Buy-to-let vs holiday let – find out which makes the best investment
Buy-to-let (BTL) has become a time honoured investment option, combining regular rental income with the chance of long-term capital growth.
But landlords complain that the renting landscape has been rendered far more challenging in recent years, thanks to changes to the tax regime that reduce rental returns and increasing regulation.
Meanwhile, there is a shinier, sexier real estate investment option on the block – holiday lets, which can earn far more on a night-by-night basis with the added perk of being a “free” bolthole for family getaways.
Staycationing is certainly in vogue, but a holiday let is a high maintenance option for investors, what with regular cleaning and marketing expenses eating into profits.
The truth is that both options have pros and cons.
If you are trying to choose between the two, Telegraph Money explains the key points to consider, including:
Entry costs
You’ll need to have money ready to invest with either option – but your outlay can vary considerably due to different locations appealing to renters and staycationers.
Buy-to-let
Renters tend to have different priorities to holidaymakers – properties near transport and amenities will be more sought-after.
In Bournemouth, Ben Jesty, director of Winkworth estate agents, said many renters want to avoid the tourist clogged town centre and head out to suburbs like Westbourne, two miles away, with its great local high street and comparatively easy parking.
Mr Jesty recommends landlords invest in a flat, and suggests budgeting from £220,000 to £350,000 for a two-bedroom property in that area.
Holiday let
Staycationers tend to want to be in the thick of things, and will often pay a premium for a great-looking property with views. A two-bedroom sea view flat in Bournemouth, estimates Mr Jesty, would cost from around £325,000 to £650,000.
There are other costs to bear in mind, too – for example, purchasing either kind of second property will trigger a three per cent stamp duty surcharge.
Mortgages
Unless you’re a cash buyer, you’ll need a different type of mortgage depending on whether you opt to use a property for buy-to-let or holiday let – and affordability is calculated quite differently.
Buy-to-let
A five-year fixed-rate mortgage (with fees of £1,000 or less) will probably cost you around 4.6pc, said Ray Boulger, senior technical director at mortgage broker John Charcol.
There are cheaper deals out there, but only if you are prepared to pay higher fees. Banks calculate how much they will lend you based on the property’s potential rental income.
Your other income could also have an impact on a lender’s affordability test. Borrowers are tested according to an “income cover ratio” (ICR), which depends on the highest rate of tax you pay.
Basic-rate taxpayers commonly need to prove the rental income being generated by the property is the equivalent to at least 125pc of the mortgage repayments, while higher-rate taxpayers may need to prove 145pc.
Holiday let
You need a specialist mortgage for a holiday let and rates are higher than for a BTL – Mr Boulger said buyers should expect rates of around 5.5pc. Affordability is calculated based on the past few years’ accounts for the property (which you will need to extract from the vendor).
If the property has not been previously rented, lenders may be cautious, although if you have surplus income from your job or other sources they will take that into account.
Rental income
To work as an effective investment, both BTL properties and holiday lets need to be able to generate enough rental income to cover your costs and hopefully offer some level of profit.
Buy-to-let
Rents have risen strongly since the peak of the pandemic, which is good news for landlords. According to Rightmove, advertised rents jumped just over 9pc in the year to January.
Amounts vary depending on where you are, but tenants outside London face an average rent of £1,280pcm. In the capital, the average rent is more than £2,100pcm, according to Zoopla.
The big plus point for a BTL over a holiday let, said buying agent James Greenwood of Stacks Property Search, is that they offer a steady income throughout the year. “But the yield, relative to that of a holiday let, will look low,” he said.
Holiday let
Holiday lets earn you far more per night than BTLs, but the income is more seasonal and prone to void periods. Rachel and Stuart Smith own one BTL property, a two-bedroom house in Neath, south Wales, which is rented for £600pcm.
The couple, from Somerset, also have two holiday lets, a two-bedroom flat in Brean, Somerset, which rents for between £80 and £90 per night, and a three-bedroom house in Tonypandy, Wales, which fetches circa £70 per night.
From a bottom line perspective, the holiday lets are far more lucrative. But Rachel, 42, who also runs a jewellery business and has three children, aged four, six, and eight, points out that they are also much harder work for her and Stuart, 40, who manages the properties himself.
Earnings are also unpredictable. “You might only have 30pc occupancy over a month,” she said. “On the other hand, I do like having the holiday lets because we do use them ourselves as a family.”
Mr Greenwood seconds these words of caution. Running a holiday let can be challenging.
“There is no guarantee of regular bookings, a bad review can cause considerable damage, and owners of holiday lets are operating in an unpredictable political environment where owners of second homes risk further penalisation,” he said.
Tax
You’ll need to consider the tax you pay on the income you earn from the property, as well as what might be due when you come to sell it.
Buy-to-let
Over the past few years, BTL landlords have lost the key financial benefit of being able to deduct mortgage interest payments from rental income when calculating their tax liability. Landlords do receive a tax credit instead, but it is based on 20pc of their mortgage interest payments – rather than the 40pc, which higher-rate taxpayers used to be able to claim.
Some landlords have set up limited companies to run their rental business, which gets around this problem – although incorporating means other costs, including professional fees and corporation tax when you sell up.
Holiday let
While owners of furnished holiday lets are currently allowed to offset their mortgage interest payments (and the cost of furnishings and refurbishment) from their profits, their tax benefits are set to be slashed from April 2025.
Announced in this year’s Budget, from next April furnished holiday let owners will no longer be able to use this tax perk, and they will also no longer be exempted from capital gains tax (CGT) when they sell the property.
These forthcoming rule changes may give some prospective holiday let owners pause before going through with their decision.
Running costs
All properties need some element of repair and maintenance, but your costs – and what you can offset against your tax bill – will be different according to whether or not you choose to be a landlord, or a holiday let owner.
Buy-to-let
Usually, tenants take care of utility bills, TV licence and council tax while they’re renting a property – but you might need to foot some bills for periods when it’s empty. Landlords are responsible for maintenance and repairs, and the cost of this can be variable.
As a landlord, you’ll also need several different safety certificates (gas, electricity, fire) to make sure the property is fit for habitation. Some surveys must be carried out annually, others at the start of a new tenancy. Insurance is a must, and if you buy a leasehold flat there will be ground rent and service charges to pay.
Some landlords take a completely DIY approach, but if you want professional help managing the property and finding new tenants you can enlist the services of a lettings agent or property management company.
If you also want your property managed there is commonly a set-up fee of around £200, followed by a regular charge amounting to 12pc of the monthly rent.
Holiday let
Marketing your property is a major and vital cost to consider. Most holiday let portals take commissions of between 15pc and 25pc per booking. Some also charge a set-up fee of between around £100 and £250.
Airbnb charges hosts a flat 3pc service fee, although it also levies a 14pc fee on guests, which inhibits how much owners can charge for stays.
You must pay all the household bills, and holiday makers tend to be a bit more profligate when someone else is footing the bill. If you have a TV you’ll need a special TV licence, costing £159.
You’ll also either have to pay council tax – with many councils introducing large surcharges for second-home owners – or business rates, if your property is in England and available for 140 or more days per year. In Wales and Scotland, business rates only kick in if it’s actually let for more than 70 days.
Some owners are able to claim small business rate relief to reduce the costs.
Holiday let owners’ other expenses will include maintenance, and getting the property cleaned in between guests’ stays, and arranging for handovers and emergency cover if a problem erupts mid-stay.
Just as with a BTL, you will also pay ground rent and service charge, depending on your lease, and get insurance. Costs vary depending on location and size of property.
You will also need a valid gas safety certificate, renewed annually, although you are not obligated to get an electrical safety certificate (but it is certainly good practice to get one anyway).
Red tape
The Government has plans for increasing the red tape involved in setting up as a landlord or holiday let owner – but some of the changes may be watered down once they’ve completed the process of going through Parliament.
Buy-to-let
An increasing number of councils have introduced local licensing schemes, which come at a cost. Fees vary, but as an example, Southwark Council in central London, charges £1,500 for a five-year licence of a property with five or fewer bedrooms.
The Renters Reform Bill, currently going through Parliament, lays out plans for a national landlord register, although its cost – and whether it will operate instead of local schemes or alongside them – is unclear.
Holiday lets
In February, Housing Secretary Michael Gove unveiled plans to rein back the short let industry by requiring landlords to seek planning permission before renting out their properties. The rules would not apply to people renting out their main home for up to 90 days per year, and existing holiday lets are exempted.
Nonetheless, the proposal, which also involves the setting up a national register of holiday lets, could pose a major hurdle to people considering getting into the business if the Conservatives win this year’s general election and are able to put the idea into practice.
Separately, if you want a low maintenance new-build flat, you need to check the small print before you buy. Some leases specifically prohibit use for short-term lets.
Exit costs
When it’s time to sell up, it’s likely you’ll owe some tax on any gains the property has made since you bought it – but landlords have more opportunities to reduce it.
Buy-to-let
You may need to pay capital gains tax on any price uplift when you come to sell a rental property. Basic-rate taxpayers pay 18pc, while higher and additional-rate taxpayers currently pay 28pc. From April 6 2024, this will drop to 24pc.
You can deduct the stamp duty you paid when buying the property, the cost of major renovations like an extension, and the selling costs from your CGT bill.
Another way to sidestep CGT is to set up a limited company to buy your investment property. Profits are still taxed, but at lower rates.
Holiday let
Second homes are also liable for CGT when you sell.
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