In this blog, we're going to answer the question, are interest rates going up? This is very important for all property investors, because if interest rates do go up, this could cause a massive problem for literally hundreds of thousands of property investors. I'll explain exactly why this is a problem. I'm going to talk about if I think rates are going up or not, and also what you can do to protect yourself.
We've heard the announcement that year to date November for 2021, inflation is up to over 5%. That's the highest it's been for many, many years. When I started investing, I was used to interest rates of about 5, 6%. That's what we were paying. The Bank of England base rate was around that kind of rate. However, when the credit crunch came in 2007, 2008, we saw a massive drop in the property market, a massive crash. Interest rates also came down and the Bank of England rates came to about 1%. That was lower than they have been for a while.
High Interest Rates & the Property Market
We had that incredibly low rate for about 10 years. Then more recently, we've seen the Bank of England base rate drop to as low as 0.1%. Now, why is this important? Many people who bought property prior to the credit crunch would get a mortgage that was based on the Bank of England base rate. So they might be paying 1.5% plus base rate. Now when the base rate was at 5%, their mortgage would be as much as 6.5%. However, for the last 10 years they've been paying mortgages of effective pay rates between 2 and 3%. This means their mortgage payments have been very, very low. So most investors have had the benefit of increased cash flow purely because the interest rates were low, not any special skill or wise investments, just because rates are low.
If rates start to go up, many property investors will have a lot less cash flow every single month. Also if they own property in their own name, we know that the government bought Section 24 back in April, 2017. People who had property in their own name, had mortgages and were higher rate taxpayers, they're going to pay a lot more tax on their property. So if the interest rate goes up, there's this double bubble of effectively, rates going up, which means you're making less profit every single month. But as far as the tax man is concerned, if you own property in your own name and you've got a mortgage, you could actually be losing money every single month in terms of cash flow. But on paper, making a profit. So not only are you losing money every month, but also you have to pay extra tax to the taxman.
This will cause many investors a lot of financial difficulty. A lot of them might think about selling their properties, which could bring a flood of property onto the market. The property market could be affected and the market may come down.
How Interest Rates Control Inflation
Now why on earth is the latest announcement about having inflation just over 5%. Why is that a problem? Well, historically, the Bank of England will use interest rates as a macroeconomic tool to control inflation. So in other words, when inflation gets very high, inflation is the cost of living. This has increased in the last six months of 2021 because of costs such as transport and raw materials in building. All costs have basically gone up.
You might've noticed in supermarkets, things are costing more. So the average person has less money in their pocket because they need to spend more on all the daily living costs. Things like rent have also gone up massively, which is good for investors, not so good for tenants. So with an increase in the cost of living, the Bank of England will sometimes raise interest rates to slow the economy down. If it becomes more expensive for people and businesses to borrow money because interest rates have gone up, it slows the economy down and thus inflation comes down.
"Do they put interest rates up to control inflation, or keep interest rates low to continue supporting the economy?"
The Result of the Pandemic
Having come through the COVID 19 pandemic, we experienced the biggest dip in GDP we have seen for literally a hundred plus years. We did have a bounce back and particularly the summer of 2021, we had an incredible bounce back. A lot of people were happy to get out of lockdown. They hadn’t been spending much money and they had a lot of money in their bank they could use. The property staycation world absolutely boomed as people didn't really want to go overseas. It was very difficult to travel overseas. They wanted a holiday in the UK. So this is what caused a massive boom in the UK economy.
So actually the UK economy has done incredibly well despite the COVID-19 pandemic. It bounced back really, really quickly. This is partly due to the government intervention through Bounce Back Loans and the Furlough Scheme.
The government, I think, handled the pandemic and the financial impact incredibly well, but there are a couple of problems. Due to the government spending so much money, everyone at some point has expected inflation. When you print money, there’s more money in circulation and you need more to buy things. There’s normal price inflation when you print loads of money and this is going to be a problem that is seen around the world. World banks, as well as the Bank of England, are going to be having this difficult decision. Do they put interest rates up to control inflation, or keep interest rates low to continue supporting the economy? It's a really difficult measure. So what does it mean for you as a property investor?
Protecting Yourself As A Property Investor
When we buy a property, we make sure the property stacks up. In other words, it's got to make money for us today. One of the golden rules I talk about in Property Magic, golden rule number three, is you must only buy property that gives us positive cashflow. Over time, rental incomes tend to increase and we've seen a massive increase over 2021. There's been a real shortage of accommodation. We've seen rents go up, which is great for landlords.
However, we need to assume, if rents are going to be at the current rate and we're paying a mortgage at a current rate, how much is that going to make us. If your mortgage rate goes up, and the Bank of England base rate comes up, you might be on a fixed mortgage at the moment. By the way, that would be my recommendation. I can't give you financial advice, but what I'm doing with all of my purchases and my remortgages is fixing the interest rate for at least five years. I'm going to pay the same amount on my interest-only mortgages every single month for the next five years, no matter what happens to the Bank of England base rates. At the end of that five-year term, I'll go onto the standard variable rate of those particular lenders, which are normally a certain rate plus Bank of England base rate.So in five years time, when you come off those, it depends what's happening to interest rates, but it means the interest rate might go up.
Although you can protect yourself by having a fixed rate, do consider that at the end of that fixed rate period, your payment might go up. So how can you protect yourself?
"But I'm also pretty sure we're not going to see a massive hike in interest rates. I'm pretty sure if it happens, we're going to see quarter or half a point increase each time."
You can use Property Investing Strategies that give you a very high cash flow, such as Houses of Multiple Occupation or Serviced Accommodation. With high cash flow properties, you will definitely be able to afford interest rates going up.
The one good thing you need to bear in mind is that if we have inflation, property prices are also going to come up because of that price inflation. Inflation is actually good for us as property investors as it erodes the value of our debt. What do I mean by that? Well, let's say you borrow a hundred thousand pounds to buy an investment property and there's an interest only mortgage and it's a 20 year mortgage. We buy the property now and over that 20 years, the value of that property is probably going to go up. It might come up and come down because the property market is cyclical, but over time it generally goes up. So that means in 20 years time, hopefully the value of the property is a lot more than we bought it for 20 years before, but the debt we owe is still only £100,000. Due to the effect of inflation, £100,000 in 20 years buys a lot less than £100,000 right now.
So inflation actually erodes the debt. In real terms, it's still £100,000 of debt, but the buying power of it is far less. In fact, inflation is really good for us as property investors, as long as it doesn't have too much of a detrimental effect on interest rates.
My belief is that we will see some interest rates in the UK. I think they'll probably come in towards the end of 2022. Although the Bank of England is under pressure because of inflation, they might want to put them up. I think they will resist trying to support the economy.
But I'm also pretty sure we're not going to see a massive hike in interest rates. I'm pretty sure if it happens, we're going to see quarter or half a point increase each time. Now they might decide to do that every month for a number of months. So we might see weight creeping up like that. But I think it's going to be a gradual increase.
My message in this blog is, if you're buying a property, or remortgaging, maybe fix the rate for as long as you possibly can. You're going to pay more than a variable rate, but maybe it's better to minimize the risk. Also, make sure you're doing strategies that give you really good cash flow because then that's going to help you in case rates do go up. You're going to be able to afford the increased monthly cost of that mortgage. As always, make sure you know what you're doing, educating yourself is going to help you.
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