use Nutmeg (or other investing platforms)

Finally, if you simply want to save in an ISA for the long-term but don't even want the hassle of trying to choose which fund to put your money into, you could instead set up an ISA with an investing platform such as Nutmeg and MoneyFarm, who deal with choosing (cheap) index-tracking funds for you and give you a mix of different funds, according to your tolerance for financial risk (i.e. how much money you don't mind losing in the short-term).