Property Investment Guidance

There are many aspects of renting to Local Housing Allowance (LHA) tenants that make landlords and property investors feel unsure as to the security of receiving rental income in this manner. This short article aims to clarify the main aspects of the process as well as some of the practical issues and criticisms surrounding the system as a whole.

*** WHAT IS THE THE LOCAL HOUSING ALLOWANCE (LHA)? ***

Initiated from 7th April 2008, the LHA was aimed at being a so called ‘revitalised’ method of looking at Housing Benefit for tenants in the mainstream private sector (deregulated by the Housing Act 1988).

The scheme was introduced to operate as a fairer and more simple way of calculating benefit for people in lower income brackets and/or with little savings. The main notable difference for landlords is that the system is designed so that any payment is sent directly to the tenant and only to the landlord in exceptional circumstances. The LHA is determined by the Rent Service which sets the level of benefit based on the size of the property (these figures are usually published on local council websites). Although the tenant’s benefit will be worked out by accounting for the level of income, savings and the number of people in the household, it will not be more than the maximum amount of rent. Note that the same rules apply for tenants that were already receiving Housing Benefit prior to 7th April 2008.

The UK government’s theory behind the policy was to give tenants a choice between the quality and the price of their accommodation – so those with similar circumstances will be entitled to similar rates of LHA. According to the Department of Work and Pensions (DWP), the LHA also has a fundamental part to play in “empowering people to budget for and to pay their rent themselves, rather than having it paid for them”, which “helps develop the skills unemployed tenants will need as they move back into work”.

The LHA is one of the Government’s key areas for reforming the welfare state and aims to:

- Offer an increased level of overall fairness – the new scheme pays the same amount to tenants in similar circumstances in the same area;

- Increase choice – tenants have the ability to either remain and pay to live in a bigger property or keep the difference if they move to a smaller home;

- Offer wider transparency – tenants (and landlords) can easily find out how much LHA will be covered;

- Give greater personal responsibility – empowering tenants to learn how to budget their own finances better;

- Promote financial inclusion – encouraging tenants to understand the banking system (such as setting up an account, standing orders, make payments themselves etc.);

- Help remove barriers to starting work – the government are actively encouraging welfare to work programmes (with ‘in-work’ benefit schemes in operation);

- Be simpler to understand – the aim is to remove the formerly complex rental determinations and restrictions that often led to delayed processing times;

*** CRITICISMS ***

The new scheme has continued to attract condemnation from all sections of society – not just landlords and property professionals – since its inception. A Blackpool coroner in 2009, for example, suggested that the paying of benefits directly to tenants is fuelling the city’s drug problem.

Others have criticised the government for failing to issue detailed and clear guidance to local authorities on the operation of the LHA – leaving managers in doubt about how they should actually be running their public organisations.

A related criticism is that private landlords are getting treated differently to social landlords, housing associations and other organisations that are exempt from the new rules (who continue to have the benefit paid directly to them). This puts private landlords at a severe competitive disadvantage in their attempts to provide housing that meets the UK population’s rising need of rented accommodation. It is argued that the competition authorities would be all over the issue if it was not for the fact that it is related to housing.

Other research has pointed the following:

- a decrease in the amount of landlords wanting to house LHA tenants as they do not like the idea of not receiving their rent directly;

- councils are actively establishing if a tenant is ‘vulnerable’ and have been having difficulty in obtaining evidence of proof;

- there is little evidence to prove that the LHA is actually helping tenants get back into work;

- the excesses in benefit over contractual rent, in some circumstances, is acting as a disincentive to tenants looking for work;

- the system has become open to abuse.

*** CONCLUSION ***

The main issue putting off landlords is that of receiving rents from tenants directly (and therefore potentially putting the property income at risk). Indeed, the National Landlords Association (NLA) went as as far as to state that homelessness would increase if reforms are not made (based on the fact that their research pointed to an increasing number of landlords becoming reluctant to let to LHA tenants). With the ongoing issue of a local housing shortage (and no new houses being built), councils across the country are becoming increasingly reliant on private landlords to bridge the gap – therefore such changes are clearly needed.

It is, however, important to remember that not all LHA tenants are the same and should be viewed under the same light. The majority are genuine claimants and negative stories, more often than not, are individual cases that are often over-hyped by the media. PS Investor Services believe that if you undertake full due diligence on prospective tenants (as you would with any other type of tenant) then using the LHA can be an excellent way to run a property business. We would also recommend spreading your risk as much as possible (perhaps by having a mix of private and LHA tenants across your portfolio).

It is commonly said that you make money when you buy, not when you sell. However, often this lesson is not learned until you try to sell a property. I remember the first property I tried to sell. It was a two-bedroom unit in a small complex of eight. A lovely unit… only four years old in an upmarket growing suburb. I was moving to another state in Australia and wanted the property sold, to enable me to buy another home in Queensland.

The property took over 12 months to sell. Three contracts fell over due to finance issues for the purchaser. That was my first experience in selling a property. The emotional roller-coaster was challenging. Initial excitement when the offer was negotiated and accepted, followed by confidence when the contract was signed, followed by disappointment when finance was not approved for the purchaser. The final emotion was frustration when the contract fell over. This happened three times.

Prior to this experience I believed properties took on average three months to sell, depending on the current market conditions. A few years later, we decided to sell one of our properties. This time it took close to two years to sell.

The property was a 2000 square metre property in a beautiful coastal holiday town. The property had zoning that allowed for the development of eight two and three-bedroom townhouses. The property was ideally located on the main road, a couple of hundred metres from the shopping precinct and beach, had two street access and was very close to community amenities such as a child-care centre, school and bus stop.

One month after we purchased the property we were offered $70,000 more than what we had paid for it. We had no intentions of selling the property at the time. Later, on realisation that we did not have the experience, contacts or time to develop the property, we decided to sell it. The first two offers we received were from developers. The offered a 12-month settlement contract. They would pay an upfront amount, with the balance paid in 12 months. This contract suited them. They got to hold the property with little money down. Negotiations could not get the terms of the contract suitable to both parties, and both contracts stalled.

In hindsight we should have accepted the contracts. These were the first two offers we received. We expected more offers to come in that didn’t have a 12-month settlement term. The market turned, developers pulled out of the market, residential construction slowed down and our property took an additional 18 months to sell. Holding a property for an additional 12 months to two years is not good from a cash-flow perspective.

It is important to consider the type of investor you are, before you risk buying a property that is wrong for your investment strategy. Don’t assume you can just sell a property if you need to. When selling, the market is in control. The market determines when it wants to buy, what it wants to buy and for how much. This experience provided one of our biggest lessons in property investing… know what type of investor you are, and be that type of investor only.