Contractors who rent rather than buying a property using a mortgage will almost certainly be worse off financially – rising property prices in some areas can deliver contractors who buy and don’t rent a return on initial investment within only a few years.
When you look at what property prices have done since the start of 2013, if a contractor had put their money into renting rather than funding their own mortgage, then they would be considerably out of pocket.
Rapid price increases in the property hotspots of London, Manchester and Aberdeen, and increasingly areas such as the Midlands, mean that contractors are quickly seeing a capital appreciation that more than outweighs the up-front mortgage costs.
Mortgage over rental – how do costs compare, short-term?
When you look at the numbers in the short-term, buying with a mortgage easily costs more than renting. An example: Using a website such as Zoopla or Rightmove, the rental on a small entry-level one bedroom apartment in Canary Wharf, London, is £1,500 a month. That’s all a contractor would pay out for a typical rental, apart from possibly needing to front a month’s rent as a deposit.
Again using Zoopla, actual properties in the area are costing around £280,000. The average first time buyer deposit is 10%, which is generally accessible for a typical contractor. In this example that would be £28,000.
The stamp duty on a house purchase this size will be £4,000 and you can assume another £1,500 for the survey and solicitor. That total’s £33,500. The monthly payment for a 25 year repayment mortgage at 3.44% with a 10% deposit is £1,270. That represents a saving of £230 a month, but after an initial layout of £33,500.
Mortgage compared to rental over the medium-term
So far, the hypothetical contractor would be better off cashflow-wise by renting. But this rapidly changes: If we look at property prices around London’s Canary Wharf, using Zoopla again to examine the E14 postcode, we see that 12 months ago properties were selling for £267,000. At 24 months, similar property was valued at £250,000.
Property price growth has been 10% over two years, with a £30,000 capital appreciation. This is obviously something that you could never achieve with a rental. If you add the £235 saving a month, which totals £5,500, to the £30,000 capital appreciation, you get £35,500.
In only two years the contractor has covered the costs of their initial cash investment and continues to pay less each month. In practice, the rental payments will have increased over the two years at a similar rate to property prices, so in fact the contractor will be even better off having bought with a mortgage rather than rented.
What happens over the long term outside of London
Outside of London and other property hotspots, over ten years the average growth in property prices can be as high as 60%. Rents will increase by a similar percentage over that timeframe, so it is a no brainer to get a mortgage.
As a tenant you do enjoy some protection but ultimately you have no security or power over where you actually live. If the landlord wants to sell, they can simply give you notice and you have to move.
With the high concentration of IT and financial contractors working in London’s financial sector, the Canary Wharf example is one that brokers see often, and getting on the property ladder in this sort of location has other advantages.
The first modest property is frequently the start of a contractor’s buy-to-let property portfolio. They decide to become landlords themselves. When they buy the next property, they just keep the flat and let it.
Most contractors have more than enough contracting income so that a specialist contractor broker can convince a lender that they can afford several mortgages.
Securing a mortgage and buying a property rather than renting makes more financial sense for contractors, particularly as they also gain control over where they are living.