It seems we all know someone who's a property investor in some way, shape or form. The most common incarnation is a Buy To Let landlord, something that's become particularly accessible over the past decade, to the point where ludlowthomspon reported last year that there are 1.75 million landlords in the UK.
And whilst Buy To Let is still an appealing way to invest into property on a high level, changes to the tax liabilities relating to Buy To Let properties are making it less of a financially lucrative one for many.
But this doesn't mean property isn't an attractive proposition for investors.
In fact, that couldn't be any further from the truth, especially when you realise buying a property purely for the intention of letting it out is only one of the many ways to invest into property.
Making your first property investing decision
There are fundamentally two decisions you must make to begin your property investing journey. Both as equally as important as each other, answering them allows you to take the path with property investments that is most suited to you as an investor.
1. What's your ideal investment return type?
For any type of investment, taking professional advice is always recommended. When doing so, one of the first questions you'll generally be asked is what you want to achieve from your investments - an income delivered on a regular basis or a lump sum delivered after a period of growth?
With property especially, income and growth are not mutually exclusive, but understanding the distinction between the two can help you navigate the various property investment options available.
a) income returns
If you would ideally like your property investment to deliver income, you should give close consideration to the opportunities that produce a yield. This is the financial return that you would expect to receive on a regular basis.
The yield does not alter the capital sum that you have invested, but could be seen as a ‘reward’ for making that investment.
Depending on the nature of your investment, the terminology around yield can vary:
- Rental yield is a term associated with monthly rental payments that you would receive should you invest in, for example, a residential buy-to-let property. The payments are expressed as a proportion of your capital investment.
- Dividend yield is the term used to identify regular payments paid by investments across a range of different asset classes. These depend on the performance of the investment and therefore are not guaranteed in the way that interest paid on savings deposited would be.
Although there's no definitive rule, those investing into property for yield are generally looking to supplement an existing income, or potentially even use such investments as their primary income.
b) growth returns
Growth can be achieved through a range of asset classes in general, and a variety of options within the realms of property investing.
To give a simple scenario of growth, imagine you bought a residential property for £100,000 and two years later sold it for £120,000. This would represent growth of £20,000.
Alternatively, if you were to make a £10,000 investment in a property fund and subsequently sell your investment for £12,500, this would represent growth of £2,500.
As with the two varieties of income, growth is also likely to incur costs and could generate a tax liability.
Whilst investing for growth has arguably more risk than investing for income, doing so with property in mind has seen many positives over the last decade or two - the value of UK property has increased since 2000, with residential property in the UK in particular having grown by an average of 6.6% per year.
By comparison, commercial property has grown by an average of 3.7% per year over the same period, and both investments have outperformed inflation, measured as the Retail Price Index (RPI), which ran at 2.8% over the period.
How do I decide whether to invest for growth or income?
Determining whether or not to prioritise growth or income through your property investments is a personal choice for you to make and one we strongly recommend taking professional, financial advice over.
Whilst we do not offer financial advice, there are some interesting characteristics that can be associated, on a general level, to growth or income-based property investors.
For instance, investors pursuing income often have a relatively large capital sum to invest and a relatively modest current income. Conversely, investors that pursue growth often have a relatively high current income and a relatively limited capital sum to invest.
Further to these current financial characteristics, your financial time horizon can influence your preferred method of return.
Income can generally be realised more immediately than growth and therefore is more likely to suit you if you would like to realise a return over a shorter time horizon.
Conversely, growth is more likely to take longer to achieve than income and therefore more likely to suit you if you would like to realise a return over a longer time horizon (and a longer time horizon should also allow the investment to overcome short-term volatility).
It's also important to take into account the tax implications, as taxation is, as ever, an important consideration for any investor.
The way your investment returns will be taxed depends on which of the three sources you benefit from: rental yield, dividend yield, or capital growth.
The way that each source is treated by the tax system is summarised below:
- Rental yield is income received from direct property investments. It is classified within the tax system as additional income and added to your income from other sources.
- Dividend yield is income received from indirect property investments. It is subject to a specific dividend tax, the level of which is determined by your total income.
- Growth is classified within the tax system as a capital gain and therefore subject to capital gains tax.
As you can hopefully see, no one can make the decision for you as to which investment type - growth or income - you should choose. It's predominantly a personal decision, and there genuinely isn't any right or wrong answer. It simply comes down to what you want to achieve from the money you have available to invest into property.
And this is exactly the same for the second question you should answer before considering an investment.
2. How involved do you want to be with specific properties in your investment portfolio?
Having made a decision on the type of investment return you wish to achieve, you must then decide on the approach to take to achieve this.
And from a property investing point of view, this generally comes down to how involved you want to be with specific properties in your investment portfolio, as there are two clear routes - direct and indirect investments and ownership.
a) direct ownership
As you might expect, direct ownership involves you being heavily involved in the acquisition, refurbishment, and/or management of a property investment.
Historically, this approach to investment has offered strong returns for investors, but it nevertheless presents a range of specific risks that you should be fully aware of. Examples of these include:
- Individual properties are expensive to purchase, making it more difficult for you to diversify your property portfolio (and a lack of diversification generally increases the risk level of any investment portfolio)
- It could take longer to sell a directly owned investment than it would to sell an indirectly owned investment
- Transaction costs can also be high; buying and selling directly will require you to pay fees to third parties such as conveyancers, estate agents, and surveyors
- Maintaining your property is also likely to incur costs. For example, the boiler, electrics and decor will all need periodic budget allocated to them.
b) indirect ownership
For many investors new to the property market, often one of the most surprising findings is that property investment does not have to involve direct involvement with the bricks and mortar.
If you would rather take a less direct approach and have someone else manage, for instance, tenants, contractors, and building regulations, there are a range of investment options that enable you to do just that.
In this sense, the indirect property investment options available to you are more like other investments - your concern is in providing the capital and deciding where to place it.
For indirect property investing, there are generally one of two fundamental classifications:
- Lending: this involves investing capital either through a financial institution or to a property company for a fixed period of time and at a fixed-rate of return. Lending provides a clearer sense of when you can expect to have your capital fully repaid, and investing in this way typically provides a more secure income, but conversely, no opportunity for growth.
- Equity investing: effectively the process of taking a share in a company that is focussed on property, as with all equity investments, you own the investment until you decide that you wish to sell it. The equity investment that you make may pay a dividend, but this is dependent on the performance of the product. However, whilst the income offered through equity investing is less secure and could be less generous, the potential for growth is often considerable and unconstrained.
Investors are often encouraged to see growth as a longer-term ambition than income, which can be achieved more quickly.
The emergence of property crowdfunding is enabling more investors to invest in residential property at the point when sites have been acquired, planning permission has been secured, and works on site are ready to commence. This represents a role previously restricted to professional housebuilders - and as an investment proposition it offers the potential for rapid capital growth, something to which investors attach a real premium and which can often prove elusive.
Such a high return is accompanied by a relatively high risk, but unlike other comparable equity investments, a property crowdfunding investment offers downside protection through the underlying physical asset.
If the project does not go according to plan and your investment was to lose value, the underlying asset will avoid your investment losing all of its value.
Learn more about integrating property investments into your portfolio
The points I've covered here touch on the initial decisions you need to make as an investor looking to get involved in property, but there's a considerable amount more to take into account.
We've produced an extensive guide that offers a brilliant high level introduction to the world of property investing and how you actually go about integrating property into your portfolio.
Touching on everything from the decisions you need to make that I've covered here right through to the different property opportunities available, the guide is completely free to download (and compliments our property investing webinar perfectly).