House Prices: The Laws Of Economics Have Not Been
Repealed
by
the Investors Offshore Editorial Team, October, 2007
IMPORTANT
WARNING:
The contents of this report have been compiled in good
faith by Investorsoffshore.com to provide assistance
to investors, but do not constitute investment advice
or recommendations. Investors should not rely upon the
information given in order to choose types or routes
of investment but should make their own independent
enquiries before making choices. Investorsoffshore.com
has taken reasonable care in researching and presenting
the information herein but makes no representations
as to its accuracy and accepts no liability for actions
taken or not taken as a result.
In
June, as the house price boom continued across the world,
we asked whether the laws of economics had been repealed.
Now, we can see that they remain as true as ever.
But
just how widely is the housing price crunch going to
spread?
In
the last 30 years the price of an average house has
risen by 15 times in the UK, by 9 times in France, by
8 times in Australia and by 6 times in the US. And this
period includes the major asset price bust that took
place in some of these countries in the late 1980s.
During
this same 30 years, inflation has been approximately
350% in the US, so that house prices have risen at nearly
twice the rate of prices in general, and more in other
countries.
Economic
theory and past experience both dictate that such bubbles
come to a sad and painful end, so it is no surprise
that the US housing market has now turned in on itself,
beginning with the collapse of the 'sub-prime' mortgage
sector, and spreading now to most - but not all - of
the country's regions.
History
tells us that economic trends usually begin in the US
and then impact other parts of the world. Some commentators
are telling us that China will act as an economic counterweight
to the US, and while that may be true in general terms,
so that there is not much chance of an overall global
slump, it's hard to see that China's success will do
anything much to prevent the puncturing of the housing
bubble.
The
UK, which is the most over-extended of all countries
in housing price terms, will presumably be the next
to fall. Amazingly, it continued to post year-on-year
gains in house prices until August. But the Northern
Rock debacle (itself a consequence of the sub-prime
problems) may well turn out to have been the hinge on
which the cycle will turn. Don't be surprised to see
double-digit falls in UK house prices in the next few
months. And if that happens, then there will be knock-on
effects in the various countries which have seen an
influx of equity released from over-priced UK houses
- particularly around the Mediterranean and in Bulgaria
and Romania.
Other
European countries normally speaking follow the UK,
when an American disease crossed the Atlantic, so one
might expect to see pronounced weakness develop in EU-zone
housing markets next spring.
Many
people may feel that this is no time to make house-buying
decision. Are they right? No-one should try to offer
definite answers to such questions; but in this special
feature we will try to outline some of the facts, factors
and trends which a purchaser (or a seller) ought to
take into account before making a momentous decision
which may affect financial well-being for decades to
come.
There
are some factors which may have been extending and deepening
the asset price bubble, for instance the simply huge
and constantly growing accumulations of capital which
are making people richer (at least in developed countries).
Richer people can pay higher prices, and housing is
in limited supply, especially in desirable neighbourhoods.
In addition, most countries limit supply with zoning
or planning laws. This latter factor is unlikely to
change: as ever more land is covered with buildings,
the pressure from environmentalists to preserve what
is left will even tend to lead to more restrictions
on new building. On the other hand, the weight of money
argument is largely circular: much of people's assets
is in the form of houses and financial investments,
and in a bust situation their value goes down along
with the ability of their owners to pay for them, so
that there is a vicious circle to contrast with the
virtuous circle which has been pushing up valuations
for the last 10 years at least.
In
the US, 2006 brought a gradual slide rather than than
the precipitous drop forecast by the doomsters, and
in the first quarter of 2007 prices were just 1.4% lower
than a year earlier, the first year-over-year decline
in national home prices since 1991, according to the
S&P/Case-Shiller index. "This
fall is consistent with the ongoing trend that has developed
over the past year," says Goldman Sachs. "We
remain comfortable with our forecast of house prices
falling by 5% over 2007." But they were wrong!
After
British house prices rose 0.5 percent in May, 2007,
taking the annual rate to 10.3%, its highest level in
five months, the Nationwide building society said it
saw
signs of slowing: "The last rise in rates and the
financial market expectation of at least one more will
dampen demand and buyers' expectations of further house
price growth during the rest of 2007 and contribute
to the slowing of house price growth," said Fionnuala
Earley, Nationwide's chief economist.
"Higher
interest rates clearly present risks to the housing
market, but providing the economy, and particularly
the labour market, remain in good shape, we should still
expect to see a measured cooling."
Nevertheless,
she warned that buyers should be wary of stretching
themselves to get on the housing ladder. She was probably
right about that, but by now her comments seem unduly
optimistic.
In
Australia, the signs were equally ominous in 2004; the
country had topped The Economist’s house price
index for the majority of 2003, but the Commonwealth
Bank of Australia’s index showed that prices in
Sydney were 15% lower in September 2004 than they were
in December 2003. Once again, though, the dog wouldn't
bark, and prices more than made up that 10% in the two
subsequent years. On a calendar year basis, prices have
advanced in every year since 1986 at an annual rate
of more than 8% on average.
In
an attempt to understand why the housing market proved
so resilient in 2005 and 2006, we must examine the economic
fundamentals that underpin the global market. The current
trend has been fuelled to some extent by a sustained
period of low interest rates. Between 1990 and 2004,
the average base interest rate in the United States
and its twelve main trading partners fell from 13% to
4.4%. This has been of particular significance in the
housing markets of Ireland and Spain which had to accept
a sharp drop in interest rates after entering the European
Monetary Union. Coupled with the growing availability
of credit and rising real incomes in most industrialised
countries over the last decade, plenty of fuel has thus
been provided to power demand in the housing market
across most of the developed world.
If,
as some contend, house prices have grown on the back
of a speculative bubble rather than economic fundamentals,
underpinned by an equally boisterous equity bull market,
then it could still only be a matter of time before
the twin bubbles burst. Indeed many economists now fear
that house prices in many jurisdictions have risen to
uncomfortably high levels in relation to incomes. Put
simply, homes have become unaffordable. Calculations
by The Economist suggest that house price to income
ratios have hit record highs in several key markets,
including Australia, France, Ireland, the Netherlands,
New Zealand, Spain, The United Kingdom and the United
States. Taking the average income to house price ratio
between 1975 and 2000 as a baseline, The Economist calculates
that US house prices are presently 30% over-valued –
already above levels that in the past have proved unsustainable.
The IMF in its world economic outlook has also warned
that house prices are dangerously out of line with incomes.
Its analysts suggest that there is a tendency for markets
to correct at a rate of about 15% per year when prices
and income move this far out of line with one another.
But
just as low interest rates helped to sustain house price
growth, you would have expected that the continued trend
towards higher interest rates in 2005 and 2007 in most
countries, certainly including the US and the EU should
quell the demand for credit and take much of the steam
out of the housing market.
It
may be that the impact of higher interest rates has
been mitigated in some markets due to country specific
factors such as the type of mortgage loans buyers hold.
These can vary widely from country to country. For instance,
in the United States most mortgages are fixed over 30
years, meaning home buyers and the housing market should
theoretically be less sensitive to rate hikes. In some
other countries, such as the UK, mortgage rates are
rarely fixed for such a long term, and tend to float
up and down with the prevailing interest rate. Here,
it is all the more surprising that higher interest rates
have not braked demand for lending, triggering a sharper
decline in the housing market as witnessed in the late
1980s and early 1990s.
Clearly,
interest rates do not tell the whole story of what is
happening in the global housing market. According to
some economists, the current boom has no basis at all
in economic fundamentals, and is being driven purely
by a similar “irrational exuberance” to
that which famously characterised the stock market bubble
in the late 1990s. In other words, houses are now being
viewed increasingly by people as a short-term money-making
vehicle rather than a mere a dwelling or long-term asset
to bequeath the next generation. Evidence of speculative
activity has been displayed in the United States, where
turnover in existing homes reached a record 9% in 2004
as buyers and sellers in particular hotspots cashed
in on spiralling prices. This bull market mentality
has meant that the boom in house prices has been almost
self sustaining and has occurred independently of other
factors such as interest rates and rising incomes.
What’s
more, in times of rising house prices banks tend to
lend more because the collateral securing the loan is
increasing in value, further fanning the flames of a
raging market. Conversely, when home values begin falling,
banks are less keen to lend, thus accelerating the bust.
While
high property values in larger economies such as the
US and the UK are inevitably linked to some extent to
the business cycle, prices in small, rich offshore islands
such as Bermuda and Jersey seem to thrive regardless
of external conditions, no doubt driven by strong demand
for a very limited supply.
In
March, 2007, housing specialist Skipton reported that
average house prices had moved forward in both Jersey
and Guernsey, with prices in Guernsey now 11% higher
than at the end of 2005, whilst in Jersey, the rise
was a healthy but more modest 6.5% against the previous
year.
Nigel
Pascoe, Director of Lending for Skipton Guernsey and
Skipton International, commented, “The data presents
a mixed picture, but underlines the importance of looking
at longer term annual trends, as one quarter’s data
can seem out of step. Annually, on both Guernsey and
Jersey, prices have been rising at a steady rate. However,
there has now been two UK Base Rate rises since August
last year and this is bound to have had an effect on
both transaction volumes and average prices. We will
need to wait until at least April this year before we
can see what effect the last UK base rate rise in January
will have on the traditionally buoyant Spring buying
season this year.“
Average
prices in Guernsey now stand at GBP310,650 in the local
market, whilst in Jersey the average house price now
stands at GBP360,000. Whilst not directly comparable,
the two figures give a relative picture of prices on
the two islands. Prices in Guernsey and Jersey are now
higher than both the London average of GBP296,000 and
the South West average figure of GBP213,000.
Soaring
house prices have obviously had the effect of pricing
out first time buyers in many areas, particularly the
UK, where the numbers first-time buyers have been shrinking
year-on-year since 2002. First-time buyers are an integral
component of any market, and in recent years have made
up 50% of all purchases in the UK. Worryingly, they
now account for only 29% of all purchases.
So,
much of the evidence put forward thus far continues
to suggest that, at the least, prices markets will cool
and house prices will plateau. At worst, markets will
correct sharply as prices move to a more sustainable
level.
However,
after several years in which reality has stubbornly
refused to come into line with the theory, not all agree
that a nasty shock is in store for home owners in the
months or years ahead. Fed Chief Alan Greenspan and
his successor Ben Bernake have both argued that from
a US perspective, the real estate market tends to be
highly localised, and does not suffer from the same
irrational exuberance as in the UK or Australia for
example. To an extent, this is true. As of March 2004,
ratios of incomes to house prices in Mid-Western states
such as Illinois, Wisconsin and Kentucky ranged from
2.4 to 1 to 2.9 to 1, whereas in California the ratios
were nearer 8.5 to 1 (meaning the average house price
is 8.5 times higher than the average income of a Californian
household). Nevertheless, recent research highlighted
evidence of property market bubbles in 27 metropolitan
areas, mainly in California and in the North East, covering
20% of the total population.
In
fact, the accusation can be levelled at the guardians
of US economic policy that the latest housing market
boom has been encouraged to help the American economy
weather a period of relative weakness. In each of the
five last years, roughly one-third of all US home owners
refinanced against the rising value of their homes,
helping to unlock some $2 trillion in cash, the lion’s
share of which has been spent on big ticket consumer
goods, acting as a useful prop for the US economy.
With
house prices in many parts of the United States, and
indeed the world, clearly out of line with the economic
fundamentals underpinning the market, it remains to
be seen how the authorities will manage the situation
from here. If the market hasn't buckled thus far, why
should it not continue to blossom, many will ask? But
economic forecasting is rarely an exact science, and
only time will tell whether the global property markets
have had their day.
A
Round-Up Of Some Other Real Estate Markets
Malta
Property
prices in Malta have risen sharply in recent years,
partly spurred on by Malta joining the EU in 2004, with
one recent estimate showing a 40% rise in the last two
years.
Maltese
property companies report that the demand for property
in Malta remains buoyant from the UK, US, Australian
and European mainland markets, and predict further rises
in prices.
The
Malta government is expected to allow developers to
utilise more land for building, but some property companies
see this as a negative rather than a positive move.
"Malta
is an island with a finite amount of land, and while
the Malta government view releasing more land for building,
and more properties as the answer to increasing property
prices, we believe this is the wrong approach", says
a spokeman for Tribune Property, "and in the end more
developments could have an adverse impact on Malta's
economy."
"Tourism
is an important industry for Malta, and tourists aren't
impressed by cranes and construction work while they're
trying to relax or go to see Malta's historical sights,
and if it's a first visit to the island there's an increased
chance that it will be their last, losing the Malta
holidays industry repeat business," the company added.
Ireland
In
Ireland, prices have more than doubled since 2000, but
this year has finally seen signs of some softening in
the market. A
monthly house price index said in May that the average
home cost €306,619 in April, down slightly on the
previous september, although still up 5% year on year.
Overall,
prices have risen by about 10% per year on average since
2000, prompting a warning from the International Monetary
Fund that the Irish housing markets risks becoming "overvalued".
In
August, 2006, Irish Minister for Housing and Urban Renewal,
Noel Ahern, had called upon the government to introduce
measures to curb speculation in the country's property
market.
Commenting
on the release by his government department of new house
completion figures for the first seven months of the
year, Ahern urged Finance Minister Brian Cowen to consider
the issue of Ireland's runaway property market when
he presents his 2007 Budget.
However,
Minister Ahern made it clear that tough measures should
be directed towards investors who snap up property prior
to completion with the sole intent of keeping it off
the market until its value increases.
“The
person that I wish I could get rid of is the individual,
company or whatever who is just buying off-the-plans
and off-loading it in 18 months’ time,” Mr Ahern said
in a report by the Irish Examiner.
In
fact the budget focused mainly on easing entry to the
overpriced housing market, doubling the level of mortgage
interest relief.
Monaco
At
present, property prices are high all across the Principality,
and apartments in the district of Fontvielle, much of
which is also reclaimed land, equal those in the city
of Monte Carlo. A three bedroom apartment in Fontvielle's
Seaside Plaza building will fetch up to EUR4 million
(US$5.1 million), while a four bedroom four bathroom
dwelling is currently on the market at close to EUR10
million.
Rumours
have been confirmed that a new island will be built
just off the coast of Monaco to provide additional land
for housing developments, which could present opportunities
for real estate investors.
The
new development will add an additional 275,000 square
metres to the surface area of the world's second smallest
country, and according to local travel guide YourMonaco,
could also take some pressure off local property prices,
which are among the highest in the world.
However,
one of the stipulations for those bidding for the development
is that it must be good architecture and sympathetic
to the local environs - "which we take to be no high
rises," the guide commented.
Tribune
Properties, which specialises in Monaco property, expressed
doubt that prices will ease as a result of the new development.
"By
the time the development is finished prices would probably
have gone up in Monaco anyway, and this new development
on the housing side is likely to be aiming for quality
rather than quantity," the company stated. "It's almost
certain that the properties will be snapped up by investors
off-plan, and then come back to the market with a premium
once the buildings are complete. The development in
itself will attract more attention to the Monaco property
market."
"In
the short and medium term prices are likely to rise
in Monaco rather than fall," Tribune correctly predicted.
In
February, 2007, Monaco overtook London as the most expensive
location to buy flats and apartments in Europe, according
to the Global Property Guide.
Figures
from the guide reveal that apartment space in the Principality
now sells for EUR24,900 per square metre, or just under
EUR3 million per 120 square metres.
Monaco's
prices are being driven higher as growing demand from
a flock of foreign millionaires, particularly from the
United Kingdom, seek out its unique benefits as one
of lowest of the low-tax jurisdictions in the world,
while being only a couple of hours flying time from
London. Add in the constraints of Monaco's size at not
much more than 1km square, or 485 acres, and it is hardly
surprising why property prices have gone through the
roof in recent years.
According
to travel guide yourmonaco.com some Monaco property
buyers are already paying nearly US$1 million for studio
apartments. The travel guide also predicted that there
is only one way which prices will go in the next few
years - up - and it has cited one survey which predicted
a four-fold increase in the ranks of British millionaires
over the coming years. Another survey forecast a 70%
increase in property prices over the same period.
China
China's
largest cities have seen dramatic increases in property
prices recently. In Beijing, prices rose 14.8% in the
first three months of 2006 - compared to a year earlier
- to 6,885 yuan, or US$860, per square meter, according
to the city government. Prices in the southern city
of Shenzhen have risen by 25%, and prices in the north-eastern
city of Dalian have jumped by more than 10%, government
data showed.
Meanwhile,
the number of newly-established foreign-invested property
firms increased by 25.4% in the first half of 2006,
according to China Daily.
In
April, the State Administration of Foreign Exchange
reported that overseas institutional investors bought
US$3.4 billion worth of property on China's mainland
in 2005. However, some analysts suspect that the real
figure was much higher.
Chinese
Premier Wen Jiabao has stated that the government will
continue to adjust tax, credit and land policies to
curb speculation and ensure an adequate supply of affordable
housing for low and middle income citizens, despite
his assertion that China's property market is "under
control".
The
Chinese government said in August that it is to place
restrictions on foreign real estate investors in a bid
to curb speculative investment and cool the country's
soaring property prices.
According
to a joint circular issued by six government agencies
and published on the website of the state media agency
Xinhua, new regulations will mean that foreigners seeking
to buy homes in China will not be permitted to do so
until they have resided in the country for at least
twelve months. This restriction will not apply to Chinese
nationals living in Hong Kong, Macao and Taiwan who
buy houses for their own use.
Furthermore,
individuals and institutions will be required under
the new regulations to set up a company to purchase
property that is not intended for their own use.
The
regulations will also impose capital restrictions; for
foreign real-estate developers, this will mean that
the ratio of registered capital should be more than
50% of any project that surpasses US$10 million, up
from 33% currently. Foreign-funded firms will also face
restrictions on taking out loans or engaging in foreign
exchange transactions if the capital they contribute
is less than 35% of the amount of their total investment.
The
Chinese government has tried a variety of tax, regulatory
and monetary measures in order to avert a real estate
market bubble, including the imposition of a 20% capital
gains tax on the sale of properties in most parts of
Shanghai, but the measures seem to have had little effect.
In May, 2007, the National Development
and Reform Commission reported that demand in China
was "still robust" in the first four months
of the year, with sales more than doubling in terms
of floor space. Property
investment in the period grew 27.4% from a year earlier
to 526.5 billion yuan (US$68.6 billion), the report
said.
According
to figures from the National Development and Reform
Commission average new property prices in Beijing and
Shenzhen were up by more than 10% in April year on year,
while prices for new residential apartments in Shanghai
climbed only a little, at 0.3 percent year on year.
To
Buy Or Not To Buy? A Basic Guide To International Property
Investment
If you
are in the right place at the right time, investing
in real estate can be one of the most profitable and
enjoyable forms of medium to long term investment there
is. Depending on your circumstances, international real
estate investment may prove preferable, for a number
of reasons, despite the additional challenges it can
sometimes pose. Diversifying your investment portfolio
by buying property in several different countries, for
example, can help to cushion you against downturns in
any one particular market. Even if you cannot afford
to do this, you may find that you will be able to snap
up an incomparable bargain in an up-and-coming country
which would never have been available in your country
of residence. (Unless you happen to have the good fortune
to be resident in a newly popular emerging market country,
of course!)
Now, if
you decide that international property investment is
for you, there are several different ways of going about
it. Those with neither the time nor the inclination
to become landlords, or who simply want to diversify
a top-heavy portfolio, might choose to invest indirectly,
using one of the many real estate related funds available.
Ground rent funds, for example, are proving increasingly
popular with investors, and offer a relatively low risk
and secure investment with the possibility of high returns.
As with all mutual fund investments, there are specific
advantages and disadvantages, but if you are interested
in the growth possibilities in this market and would
prefer a less 'hands on' approach, then this may be
for you.
On the
other hand, you may not even have an investment portfolio
- you may just be looking for somewhere nice and sunny
to retire to. Or you may be an expat looking to supplement
your income. Or you might have been relocated by your
employer, and need somewhere to live. Or… well,
the list goes on. There could be any number of circumstances,
both personal and financial, driving you to consider
investing in property overseas. In this article we will
deal with the issues raised by international property
investment, and the possible taxation implications raised
by such purchases.
International
mortgages - Do I need one?
One of
the primary considerations, when purchasing property
either domestically, or on an international level, is
raising the necessary amount of money. Unless you happen
to have enough ready cash just lying around (down the
back of the sofa, for instance…), chances are you
will need to take out a mortgage. There are several
options:
1)
Taking out a mortgage with a local bank. You may, however,
find yourself constrained by exchange control rules
(where they still exist). Even in jurisdictions where
exchange controls have been lifted, such as Spain, you
may find that domestic banks and building societies
will charge non-resident foreign nationals higher rates
of interest.
2)
Taking out a mortgage or loan from a bank or building
society in your country of origin.
3)
Taking out the mortgage offered by the developer. Sometimes,
with new complexes, developers will offer their own
mortgages in order to increase sales
4)
Taking out a mortgage with an international institution.
Even if you are confident in your understanding of the
processes involved in purchasing property in your country
of choice, this is probably the most sensible option,
for the simple reason there are likely to be issues
involved in dealing with an expatriate client which
a local provider may not have the expertise to cope
with.
There are
a growing number of international mortgage brokers and
relocation specialists offering international products
tailored to meet the needs of expatriate property investors,
and although it is possible to go it alone, you may
find that enlisting the services of a professional company
experienced in dealing with international markets eases
a purchase considerably, as they are likely to be well
versed in the processes and legislation applicable to
non-resident purchasers, and can often mediate between
yourself and the local entities involved.
What
sort of mortgage?
There are
several different sorts of mortgages available, so you
should really shop around to make sure that the international
mortgage broker or IFA you choose to handle your affairs
offers a wide range of products, from a varied group
of international providers. Below is a basic rundown
of the different types of mortgage available, although
not necessarily all for your country of choice, so you
need to check:
1) Repayment
mortgages. With this type of mortgage, you pay a
little of the interest and a little of the capital off
each month, so that at the end of the term, the debt
has been repaid completely, and the property is yours.
Although in the early years, very little of the capital
is repaid, as the amount of capital owed decreases,
so does the amount of interest which accrues, so towards
the end of the term there is a kind of 'snowballing
effect' in terms of the amount of capital which can
be paid off at a time. This is generally considered
the safest bet in terms of mortgage loans, although
it is usually more expensive than an interest only mortgage.
2) Interest
only mortgages. With one of these, your payments
to the lender simply pay off the interest on the loan,
and the capital is paid off at the end of the term.
Monthly payments are (obviously) lower than they would
be for a repayment mortgage, and the idea is that you
put the money you save on repayments each month into
an investment fund, so that by the time the term ends,
you will have accumulated enough to pay off the mortgage.
Or that's the theory. If your investments do well, you
could be in a position to repay the mortgage early,
or have some money left over at the end of the term.
However, in order for that to happen, your investment
fund needs to bring you returns which are higher than
the interest you are paying on you mortgage, otherwise
there will be a shortfall at the end of the term.
3) Endowment
mortgages. These used to be used quite a lot in
conjunction with interest only mortgages. They are designed
to guarantee that if you die before the end of the term,
the mortgage will be repaid, and to provide a means
of paying off the capital owed at the end of the term.
However, there is no guarantee that an endowment will
repay the loan in full at the end of the term, and as
with many pensions and life assurance products, there
are high 'front-end' costs. Where there is preferential
tax treatment for life assurance premiums they may still
be of some use, but as the majority of expatriates are
excluded from the benefits of domestic pensions investment,
they are rarely suitable.
Usually,
international mortgage providers will offer both repayment
and interest only mortgages at fixed, variable, capped
and sometimes discounted interest rates, all of which
are fairly self explanatory, and have specific benefits
and disadvantages.
International
home-owning - The logistics…
Several
of the problems you may encounter if you decide to purchase
property in a country other than that in which you are
resident are likely to be logistical. Okay, so you can
afford to take time off to find a property in your country
of choice, and maybe even visit a few times a year,
but that is likely to be all. This is where designated
international organisations come into their own.
For example,
in Spain, the completion of a mortgage must take place
in front of an appointed notary, and all parties to
the purchase including the vendor, lawyers, the buyer,
and a representative of the lender. However, if you
are unable to be there due to previous commitments (or
simply geography!) an international broker should be
able to help you obtain a power of attorney, allowing
someone else to sign on your behalf.
Renting
your property out when you are constantly on the move
can be a bit of a headache, but hiring a letting agent
qualified in dealing with international clients could
take the pressure off. They can help you find suitable
tenants, prepare a letting agreement, take the security
deposit, deal with utilities bills, collect the rent
(the important bit!), visit the property on a regular
basis, check empty properties, and undertake property
maintenance during a tenancy.
Costs
Ignoring
taxation (which we will deal with in more detail later),
and quite apart from the cost of the mortgage itself,
there are other expenses to bear in mind when arranging
a mortgage for your investment property, and these vary
considerably from country to country. For example, in
France, the fee level can be affected by the age of
the property (as newer properties attract lower charges),
the number of people involved, and how many outside
agencies (e.g. estate agents, lawyers, brokers, letting
agencies) are involved.
If buying
a property in France, (over and above the broker or
IFA's fee) you should be prepared to pay:
- A land
registry fee of 0.6% for property under 5 years old,
or a 1% fee for anything older
- The
notaire's sales commission of up to 5% (where an estate
agent is not used. If an estate agent is used, their
fees are usually paid by the seller of the property).
- Stamp
duty of 0.6% for property under 5 years old, or a
6% (!) charge for anything older.
- The
notaire's conveyancing fees, which vary according
to the value of the property, but can be anything
from 1-1.5%.
As previously
stated, costs will vary depending on the location of
your property, as you can see the issue of additional
expenses needs to be taken into account when deciding
whether international property investment is for you-
although the returns can sometimes be spectacular, it
ain't cheap!
The tax implications of international property investment
Capital
acquisitions tax, capital gains tax, inheritance tax,
gift tax, property transfer tax, VAT, stamp duty, tax
on rental income, share transfer tax, land tax…no,
wait a minute. Come back…sit down and take deep
breaths - we didn't mean to frighten you.
Although
the majority of countries impose some kind of taxation
on international property investment by foreign nationals,
it would be a rare (and unpopular!) country which levied
all of the above. The tax implications of your foreign
real estate investment will vary in complexity and impact
according to where it is located, and to a certain extent,
what you intend to do with the property when you have
purchased it. As a general rule, in the majority of
countries if the tax authorities believe that the purchase
was made as a 'commercial' investment (i.e. if you habitually
buy, renovate, and sell on, or if you have bought undeveloped
land with a view to building a housing complex or leisure
facility), they will view you as a property dealer,
and tax your investment accordingly at a higher rate.
Where taxes
are levied on international property investment, they
will usually fall into the following categories:
1)
Taxes on the purchase, acquisition or transfer of the
property or land, such as capital acquisitions tax,
inheritance tax, stamp duty and property transfer tax.
2)
Taxes on the ownership of and/or residence in the property,
such as local and national property taxes, and land
tax.
3)
Taxes on rental income. (If you choose not to live in
the property, be aware that there may be additional
taxes imposed on non-resident or foreign landlords.
Not necessarily devastating, but still a factor to be
considered if buying to let overseas.)
4)
Taxes on disposal of the property, such as capital gains
tax, gift taxes, and death duties
As previously
stated, property taxation regimes vary widely from country
to country, and you may feel that low, or no-tax jurisdictions
are the ideal choice for you. However, in some (although
not all), due to limited resources and space, property
investment opportunities are limited only to the very
wealthy, who must be willing to contribute substantially
to the local economy, and purchase luxury real estate.
Other jurisdictions limit the number of foreign nationals
permitted residence or work permits in order to maintain
the standards of living, and protect the employment
chances of existing residents.
Governments
in non-tax haven countries tend to impose fewer restrictions
on property purchase for investment or residential purposes
by foreign nationals. However, in such countries, the
likelihood is that you will face more taxes on your
investment. Some property investors choose to purchase
international property via an offshore company or trust
in order to bypass some of the taxes levied in high
tax countries, and although this can be a valid option,
it is not suitable in all circumstances. We will discuss
this in more detail later.
Where you
decide to purchase property is, in the final analysis,
a personal choice, and will need to be based on your
circumstances, resources, and eventual goals. If you
have your heart set on retiring to a beachfront house
in the Bahamas, you are unlikely to be satisfied with
a one-bedroom apartment in Cyprus. If, however, you
are looking to subsidise your income by providing affordable
housing to expatriates and other professionals, the
latter would be ideal. It all depends…
Although
tax shouldn't necessarily be the most important consideration
when choosing a property, there is no denying that it's
certainly up there at the top of the list for most people.
Probably the best way to illustrate the variety of taxes,
and the way in which they are imposed, is to look at
three countries with very different tax regimes:
Greece
Currently
in Greece, purchase, inheritance, possession, use, and
donation of property are taxable. Greece has a unified
inheritance and gift tax on property acquired as the
result of a gratuitous lifetime transfer or death, with
the liability resting on the transferee, or beneficiary
of the property. Property situated in Greece, and moveable
property situated abroad owned by both resident and
non-resident foreign citizens is liable for inheritance
tax. Non-residents may wish to reduce their tax burden
by purchasing Greek real estate through a non-resident
company, as then the asset held by them is a shareholding
in a foreign company, which is not subject to inheritance/gift
tax under Greek law. However, this solution will provide
no protection for Greek residents, as the shares themselves
would be subject to the unified tax.
Property
transfers are subject to a 9% tax for property up to
GRD 4 million (approximately $10,262) and 11% for any
amount beyond that. There is also a municipal transfer
tax imposed on top of that equal to 3%.
Ownership
of Greek real estate by individuals is taxed at a rate
of between 0.3% and 0.8% on the value of the property,
but with a deduction of GRD 69,000,000 (approximately
$180,000) plus a further 0.25-0.35% real estate duty
known as the TAP, on the whole value of the property.
Rental
income is subject to Greek income tax (calculated on
a progressive scale from 5% to 42.5%) and also stamp
duty calculated at 3.6% of the actual rent, and payable
on a monthly basis. However, no VAT is charged on payments,
and there are no plans to introduce it while stamp duty
is payable.
There are
no capital gains tax implications following the sale
of a property, but the proceeds from a disposal of real
estate which takes place 5 years or less before death
are deemed to be part of the taxable assets of the deceased,
although this presumption can be challenged by the beneficiaries
of the estate.
Tenerife
Tenerife
is the largest of the Canary Islands, which although
they are autonomously governed, for taxation purposes
generally fall under Spanish jurisdiction (although
a great deal of autonomy is afforded to the regional
governments).
When the
purchase, acquisition, or transfer of Spanish property
takes place, one of two taxes will be payable. VAT is
levied on the purchase of newly constructed property
and land immediately available for construction. (In
the Canaries there is an Indirect General Tax for the
Canary Islands, but it is similar in many ways to the
Spanish VAT). In situations where VAT is not levied,
property transfer tax at a rate of 6% of the purchase
price (Escritura value) is levied instead. When buying
newly built property, stamp duty (IGIC) at a rate of
5% is also payable. However, there is an exemption for
property investors who create employment, whereby transfer
tax and IGIC are not payable. (Corporate income tax
can also be very low in these cases).
Liability
for inheritance tax is dependent on residence status,
and for non-residents is payable only on Spanish sourced
income or gains. The level of the tax varies according
to the degree of kinship between the deceased and the
beneficiary, and the previous level of wealth of the
beneficiary.
There is
an annual real estate tax of 4% of the Cadastral value
of the property payable for both residents and non-residents,
and as in France, a 3% tax levied on the purchase of
Spanish property by non-resident companies (although
there are certain situations in which this doesn't apply,
and property purchased by a Spanish company, even if
all of the shareholders are non-resident, is exempt
from this). Non-resident property purchasers must also
appoint a resident fiscal representative, and submit
a wealth tax declaration. Resident property owners are
exempt from wealth tax on Spanish assets below a certain
threshold, but non-residents must pay a 0.2% wealth
tax on the total value of their Spanish assets.
Rental
income from property obtained by a Spanish non-resident
is subject to taxation at a rate of 25%, although maintenance
costs and expenses incurred as a result of obtaining
the income (for example interest paid on mortgages and
loans) are deductible. Capital gains tax on the sale
of a property is levied on a progressive scale of between
2% and 40% of the difference between purchase price
and selling price, although the rate is usually 20%
for residents and 35% for non-residents.
The
Cayman Islands
At the
other end of the spectrum lie the Cayman Islands. Other
than import duties (imposed at various rates), and a
stamp duty rate of 7.5% on real estate transfer and
1% on legal documents pertaining to valuable assets
and transactions, there are no direct taxes imposed
on Caymanian residents or non-residents.
There are
no restrictions on foreign ownership of real property
in the Cayman Islands as such, and due to the lack of
direct taxes, it is equally possible to buy a condo
and rent it out for the majority of the year, or to
buy an undeveloped piece of land, and leave it undeveloped
until you have the time and resources to build your
dream home. If you choose the former option, your rental
income will be free from income tax (in Cayman at least),
and the absence of property taxation, or of any rules
stipulating the time frame within which land must be
developed, means that the latter is in essence a 'maintenance
free' investment until such times as you choose to develop
the land.
However,
achieving residence and/or a work permit can be problematic,
as access to employment is fairly restricted for foreigners.
An expat wishing to apply for permanent residence in
the Cayman Islands on retirement should be prepared
to invest at least $180,000 in local enterprise or real
estate. Caymanian status is usually granted on a quota
basis to citizens from the UK and British dependent
territories, and certain other countries including the
United States, Eire, Australia and New Zealand.
Offshore Companies and Trusts
As you
can see from the examples above, the country in which
you choose to locate your property (as well as your
country of residence if different) will almost certainly
have an impact on the amount of tax payable by your
estate in the event of disposal of the property, or
of your death.
In order
to alleviate some of the tax consequences involved in
the ownership of foreign real estate in high tax countries,
some investors may choose to purchase property through
a non-resident company or trust, often established in
a low tax jurisdiction. Trusts in particular can sometimes
be effective in protecting the investors and their beneficiaries
from punitive estate and death duties. In countries
such as Greece, where there are no provisions in the
country's tax legislation to facilitate the taxation
of the underlying assets of a foreign company, an offshore
company can often be a tax efficient and effective vehicle
in which to hold property investments.
However,
although in some countries (for example Spain, Portugal,
and Australia) non-residents are encouraged to make
their real estate investments through an offshore company,
this form of tax planning may not be effective (or even
possible to implement legally) everywhere, so again
it depends on your chosen location.
In France,
for example, legislation was enacted in 1983 to prevent
property investors from avoiding registration and wealth
taxes. The tax authorities complained that when French
real estate was purchased by legal entities in offshore
jurisdictions, it was impossible to levy the aforementioned
taxes on the sale and transfer of shares within these
entities because they were unable to discover the identity
of the shareholders, due to the stringent secrecy laws
in place. They therefore demanded that a 3% tax be levied
on the fair market value of real estate in France owned
by these companies.
The tax
was later ruled by the supreme court to have violated
the non-discrimination clauses contained in some of
France's bilateral tax treaties, however, and so was
modified. As it stands now, foreign entities which own
real estate in France (either directly or indirectly)
are only subject to the 3% tax if the value of such
real estate represents 50% or more of their French assets.
French residents and foreign companies registered or
resident in countries with which France has a double
tax treaty are also exempted, provided they furnish
the French tax authorities with the identities and addresses
of the shareholders on an annual basis.
Although
double tax treaties are of more interest to corporate
and commercial international property investors, they
can sometimes have an effect on the amount of taxation
that an individual's real estate investment income is
subject to, especially if they are resident in a country
which taxes world-wide income, or are planning to purchase
property in a country which does this. Certain double
tax treaties may enable you to claim tax paid on rental
income from overseas against your domestic income taxes,
or to receive dividends at a lower rate of withholding
tax. However, the number of different tax treaty models,
and the sheer volume of treaties in force on a global
level make it impossible to give a comprehensive picture
of the likely consequences of a double tax treaty in
any given circumstances. We would therefore strongly
recommend that you take advice as to the potential implications
from a qualified professional before making a decision
as to the location of your investment property.
So- Is it worth it?
The answer
to this question will depend on your personal circumstances,
what you hope to achieve by investing, and how much
you can afford to spend. There is a vast spectrum of
opportunities available within the property investment
field, ranging from the ridiculously expensive to the
nicely affordable, and with the help of an international
broker or IFA, you should be able to find something
suited to your tastes and pocket.
Investing
in a 'real' asset, as opposed to an intangible one can
sometimes provide more stability, and property tends
to hold its value better than other commodities. You
do need to be aware that the overall liquidity and health
of the property markets, and possible fluctuations in
interest rates and inflation can affect the value of
your investment, but generally it is possible to achieve
a very healthy return on your investment.
But - and
it is a big but - this is a very special moment in the
history of housing markets. We cannot offer advice,
and don't do so, but right now you may want to exercise
especial caution and patience. If you are buying a property
to live in for the remainder of your days, you may feel
that price is unimportant. Anyone who expects to see
a profit on their investment, however, may take a different
view.
|
