We’re Not Out of the Tunnel Yet
January can be a bad month for landlords. After tenants have overspent during the Christmas period, there is always the risk that they won’t be able to pay their rent fully. Many think that we are out of the challenging financial climate that has engulfed the UK since 2008. I am less optimistic and feel that 2012 is going to be a challenging year for landlords.
This is all against a background of rising rents and house price unaffordability which is good news for landlords, who have seen above inflation rises in rents during 2011. However, recent data from Templeton LPA is a stark reminder that tenants are feeling the pinch, which means there is an increased risk for landlords.
The number of tenants in severe rent arrears is up by 18 per cent in Q4, 2011, according to data from Templeton LPA. Now, 2.4 per cent of tenancies are now in severe arrears. This is the highest since Q3 2008 when, technically, the recession began. This is confirmed by Ministry of Justice data that show landlord possession claims in Q3 2011 (which is the latest data we have) are up 11 per cent year on year. Worryingly, this is a 5 per cent rise from the previous quarter alone.
But, there is a glimmer of good news. Buy-to-let mortgages that are in arrears have fallen by 7 per cent which is a sign that landlords are starting to better manage their portfolios. With many agents predicting average property prices to fall by up to 5 per cent in 2012, landlords are now starting to appreciate property as an income generating asset, as oppose to purely relying on capital gains. This may be why, over the course of 2011, we have seen that landlords are not willing to be as patient with tenants who have not paid their rent fully on time and are quick to serve eviction notices when tenants do fall in arrears.
There has been a shift in the dynamics of buy-to-let investment over the last few years. During the peak years, many investors looked to property as a short-term investment where they could rely on capital growth. However, it seems that in 2011, we have now fully reverted back to the traditional model of investing in property for the long-term and relying on rental income to pay for the mortgage. Some data suggests that landlords are now, on average in the market for 16 years and this allows them to weather blips in the market.
Landlords and investors alike would be wise to monitor the sovereign debt crisis in Europe, too. Wholesale finance costs have been rising since the middle of last year and are expected to do so until the Euro crisis abates. This has already pushed up the costs of borrowing for investors. If the crisis continues throughout 2012, leading to another credit crunch that will likely plunge the UK into recession again, the mortgage market will inevitably dry up and demand for property will fall further. Further, unemployment in the UK is still quite high. If the UK were to enter another recession, it would most certainly affect the ability of millions of tenants to pay their rent. This is not hard to imagine given that the data has shown signs that tenants are already struggling.
Whether this will actually happen or not is uncertain – nobody can definitively say otherwise. However, that uncertainty must be a warning for landlords to prepare for the worst case scenarios. Many UK companies have been building their cash reserves for some time now and landlords should do the same. One problem tenant case can be the difference between ending the year in profit or loss.
By building financial buffers, landlords will have a contingency fund should the tenant stop paying the rent, ensuring that mortgage payments continue to be met. It will also allow landlords to take legal action quickly as to avoid losing further rent. But there is another advantage, too. If the market does start to pick up and the mortgage market conditions improve, landlords will have cash to take advantage of investment opportunities quickly.
2012 is going to be another year that landlords and investors need to demonstrate patience. Many are calling the bottom of the market this year – unsurprisingly, most of those are sales agents. However, until the financial crisis has shown signs of abating and the economic position of the UK markedly improves, landlords should approach 2012 how they did 2011: with extreme caution.