Bad news for landlords

Cuts to housing benefits will have a huge impact on landlords as well as tenants.

Changes to housing benefits next year will have a massive effect on those tenants in receipt of Local Housing Allowance, and as result, on their landlords.

For property investors who specialise in letting to this specific sector of the private rented sector, now is the time to plan how you intend to deal with these changes, whether diversifying into other tenant markets, or swallowing a drop in your rental income.

What’s going to happen?

Local Housing Allowance (LHA) is paid to housing benefit recipients who live in private rented accommodation -- there are currently 993,000 recipients in the UK. Under the current system LHA is set at the median average of the rents in each area.

In October 2011 the Government will reduce this figure down to the 30th percentile of the rents in any given area.

Before then there is to be another change. From April 2011 a new upper limit will be introduced for each property size, with upper limits of LHA set for each size of property, from £250 a week for a one-bed flat, £290 for a two-bed flat up to £400 for a large home of four bedrooms or more.

Why the changes?

The Government says that the measures announced will provide a fairer and more sustainable housing benefit scheme. It argues that under the current system recipients are able to live in very expensive properties in areas that most working people supporting themselves would have no prospect of being able to afford.

For example, LHA rates for large homes in central London have risen as high as £1,800 per week and rates for two-bedroom properties can exceed £300.

According to the Department for Work and Pensions a couple with one child spending a third of their gross income on accommodation would need a household income of over £45,000 a year to afford a rent of £290 a week, and would be in the top third of the household income distribution.

This clearly points to the possibility that, not only are some LHA tenants getting to live in expensive areas, but some landlords are also benefitting hugely from the current system.

Milking the system?

Many landlords who let to benefit recipients currently peg their rent at the median rate for their area -- ie the maximum LHA they will be able to get. I’m not suggesting that every single landlord does this (they don’t), but there are many who admit to upping their rent when the LHA rates came in, because they knew their tenants would be able to get this level of housing benefit paid.  

It’s important to remember that many of these landlords provide an invaluable service, and local authorities would be lost without them, because there is nowhere near enough council accommodation to plug the gap.

The National Landlords Association argues that landlords are not milking the system, pointing out that the average LHA award is just £113.38 per week, or £491.31 a month. It adds that from almost a million LHA tenancies fewer than 100 customers received the maximum local housing allowance rate of £1,800, and all were in the central London area.

What’s the impact of the cuts?

The Government admits that these reforms will mean that people receiving housing benefit may not be able to live in expensive city centres, but it says that the same applies to most working families who do not receive benefit.

The average loss in benefits from the cuts is estimated by the DWP to be £12 a week, or £624 a year, though this varies from £9 a week for those in Wales, the North East and Yorkshire to £22 a week in London.

So, who pays the difference?

In many areas (not just in London), housing benefit could no longer be enough to cover the actual rents being charged to those in receipt of LHA.

Remember that LHA recipients are some of the most vulnerable people in our society. Some work but earn a modest income, while many are out of work. It’s fair to say that many will not be able to make up any shortfall between the housing benefit they receive and the rent they are currently being charged.

Homelessness charity Crisis notes that a reduction in LHA levels will make it more difficult for claimants to cover their rent. It predicts that many will fall behind with their rent and get into credit card or loan debt.

So does that mean that landlords will have to drop their rents to match the new LHA levels?

Can you swallow it?

If you let just one or two properties to housing benefit recipients, or if the difference in LHA isn’t that significant, this may not be a huge issue. But for those landlords who specialise in this market, and many do, this will be a huge reduction in total rental income.

If you keep your tenants and reduce your rent you face an average £624 cut on each of your properties, and it could be much more.

Some might consider altering larger properties into multiple flats in order to maximise their allowance. A four-bed house will have a LHA cap of £400 a week, but four one-bed flats with a £250 cap each could generate £1,000 a week. It’s a long-winded way for landlords to squeeze everything they can from the system, but some will probably go down this route.

Many landlords will simply be tempted to get out of the sector, and with rental demand currently at record highs, it’s probable that you will be able to find private tenants to fill your properties.

If your accommodation is of a modest standard perhaps you could target students if the location is right. Or it could be worth refurbishing your property to attract private tenants who are willing and able to pay a slightly higher rent.

Of course if landlords in more expensive areas move out of the housing benefit sector, as is expected, benefit recipients will be marginalised into poorer areas and lower quality accommodation.

Several authorities in London for example have no private rents below the new caps, and the implication is that poorer boroughs will see a flood of benefit recipients moving in because of the lower costs. Some have argued this will create ghettos of benefit claimants. And it’s the same, albeit to a lesser extent, throughout the country.

The cuts are clearly bad for landlords, and if you are impacted it’s up to you to plan your response in advance of the changes. But worse than that, they are bad for benefit recipients, some of the most vulnerable in our society. So, while I understand some landlords will be badly affected, forgive me if I don’t shed a tear for them just yet.

More: Brilliant buy-to-let mortgage deals | How to pick a perfect tenant

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