Investors back in residential market despite Bacon Report

Investors are moving back into the residential market despite the Government measures introduced to restrict them following the Bacon Report last April. Around 30 per cent of the buyers who snapped up homes at Druids Glen, a development of expensive houses in Cabinteely two weeks ago, were buying them as an investment, according to Elaine Carroll of the selling agents Sherry FitzGerald.

Meanwhile, Robert McCarthy, an investment adviser in Hamilton Osborne King's commercial division, estimates that investor interest in schemes in the city centre is as high as 20 per cent. "Pre-Bacon it would have been over 50 per cent," he said. Property portfolio manager Siobhan Kirwan, of O'Dwyer Property Management, has seen the level of property investments increase in the past month, with the prospect of lower interest rates.

"I have clients who are investing in residential property again, although on a reduced scale," she said. "Pre-Bacon many of our clients were buying between one and three residential investments every year. Post-Bacon, that volume is considerably down. However, in the last month, interest has picked up again because the cost of finance is coming down, because capital growth continues, and because of the prospect of higher rental income is good," she said. While the investor is no longer able to write off mortgage interest against taxable income, tumbling interest rates and rising rents are lessening the impact.

Another reason for the return of the residential investor to the market is the December deadline for the majority of Section 23 schemes. While there will be some tax-designated schemes available next year, they will be extremely limited in supply. Mortgage interest rates are expected to drop, most analysts are suggesting, by as much as 1.5 percentage points by the end of the year. Looking at the table, such a fall in rates would reduce the annual repayments to £8,232 (a pre-tax saving of £1,044).

Rental yields will have to increase considerably more to cancel out the effect of the Bacon Report entirely.

A recent survey by the IAVI showed that rents have increased by 18 to 25 per cent in some areas. However, even taking rental increases into account, yields would have to increase to 9.6 per cent in order to achieve the same net cash flow generated before the Bacon Report. This means that a two-bed apartment (see table) currently renting at about £750 a month would have to increase to £1,200 a month, a rise of 60 per cent. This prospect, potentially disastrous for the tenant, is not unlikely in the current rental market. According to Siobhan O'Dwyer, there is likely to be a severe hike in rents in the middle rental market. "We have a major shortage of medium quality rental, the £700-£800. There is huge tenant inquiry there at the moment that we just can't satisfy, so there is guaranteed rental if people want to go back into the market." So, it would seem that the Bacon measures are rebounding firmly on the tenant who will have to pay higher rents to compensate the landlord for the abolition of interest tax relief.

"The Bacon Report helped take the heat out of the suburban market but it had a knock-on effect of drying up the supply of rental accommodation," says Ken MacDonald, of Hooke and MacDonald.

Joe Wyse, of Wyse & Co property managers, has seen a distinct shift in ownership trends. "We are seeing more evidence of small private syndicates, put together by their accountants, going into the light industrial market. Here, rental income is treated as trading income and with a Full Repairing and Insuring lease, management input can be a lot less than in the residential sector." He said all expenses, including service charge and mortgage interest, are deductible in arriving at net profit for tax.

Sherry FitzGerald estimates that yields in prime office, retail and industrial markets are up to 5.5 per cent, 4.5 per cent and 7.5 per cent, respectively. With a buoyant economy, long leases, secure tenants and the prospect of favourable rent reviews, commercial property seems like a good option for the investor. However, "commercial property needs so much more equity and syndicates can be difficult to get off the ground," according to Robert McCarthy, of Hamilton Osborne King.

The draw of the residential market is that it has an in-built "comfort factor". Ian Finnegan, of Finnegan Menton, sees a move away from smaller apartments and the discerning investor looking at quality and location more carefully. "Returns may be low but capital appreciation is high in good locations," he states.

A final factor that is driving investors back into the residential market is the lack of alternative investments. The poor rates on interest-bearing deposits means that a cash investor will not make a good return on money in the bank. Money invested in stocks and shares is at risk due to price volatility.