Sunday Supplement 15/11/2020

Nov 15, 2020

Another week rolls by and it is Sunday – so time for another Sunday supplement.

I promised last week to provide more information on the bank of England quarterly monetary policy report which helps provide real data, reasonable forecasts and indeed sets expectations in many businesses of all sizes. It is always important to consider the effect the bank wants the reports to have – largely, of course, that is a calming and stabilising one as business dislikes uncertainty, and government dislikes such environments as they are not good for tax revenues, which ultimately are what keep governments in business!

There are two clear patterns from the bank’s reports over the course of this year however and in many ways both these trends have been replicated or are in line with the general public’s feelings as I have observed them.

Firstly, the overall situation has not been as bad as was initially predicted. Many commentators (including myself) predicting a downwards adjustment in property prices this year, with April being the most glum time for predictions, in the height of lockdown 1.0. This ultimately has not transpired (more on this later). Some were predicting ultimate meltdown and a far worse situation than 2008-9, the global financial crisis. This also has not yet emerged and looks less likely.

The second is the extension or postponement of the scheduled or promised/predicted economic pain. The can has been kicked down the road. The libertarians would tell you that this is pretty much all the government can ever do, and they make it worse by interfering. There has been a very different level of intervention in the UK vs the USA for example but we need to let the history books look back on this in a few years time as we are nowhere near the end of all this as yet.

One of the many ironies (covironies) of the year is that just as the figures have once again risen to levels of death that society as a whole would consider unacceptable, the rate at which the people are fed up is also at a record high! This is difficult to support in data but I would encourage anyone to look at the behaviour of everyone around them during this lockdown, and compare it to the behaviour observed during the first lockdown. Anecdotal evidence perhaps, but it certainly seems clear to me.

Vaccine announcements have buoyed markets and will no doubt stabilise businesses which has to be a positive – it was filed that the Pfizer CEO sold the majority of his stock upon the announcement of the vaccine following the share price jump – this at the very least, you would think, means that he believes that the timing was right to sell and that the resultant price was too high.

The performance of the property market this year is also worth trying to put into context. I have spoken to many people in the Partners in Property community and beyond who have been frustrated trying to buy property at sensible prices this year. The reality as I’ve seen it is:

A vast reduction in volume of opportunities

A typical “hot market” where things oversell and reach prices that are simply too high, particularly in auction

Having to work much harder to do deals of the same quality as last year.

Perversely I have been involved in more units than in any year so far – but that is more anomalous because I have been involved in 2 large portfolio purchases by my standards. The number of transactions (if you count a portfolio purchase as one transaction) is down significantly.

Putting that into context – compared to 1.18 million transactions last year, there are forecast to be 0.65 million this year, UK wide. That is not far off a 50% drop, and typical of what was seen in 2008-9.

The big and obvious difference is the pricing – to the trough in 2009 prices dropped a little over 15% nationwide, using the ONS figures. This year prices are up 3% on the same metrics (and 7% if you prefer the Halifax or Nationwide methodologies).

One of the primary reasons for this could be that in 2008-9 many realised that values had actually dropped significantly, and held on to their houses (or were trapped by being in negative equity). A vast difference in 2020 has been the operational reasons resulting from lockdown 1 – with a closed market and many transactions stuck in the pipeline, and then many more fallthroughs as uncertainty reigned and reigns, the ability to transact has been compromised like never before.

Also making a direct comparison to 08-09, credit has remained widely available this year versus an almost complete withdrawal at one stage during the GFC. On top of that, easy money has been available via bounceback loans and other grant schemes and stimulus, and some of that has found its way into the property market. 08-09 saw the end of an unsustainable credit bubble where mortgage balances had sometimes been growing at over 10% per year in the early years of the 2000s – there has been no such credit expansion preceeding the corona crisis.

Ultimately 08-09 was a result of a confluence of circumstances and a direct result of that bubble – 2020 in terms of economic timing is totally and utterly random as it is based on a pandemic, not an economic cycle. Yes – we happened to be near the end of what was a long (but shallow in amplitude) property bull market but with London adjusting since 2016, there was not a huge bubble to be popped. Remember 56% of UK housing went DOWN in real terms (I.e. adjusted for inflation) in the 2010s. In 97-2000 prices almost doubled then almost doubled again 2001-2007 (and in some parts of the country it was more pronounced than that!).

So I would argue the supply constrictions and the easy money have falsely driven the market upwards this year. A sensible market would have seen it be flat or fall a couple of percent.

This analysis omits the stamp duty holiday and of course this has also been a driver of putting prices up. How Rishi deals with the impact of ending the holiday, and/or reforming the tax – remains to be seen.

One more major headline that has rattled property investors this week has been the chatter around capital gains tax. Like many things in politics the history of the tax may be somewhat surprising:

It was introduced in 1965 under Harold Wilson at a flat rate of 30%. Many will remember or have read of the punitive tax regime of the 1970s and the failure to comprehend that “overtaxation” leads to individuals seeking different solutions (with CGT one simple solution could be not selling assets). In the 1980s an allowance for inflation was introduced (indexation relief) and in 1988 the tax was restructured to be paid at the individuals marginal tax rate on their income (which, in the context of tax, seemed somewhat fair, arguably). Allowances were also introduced such that small capital gains would not be taxed (and those allowances still exist today).

CGT is an interesting one…like all taxes. The argument made in 1995 under a Conservative administration was that lowering CGT would provide an incentive for the wealthy to attempt to pass of some of their income as capital gains (a typical example of this has been seen since CGT was lowered in people flipping properties, tax has been often mitigated and evaded by treating property sales on flips as CGT when it should be treated as income if the intention is to flip, and is done in a personal name).

Then under a labour administration in 2008 this very thing was done – and CGT was lowered to 18%. There is a level of complexity beyond the scope of this article around the withdrawal of taper relief, and the introduction of entrepreneurs relief, but I will draw the line here for fear of everyone falling asleep over their Sunday lunches.

We have since moved to a 2-tier system at 10% and 20% (currently) with a “special rate” for property (lucky us) of 18% and 28%. Still significantly lower than our marginal income tax rates.

At a high level those in favour of redistributive taxation argue that CGT should never have been lowered. The colours of the administrations that have tweaked the tax should speak to the fact that the myths around taxation in general are often just that – myths.
It does seem surprising that an 80-seat majority Conservative government would be considering such a hike. The ground has been set to bring CGT back into line with income tax.

If that is the case – what will the impact be?

I’d expect a few more landlords still holding some or all of their stock in their personal names to consider this the straw that breaks the camels back – and aim to sell up before the end of this tax year. How big is this impact? Likely small as many will not be plugged into taxation headlines. There may well be more tenanted properties for sale in Jan-Feb 2021 but enough to make a significant impact on the auction market? Probably not. Tenanted because current guidelines mean eviction for vacant possession won’t be possible.

Tax makes people do stupid things quite often. That should present opportunities for those who are wise to this.

The other impact of a rise in CGT that has always been discussed at the treasury level is people hoarding assets. Harking back to the 1970s – high tax rates do not necessarily mean higher tax takes. Indeed sometimes it is quite the opposite. The governmental objective should be to maximise the tax take over time, and to spend that take in improving society and investing in capital (human and physical) that helps to ensure that tax take grows over time and society as a whole improves.

Political point scoring means that isn’t always the case of course and as a vast minority of people even pay CGT it will be a vote winner to raise it.

Current times mean that these points are worth more than normal and thus a rise or at least a tweak looks inevitable. Should you change plans before this even happens? I’d certainly look at using your allowance for this year before it potentially gets taken away, I am making moves to do this myself and practising what I preach!

To leave with some semblance of hope for property investors however…..the scene is set for a decade of above-average returns for property in my view, due to near-zero interest rates and a solid availability of credit. I would speculate that this administration will find a way to extend more credit to first time buyers and is also keener than I thought it would be on acquiring houses, which may well swallow some of the increased stock produced under more liberal planning laws (although there’s still a hugely long way to go on that one). It’s a marathon not a sprint so hang in there and get the ducks in a row for a decade of opportunity.

Be sensible with your tax structures but don’t let the tax tail wag the dog! And as always stay safe – no matter how sceptical you are about the current covid situation, don’t throw the baby out with the bathwater. Hands, face, space – for all the misuse of data and woeful communications from the government on this front this year, that mantra is simply sensible and easy to follow.