UK house prices have been rising strongly, but uncertainty persists
Lalaine C. Delmendo | November 28, 2019
London saw a sharp turnaround, with house prices rising by 6.2% (5.3% inflation-adjusted) during 2020 to an average of £486,562 (US$673,499) – in contrast to a y-o-y fall of 1.8% in 2019. London's prices are now about 60% above 2007 peak levels.
All other regions saw house prices rises during 2020.
East Midlands saw the biggest growth, with house prices rising by 8.6% during 2020 (7.7% inflation-adjusted). It was followed by Outer South East and North West, both registering a house price increase of 8%, Yorkshire and Humberside (7.7%), West Midlands (7.5%), South West (6.6%), Wales (6.6%), North (6.5%), and East Anglia (6.4%).
More modest price increases were seen in Northern Island (5.9%), Outer Metropolitan Area (5.6%), and Scotland (3.2%).
Yet, demand is actually falling. During 2020, residential property transactions in the UK fell by about 11%, to around 1,047,490, following a 1.2% decline in the prior year, according to HM Revenue & Customs. In England, transactions dropped 10% to 989,800 in 2020 from a year earlier.
One of the main reasons of the strong growth in house prices despite weak demand is the chronic housing shortage in the country, aggravated by a further decline in residential construction activity last year due to pandemic-related restrictions. During the year to Q3 2020, dwelling starts plummeted by 25% to 120,100 units, according to the Ministry of Housing, Communities & Local Government. Completions also fell by 18% to 145,430 dwelling units over the same period.
Government measures, such as the stamp duty holiday and extensions of the Help-to-Buy scheme, helped boost the housing market last year. However the outlook this year is very uncertain due to the uncertainty brought by the surge in coronavirus infections immediately after Christmas, as well as the post-Brexit deal.
- The most bullish forecast is from the property listings website Rightmove, which projects a house price growth of 4% in 2021.
- Savills expect the UK housing market to be flat this year, before regaining momentum in 2022.
- Other forecasters, including Zoopla, Chestertons, and Knight Frank, suggest that house prices will rise slightly by 1% to 1.5% in 2021.
- Halifax, on the other hand, projects a house price fall between 2% and 5% this year.
- EY Item Club, a UK-based economic forecasting firm, also predicts a house price fall of as much as 5% in 2021.
- The Office for Budget Responsibility, the Treasury's independent forecaster, is even more pessimistic, predicting a house price decline of as much as 8% this year.
The Royal Institution of Chartered Surveyors (RICS) said that it could not with any confidence issue a house price forecast. “If 2020 has taught us anything, it's 'don't make predictions!' The only certainty we have going into 2021 is more uncertainty,” said Christian Cubitt of RICS.
The UK economy is struggling, with real GDP contracting by 9.9% in 2020 from a year earlier, the biggest annual decline on record, according to the Office for National Statistics. With the resurgence of infections, the International Monetary Fund (IMF) recently downgraded its 2021 economic growth forecast for the UK to 4.5%, down from its initial projection of a 5.9% growth.
In February 2021, the Bank of England (BoE) kept its key rate unchanged at its current record-low level of 0.1%, following two consecutive rate cuts in March 2020 totalling to 65 basis points, in an effort to boost the struggling economy.
London's yields are low
London´s residential prices have been falling in the higher-end districts. But London remains by any measure extraordinarily expensive.
That impacts rental returns, since rents have not risen as much as prices. Gross rental yields, i.e., the gross annual rental return on an investment in an apartment if fully rented out, are now quite low in London.
On the whole, rental returns are better on the prime fringes than in central London such as this new property for sale in London.
Yet surprisingly, in the centre, larger apartments sometimes have higher yields - particularly in the more expensive districts of London. This defies the almost universal rule in other cities that smaller flats have higher rental returns. Why is it now different in London? Because of the UK´s amazingly high stamp duties on super-expensive property purchases, which are dissuading high-flyers from buying. People prefer to rent if they are staying just a few years, because the total costs of renting high-end properties are lower than the total costs of buying and then selling them. High capital gains taxes on sale, and worries about Brexit, reinforce the message that in London, renting now makes sense for the rich.
Foreign residential property investors in Britain have long faced a rising rumble of discontent 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 are now 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 (€433,333) 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 economy strugglingThe UK economy contracted by 9.9% in 2020 from a year earlier, the biggest annual decline on record, according to the Office for National Statistics. It was also the biggest fall of any G7 nation. All four sectors saw annual declines last year:
- Services fell by 8.9%
- Production dropped 8.6%
- Construction fell sharply by 12.5%
- Agriculture fell by 9.4%
The economy is expected to rebound strongly this year, with a projected GDP growth of 5.5%, the strongest growth since the late 1980s, according to estimates released by the Office for Budget Responsibility (OBR). However optimism on strong economic recovery is now being clouded by the resurgence of coronavirus infections early this year, which prompted the government to implement tougher restrictions again.
As such, the IMF has recently downgraded its 2021 economic growth forecast for the UK to 4.5%, down from its 5.9% growth projection published last October.
But even before the pandemic, the UK’s recovery since the recession had been anaemic, at best. In previous recessions, the UK experienced above average growth. For instance in 1983 GDP grew by 4.2%, and in 1994 by 3%. This compares to an annual average growth of less than 1.9% from 2010 to 2019.
The UK’s GDP growth per capita figures are also unimpressive. GDP per capita grew by a minuscule 0.7% in 2018 and 0.9% in 2019, and actually plunged by 10.4% in 2020, according to IMF.
In November 2020, the UK’s overall unemployment rate was 5%, up from 3.8% in the same period last year and the highest since August 2016, according to the ONS. The OBR projects that jobless rate will peak at about 7.5% in mid-2021, which represents around 2.6 million unemployed people. Actual figures might be even worse as this forecast was made before tougher restrictions were reintroduced, and before the substantial impact of EU import tariffs on British exports became apparent.
The UK’s inflation stood at 0.8% in December 2020, down from 1.4% a year earlier. Overall inflation averaged 1.5% annually from 2014 to 2019.
The UK voted to leave the European Union (EU) in 2016 and officially left the trading bloc, its biggest trading partner, on January 31, 2020. Though, both parties agreed to continue their trading arrangements until December 31, 2020 to allow enough time to agree to the terms of a new trade deal. With Brexit now in full effect, businesses and exporters are struggling to adapt to the new trading arrangements. Based on EU’s Winter 2021 Economic Forecast, the exit of the UK from the bloc will result to a GDP loss of 0.5% for the EU by 2022 and of 2.25% for the UK over the same period.