London property market continues to soften
Last Updated: April 07, 2015
Though the UK's 7.24% house price increase during 2014 was lower than the 8.4% gain recorded in 2013, after adjusting for inflation there was little difference (6.66% UK house price increase in 2014, versus 6.23% after inflation in 2013).
Recent months do show some slowdown: House prices rose 6.8% (nominal) year-on-year to January, 5.7% y-o-y to February, and 5.7% in March compared to the same period last year. Residential property transactions in the UK declined by 13.6% in 2014 from the previous year, according to UK HM Revenue and Customs.
“The slowdown in housing market activity is surprising given further steady gains in employment, a pickup in wage growth (albeit from low levels) and the continued low level of mortgage rates," said Robert Gardner, Nationwide's chief economist. "Moreover, surveys suggest consumers remain in high spirits – a view reinforced by robust retail spending growth in November, which was at its highest for over a decade.”
“London is definitely on the way down,” said Jim Mellon, an entrepreneur and investor. "You´re getting the Russians withdrawing, you´re getting a huge metal building, and I have read that there are 41,000 new units being built in London. All of which priced to £1 million but last year only 3,000 properties were sold for more than a million pounds in London. So I would say it is way overbuilt, way overleveraged, and way overpriced."
According to RICS, in February 2015 house prices declined in London for sixth month in a row while the rest of UK is experiencing house prices increases. The North and Scotland had house prices rising by more than expected. Moreover, house price growth accelerated in the South East and South West of England.
In 2014 the number of mortgages in arrears (10% or more of outstanding balance) dropped by 14% year-on-year to 24,700 in 2014, according to the Council of Mortgage Lenders (CML). Repossessions fell 26% y-o-y to 21,400 in 2014, the lowest since 2006.
Despite very high price to income ratios in London and cities in the South East and South West, UK house prices are being boosted by four factors:
- Immigration and population growth have been strong, especially in London.
- Interest rates have been at record lows, with a large expansion of the money supply through “quantitative easing”.
- The City of London (London’s financial centre) continues to boom.
- Construction activity remains weak. Dwelling starts rose 25.5% y-o-y to 160,250 units in 2014. Dwelling completions increased 1.1% y-o-y to 140,930 units, according to UK’s Development for Communities and Local Government.
The UK economy grew 2.6% in 2014, an improvement from 2013’s growth of 1.76%. It is now expected to steam ahead as consumer spending rebounds, inflation remains low at 0.5% and unemployment continues to fall.
“If the economic backdrop continues to improve as we and most forecasters expect," says Nationwide's Gardner, "activity in the housing market is likely to regain momentum in the months ahead. Supply side developments will be crucial in determining the trajectory for prices".
London prices are rising, yields are not great
London's residential prices keep rising, with daily press warnings that the city is overvalued. It is by any measure extraordinarily expensibe.
Prices per square metre (sq.m.) of apartments in Prime Central London (PCL) range from GBP 16,800 to GBP 25,000, with bigger apartments tending to cost more.
A 120-sq.m. apartment costs on average GBP 2,500,000
A 250-sq.m. apartment in Prime Central London costs around GBP 6,200,000.
Monthly rents per sq. m. range from around GBP 51 to GBP 64. This means that a 120-sq.m. apartment lets for around GBP 6,600 per month, while a 250-sq.m. apartment rents out for around GBP 16,000 per month. As a reminder, these are not typical London rents - this is Prime Central London.
Average square metre prices in the other luxurious areas of London range from around GBP 14,700 to GBP 19,000. A 120-sq.m. apartment here costs on average, GBP 18,800 per sq. m. or about GBP 2,250,000 to buy. Monthly rents per sq. m. range from around GBP 41 to GBP 44. Even so, a 120-sq.m. apartment in these areas can typical rent for around GBP 5,000 per month.
In Prime Central London, rental yields range 3.08% to 3.65%, whereas in the other luxurious areas of London, rental yields range from 2.72% to 3.20%.
However these figures may be somewhat misleading. because of London's size and its position as a global centre, its flavour-of-the-month quality with Russian, Middle Eastern and Chinese buyers, neither of these two central London zones that we cover are truly representative.
If you look the sources of the data in our table, you will see that some of these 'other luxurious areas' are very luxurious indeed. South Kensington for example is placed here.
A possibly more realistic impression is given by the figures from Association of Registered Letting Agents (ARLA), which suggest that gross rental yields in Prime Central London are 4.37%. Arla's estimated yields in the rest of London are 4.74%. These estimates are taken from a database of active buy-to-let landlords, and are likely to represent a good assessment of the real situation.
Foreign residential property investors in Britain face a rising rumble of dicontent from the British public about exorbitant housing prices in London, which rightly or wrongly is partly blamed on the large numbers of foreign buyers, as well as the continuous flow of immigrants into London. Both are hot-button issues.
One result is that foreign buyers will soon be liable to capital gains taxes when they sell their UK properties (previously they were exempt). Another is that stamp duty has been ramped up on higher-end properties. There is talk of further measures - it is widely agreed that Council Tax is too low on high-end properties, and the Liberal Democrats have been agitating for a mansion tax.
Round trip transaction costs are higher in the UK now than they were in the past, especially in London given higher stamp duties on expensive properties. See our UK residential property transaction costs analysis and our Residential property transaction costs in UK compared to other countries.
Effective tax rates are moderate in the UK
Rental Income: Unless nonresidents take specific steps, they will be taxed on net rental income ssourced from the UK at a flat rate of 20%, which must be withheld by the tenant or letting agent. However, effective tax rates can be brought down to around 9% with all the allowable deductions.
Capital Gains: Capital gains are taxed are taxed at progressive rates, from 18% to 28%.
Inheritance: Estates or assets exceeding the current tax threshold of £325,000 (€439,982) are subject to inheritance tax at 40%. In calculating the amount of the estate, the value of any gifts made by the deceased within 7 years of death must be added (some small gifts are exempt).
Residents: UK residents are taxed on their worldwide income and on capital gains from disposal of their UK assets, and most likely on their overseas properties too.
Roundtrip transaction costs moderate in Britain, can be high on high-end properties
Total roundtrip transaction costs range from 3.90% to 12.16%. Almost all buyers, UK-based or not, employ lawyers as well as real estate agents. Legal fees are around 0.5% to 1% while agent's fees are around 2% to 3.5%, plus 17.5% VAT.
UK law is pro-landlord
Rents: Landlords and tenants can freely agree on rent levels. They can freely agree any mechanism of increasing rent levels. Deposits are lawful.
Tenant Security: Contracts naturally revert to a standard monthly contract which, after an initial six month's period of security of tenure, allows the tenant to be evicted at two months' notice. However in practice the eviction process can disadvantage the landlord.
UK: modest economic growth, low unemploymentUK is currently recovering after the 2008 global financial crisis. It had a GDP per capita of US$ 43,830 in 2014, according to the International Monetary Fund (IMF). In 2014, the UK's GDP growth was 2.6%, the fastest annual rate since 2007.
Household spending and investment were the main contributors to the economic recovery of UK. UK manufacturing output rose by 1.9%, according to the Office for National Statistics (ONS). Unemployment fell to 5.7% in the fourth quarter of 2014, according to ONS.
The IMF expects the economy will grow by 2.7% in 2015.
Despite these good figures, the growth of the UK economy has been disappointing. GDP has only just recently passed what it was in 2007. Though employment has recovered well from the recession despite large additions to the labour force due to high levels of immigration, that is because productivity has stagnated. Productivity in the UK has not grown at all over the past six years (that is output per hour, and output per worker). This is an surprising situation in a "recovering" economy.
This low productivity growth has severely impacted employees' take-home pay. The Institute of Fiscal Studies (IFS) recently reported that real take home pay was 1% lower in the third quarter of 2014 than in the third quarter of 2001. "Though real wages have started to rise slowly in recent months, there has been a real threat to standards of living in the UK," says Professor Ken Mayhew of Oxford University. "This is closely associated with a disastrous performance on productivity since the beginning of the recession."
Current growth per capita is certainly an improvement on previous years: GDP growth per capita in 2013 was only 1.03%, in 2012 it was negative at -0.01%, in 2011 0.80%, and in 2010 1.10%.
In general, the UK's recovery since the recession has been anaemic, at best. In previous recessions, there was above average growth. For instance in 1983 GDP grew by 4.2%, and in 1994 by 3%.
The IMF has warned that the recovery relies too heavily on easy credit and that the recovery has been unbalanced, with business investment and exports still weak. Some stimulus may be given by the decline in sterling against the dollar.
The size of UK's current account deficit has prompted concern from some economists, who said it was worryingly large. The deficit increased to £27bn, or 6% of GDP in the third quarter of 2014, up from 5.5% in the second quarter, according to the Office for National Statistics. The size of the current account deficit is surprising for an oil-exporting economy, whose currency has fallen significantly since the middle years of the previous decade. However, if the eurozone recovers, as is now expected, the UK's [performance may improve.
A general election will take place on May 7, after five years of coalition power-sharing between the Conservatives and the Liberal Democrats. Best predictions suggest another hung Parliament, meaning there will likely be another coalition government.
Although most economists believe that the austerity pursued by the Conservative government (2009-2015) has had a negative impact on the UK's economic growth, according to a survey of leading UK economists by the Centre for Macroeconomics, the public has largely absorbed the rhetoric of austerity.
Labour itself has not had the courage to argue against austerity (despite the fact that the UK's recent relatively strong performance occured because of a covert weakening of austerity by chancellor George Osborne, as Paul Krugman has explained). So it seems likely that very similar economic policies would be implemented by a Labour government as are being followed at present.