Editor's comment
Last year proved to be another long hard year for many in the property sector. While there were some highlights, central London prime in particular, the wider pattern of a lack of activity caused chiefly by problems of accessing debt continued. It is fair to say that the lack of credit is particularly acute in the development sector.
The strong performance of commercial property over the last couple of years is likely to cool. Will we see other parts of the property sector re-energised, or will the position be flat?
There is a growing sense on the ground that there is a wall of investor money but that this is focused heavily on prime central London property; will that focus widen in 2011?
It would be disappointing therefore if at the beginning of a year we didn't consider what may happen, and so in this issue of Property bulletin we include some predictions for 2011 from Angus McIntosh of King Sturge. Angus provides useful insights concerning his opinion of the market, some of the factors which impact that, and an outlook for 2011.
The eye-catching tax rate change for 2011 (so far) was the change in the VAT rate to 20% and John Voyez looks at what this means for the property sector.
We also note some of the highlights from our readers' feedback following our eighth annual property industry survey. A huge thanks to all those that responded to the survey helping to ensure its continued success.
Wearing my corporate tax adviser hat I have included an article outlining how we have managed companies' tax costs in 2010. Please ask your adviser about these points if any of them resonate: it is not too late.
The outlook for the property sector remains uncertain. Speaking with clients and drawing on comments from the property survey there is real frustration. That will ease, but I remain doubtful 2011 is the year.
SMITH & WILLIAMSON'S ANNUAL PROPERTY SURVEY
By Nick Cartwright
In late October 2010, the Smith & Williamson property group conducted its eighth annual survey. 166 property executives responded.
While opinions are divided about the prospects for the sector as a whole, our survey revealed some consistent and strongly held views about the key issues facing the UK property industry.
- Public sector job cuts are expected to hit the property sector hard and are perceived to be a real threat.
- The lack of bank finance and anaemic UK economic performance are yet again seen as the key issues.
- The next twelve months will provide good opportunities to make residential and commercial investments.
- The nature of individual assets and management rather than market trends will be paramount for success.
The Spending Review
The Spending Review has not been welcomed with open arms by the UK property sector, but only 25% of respondents to our survey expressed the view that it would definitely have a negative impact on their business in the long term.
Those aspects of the Spending Review that our respondents expect to have the greatest impact on their businesses are the prospect of public sector job cuts and reform of the planning system. Also worthy of mention and of great relevance to the social housing sector are; welfare reform, reform of the council housing finance system and the New Homes Bonus.
The UK property industry
As indicated in the graph below, our respondents were of the view that the key issues facing the UK property industry as a whole are the availability of bank finance and UK economic performance.
Government spending cuts have been identified as an issue for the next 12 months, as has the availability of equity finance. Employment and employment confidence were also highlighted as key issues. New planning regulations are also very much on the minds of our respondents.
Raising finance
Fewer than 40% of respondents to our survey reported that they would need to raise finance in the next 12 months. Slightly alarmingly, over 70% of those that did expected banks to be a main source of finance. Interestingly, one-quarter of respondents expected the main source of their funding needs to be met by private equity.
Specific reference was made to bond finance, which makes sense if the banks are unable to provide the debt funding required. More than one-third of respondents were of the view that a lack of finance will constrain their businesses during the next 12 months. Another quarter were unsure.
Due to the refinancing spike in 2012, liquidity is likely to be restricted and pricing is likely to increase. Those able to do so may want to refinance sooner rather than later in order to avoid being squeezed in the crowd.
Sector preference
Respondents were pessimistic about all secondary and tertiary assets regardless of which sector they were in. In particular, offices outside of London received special mention as 'at risk' assets. Overall, office, public sector, social housing and retail are giving people most cause for concern at the moment, with only retail warehouses maintaining an unblemished reputation.
By way of contrast, when asked about sectors to be optimistic about, there were some intriguing outcomes. Not least of all the prominence of office, which we think indicates that the prospects for offices are very location and asset specific. Industrial and, to our surprise, residential also appeared as areas of hope for the next 12 months.
Special mention was made of the student accommodation sector in terms of optimism, as were London prime and central London offices. Specific comments make it clear that in the current environment, more so than ever, the merits of each individual asset are paramount rather than the sector. Overall it is fair to say that pessimism for the next 12 months just about carried the day.
Residential property industry
Fewer than 30% of respondents were confident about the prospects for the residential property industry over the next twelve months. Nearly half viewed the outlook for the residential property industry as unfavourable. As you would expect in such uncertain times, over a quarter of respondents were unsure either way of the outlook for the next twelve months. By way of comparison, our respondents held pretty much the same view of the commercial property industry for the next twelve months, only that they are slightly less confident of its prospects.
Many observers agree that not enough new houses are being built and that people cannot raise deposits, so the demand for rental property is ahead of supply, with obvious consequences on rental levels.
Residential property investments
As the chart to the right clearly shows, the majority of respondents are of the view that the next 12 months will prove to have been a good time to have made residential property investments. While they may all have in mind the last quarter rather than the first, there is clearly a belief that the opportunity to buy well will exist in the not too distant future, if not in fact right now.
In conclusion
12 months on from our last survey and yet again the global financial crisis remains the biggest issue for the UK property sector. While property executives clearly hope for a return to normalised bank funding, no one is predicting one and doubts are now arising as to just what the new normal will be. Those with capital and skill are already back in business and report to be intent on generating value rather than riding a wave.
Our own experience is that external investors looking at property ventures are still seeing risk and danger rather than opportunity and reward. This environment creates barriers for those seeking capital and great opportunities for those with expertise and financial backing.
WHAT THE VAT RATE CHANGE MEANS FOR THE PROPERTY SECTOR
By John Voyez
The standard rate of VAT increased from 17.5% to 20% on 4 January 2011 but what does the rate change means for the property sector?
Commercial landlords
As a commercial landlord, the rate of VAT you charge depends on how you invoice your tenants and the relevant 'tax points' concerned.
Commercial rents invoiced in advance
The tax point for opted property rentals is the date you issue a VAT invoice or receive payment, whichever happens first. For example, if you invoiced a tenant for rents in advance, say in early December 2010, for a period commencing 25 December 2010 and ending 24 March 2011, you would have charged VAT of 17.5% on the entire rental due.
Commercial rents invoiced in arrears
Where the rent for the quarter ending 24 March 2011 is invoiced or a payment is received after 4 January 2011, VAT is due at 20% on the entire rental due. However, as the payment due may relate to a period which started before 4 January 2011, it is possible to apportion the rental amounts so that VAT is charged at 17.5% on the part that applies to the period prior to 4 January 2011.
Tenants
Tenants that have been invoiced prior to 4 January 2011 should have been charged 17.5% on their entire rent. This is applicable even where the rental period began before 4 January 2011 and spans the VAT rate change. Where a tenant receives an invoice after 4 January 2011, VAT at the 20% rate should be charged. However, the tenant can ask the landlord to apportion the invoice and charge VAT at 17.5% on the part that applies to the period prior to 4 January 2011, and 20% on the remainder.
Service charges
Service charges for rental properties will follow the same VAT treatment as rental income. Where tenants are invoiced for service charges in advance for a period which spans the VAT rate change, VAT will be due at 17.5 % if the invoice is issued before 4 January 2011. If service charges are invoiced in arrears, the charges may be apportioned and VAT accounted for at 17.5% on the part that applies to the period prior to 4 January 2011 only.
Sale of real estate
Leasehold
The grant of a lease is treated as having been supplied for VAT purposes on the date that it is granted which forms the 'basic' tax point. For the purposes of the VAT rate change, the basic tax point for a premium in respect of a lease is the date of the grant of the lease. If you issue a VAT invoice or receive payment after 4 January 2011 for a premium in respect for a lease granted on or before 3 January 2011, you can still choose to apply the 17.5% VAT rate to the premium. The supplementary charge under the anti-forestalling rules should not apply to lease premiums which are granted before the VAT rate change but invoiced or paid for after the VAT rate change.
Freehold
The basic tax point for a freehold sale of real estate is the date of the completion of the transaction. An earlier tax point is created where a VAT invoice is issued or part payment is made before completion, unless the deposit is paid to the solicitor as stakeholders for the vendor.
Stamp duty land tax (SDLT)
Any increase in the amount of VAT due on the freehold purchase will also impact the amount of SDLT that may be due as SDLT is calculated on the VAT inclusive value of the land/building being sold.
In the case of leases, the impact of VAT on SDLT charges will depend on whether the effective date of the transaction for SDLT purposes is before 27 July 2010 or not, and whether the rent is fixed for a period, or is variable, or uncertain.
Construction costs
Often construction services are invoiced at the end of each month based on certificates. The work carried out may have commenced before 4 January 2011 but is not completed until after that date. Unless payment is received or a VAT invoice issued before 4 January 2011, the whole supply should be charged at the 20% rate under the normal rules. However, you may, if you wish, apportion the services so that VAT at 17.5% is applied on the work done up to 4 January 2011, and 20% on the remainder. You will have to be able to demonstrate that the apportionment accurately reflects the work done in each period if queried by HMRC.
Anti-forestalling legislation is in place to restrict the prolonged use of the 17.5% rate of VAT to certain supplies of goods or services provided on or after 4 January 2011.
MANAGING TAX COSTS
By Mark Webb
Throughout 2010 it seemed that there was hardly a day without comment in the press concerning the acute problems of the property market.
2010 newspaper coverage centred largely on residential property and reflected that the position for the year was likely to be flat. That view tended to consider the picture for property as a whole and masked significant regional and sector variations.
Those variations have been reflected in the businesses of the client base that we advise in both the residential and commercial sectors, and for developer and investor alike. Our experience over the year has been that those companies that have concentrated diligently on their cost base while retaining key staff working hard to meet client/tenant issues have performed better.
Managing tax costs has played its part. Importantly expecting directors of a company to have a deep-rooted knowledge of the UK tax system is not realistic. Typically a company director will know enough to ask questions, but specific issues need to be discussed and knowledge exchanged.
Businesses can easily suffer unduly simply by not identifying 'tax wins'. It is important to keep in mind that there is still time to deal with issues from 2009 and 2010 and potentially earlier, i.e. when a number of now loss-making or break-even companies were tax paying.
Below is a brief overview of some of the reliefs that may be available to your company.
Loss planning
- Losses have value. They can unlock tax payments paid in the previous year by a company when carried back. Provisions remain in place that allow a company to carry back unlimited losses to the preceding year and this relief was extended for the accounting periods ending between 24 November 2008 and 23 November 2010 to a period of three years subject to a cap of £50,000 for each year. As the cap operates per company, groups may be able to make more than one claim.
- Maximise losses to be carried back. Provide for bad debts, accrue for costs, write down stock, etc.
- Landlord energy savings allowances. Costs of up to £1,500 per dwelling can be claimed by a landlord when, for example, insulation/draught proofing is added to a dwelling.
Enhanced tax reliefs
The following enhanced tax reliefs allow for tax deductions or immediate write-off of what would otherwise be capital spend.
Land remediation relief
Have you incurred expenditure to remediate contaminated land, i.e. where pollutants on or under the land are causing pollution? If so, a company can claim 150% of qualifying expenditure or a lossmaking company can claim a tax credit repayment of 16% of the qualifying loss from HMRC – particularly useful where cash flow is an issue.
Flat conversion allowances
Usually no costs for the conversion of a dwelling attract capital allowances. However, where space above commercial premises is converted to flats availability of this relief should be investigated as it allows for a deduction of 100% of qualifying spend.
Business premises renovation allowances
This relief allows for 100% of qualifying capital expenditure to be claimed as incurred. The relief is postcode specific (Liverpool, Birmingham, Manchester, etc).
Energy efficient allowances
100% write-off for energy efficient lighting, heating, power and their control systems, etc.
Property acquisitions and disposals
- For recent property acquisitions, commercial or residential premises (where there are common parts), claims for integral feature capital allowances should be investigated. A capital allowance pool was introduced on 1 April 2008. While capital allowance elections of a vendor may ascribe a £1 value to this pool, that is often ineffective given the mechanics of how this allowance operates. Relief could range from 5%-10% of the property purchase cost.
- Have all the costs of the initial acquisition of the property including all legal and advisory fees connected to the purchase been identified? Has the stamp duty paid on the initial acquisition been identified and included as a cost? Have property improvement costs been included? Similarly, on disposal have all legal, agent and adviser fees been identified and included?
Many companies do not maximise reliefs that they are legitimately entitled to. Please contact your adviser to discuss your specific situation further.
PROPERTY PREDICTIONS
By Angus McIntosh
The near financial catastrophe of 2008 is receding into history, but the sunlit economic up-plans are some distance away. In the property market, there are mixed fortunes but some extraordinary opportunities.
The global economy
The global economy is dominated by China; it is unlikely to revalue its currency. It will force the USA to consider yet more quantitative easing which will have the overall impact of keeping long and short interest rates lower for longer.
The UK will repeat the 2010 performance. Economic growth will be lower than +2% in 2011 but the manufacturing sector is likely to continue growing by 3% in 2011 as the government sector shrinks.
By the end of 2010 world food prices were up 20%, non-food agricultural such as cotton up 60% and world oil prices up around 10%. Add to this the UK Government's objectives to raise National Insurance, VAT and CGT and the overall impact will be cost-push inflation in 2011.
Unemployment will remain stubbornly higher in the UK; 2011 will be a year of stagflation.
Interest rates and finance
The bank base rate is likely to remain almost unchanged for most of 2011 at around 0.5%. However, it is the cost of the bank borrowing which will remain relatively high. Margins will remain between 200 and 300 basis points above the base rate, with a loan to value ratio of 65%; this is on much lower valuation than 80%+ back in 2005.
Commercial property market
The outlook suggests that, with the exception of offices, retail and industrial rents will remain almost unchanged for the next two years. Only in central London will there be some extraordinary office growth.
In the retail sector, the extraordinary expansion of major food store brands including Tesco, Sainsburys, Morrison, Asda, Waitrose and Marks and Spencer will continue.
The industrial and logistics markets will follow the trends in retail. Food stores will be seeking newer and better space.
Property investment
After the extraordinary surge in capital values, in both the stock markets and the property market between 2009 and 2010, the bounce is now over.
It is widely predicted that by end of 2011, average capital values may have fallen back into negative territory. The total return is likely to remain positive, but only because it will depend on rental income in the region of 6%.
Equity investment money is king. The UK life funds and pension funds, as well as some of the overseas high net worth individuals and sovereign wealth funds, will have the pick of the market. But they will be seeking prime, well-let with long income stream, investments.
The outlook suggests, across the UK as a whole, house prices will remain unchanged for the next three years, with the exception of central London. Here we expect house prices to rise on average by 5% per annum between now and 2014.
The outlook
The outlook for 2011 suggests that there will be two economies, those employed and those unemployed. A north versus south divide has well and truly returned and may take some years to be reversed.
In the commercial market, prime property will command much excitement from equity investors, secondary and land markets will continue to wither in value.
In the residential markets, most of the interest will focus on central London.
The bargains are for those with cash. Brand new vacant standing buildings will be cheaper to purchase than newly constructed buildings. But building costs are rising faster than inflation and with capital values falling, land values are heading south and new development looks un-viable in many places in 2011.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
