The Government has taken a major initiative to discourage investors by preventing them claiming tax relief on mortgage interest payments.
It has also cut back on the special "Section 23" tax relief which allowed investors to write off rental income on a number of properties against tax.
Economic consultant, Dr Peter Bacon's proposal to disallow all interest on borrowings against rental income has been fully taken on board by the Government. Until now, an investor could write off the interest payable on a mortgage against the rental income from the property. However, this will not be available to anyone who takes out a mortgage from yesterday, although transitional arrangements will be available for anyone who has entered into a contract until September 30th.
The estimated 80,000 investors now renting out their property will continue to able to avail of the relief until mortgages are paid off.
The proposal will severely curtail the incentive to buy property to rent it out and has been criticised by the Construction Industry Federation as well as the Irish Auctioneers and Valuers Association. Dr Bacon also recommended a complete repeal of Section 23 investment. While this will not happen, the Goverment has decided it will be curtailed and will only be available on approved housing schemes in certain areas.
According to the Government the relief will be "critically evaluated" in each area and the possible impact on house prices will be a factor in considering the application of the relief.
The decision to only partly repeal Section 23 is likely to boost the prices of existing schemes and any new ones with Section 23 approval which come on to the market. All existing schemes will remain in place as long as they are built by the due date at the end of July or December, but interest relief will not continue on new ones and investors will have to pay stamp duty.
It is understood that the Government was concerned that the development of areas such as Dublin's docklands could be seriously undermined by the withdrawal of all relief.
The Government has also unveiled further major changes to the capital gains tax system of development land. It has now been cut to 20 per cent, in line with a similar cut for other capital gains in the last Budget.
However, developers will have to bring the land into use within four years or the tax will increase to 60 per cent. According to Dr Bacon this will be a major incentive for developers to release land.
Restriction of mortgage interest relief will have a major impact on investors. For example, a person with a £100,000 loan would have a monthly payment of £781 on an EBS variable rate and £591 of this would be interest in the early stages - the interest portion declines as the mortgage gets older.
Under the old rules this would have meant that the first £591 of rent would have been tax free, as the investor was allowed to offset all interest payments against rental income for taxation purposes.
From yesterday, any new investor will be unable to do this. This means that the investor will now have to pay tax at his or her marginal rate, usually 46 per cent, on the rent. This will make it much more difficult for investors to recoup the cost of mortgage repayments through rental income.