It’s the time of year when passive income becomes a buzzword. People look out of the window from their desk and think: “Wouldn’t it be nice to spend the day out there in the sun — and still earn money”.
In the UK, we often associate passive income with property, and imagine an easy life as a rich landlord. In reality, this can be harder work than you might think and there are several things to consider before you jump in.
There are a number of ways that people tend to get property working for them. At the most accessible end of the spectrum, they might let their property out while they’re away on holiday, or rent a room in their home to a lodger. Those with more assets might choose to buy a rental property for a regular income that way.
Whatever option you choose, don’t overlook a potential tax bill. You have an annual allowance of £1,000 you can make from property. Plus, if you rent out a furnished room to a lodger in your home, the rent-a-room scheme means you can make £7,500 from it without paying tax.
However, after that, you will need to consider income tax on any rent, and will probably have to complete a self-assessment tax return. If you buy a property specifically to make money from it, you also have to factor in extra stamp duty when you buy and potential capital gains tax when you sell.
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It’s not just the tax return you have to worry about. Before you start letting out your own home, you need to consider home insurance and check your mortgage documents to see if this sort of thing is allowed.
For long-term lets, getting hold of tenants and vetting them requires some legwork — unless you’re prepared to pay a company to manage this for you. You’ll also need to keep on top of rental income and be prepared to chase if you don’t get the payments you’re expecting. If the tenants refuse to pay, then you’re could be in a whole new realm of paperwork dealing with the courts.
There’s also the management of the let to consider too — for short-term renters there may be questions ahead of every visit, and issues when guests arrive, plus cleaning and maintenance before and after the visit — and possibly during.
For long-term lets there will be maintenance to do between tenancies, plus ongoing repairs and emergencies. You’ll need to choose between being on call day and night, or paying a company to do this for you.
The cost of these things will eat into any rent you make. You also need to factor in any periods when the property isn’t let — and any time when the tenants don’t pay.
Plenty of people rent out property without any major issues, but if you’re considering it, it’s vital to go in with your eyes open to the work and costs involved.
An alternative way to build passive income, without this level of hassle, is to invest. You can hold a portfolio of investments that are designed to produce an income, and aside from revisiting the portfolio every few months, there’s no extra work to do.
If you invest through stocks and shares ISAs, you can do so without having to worry about tax or doing a tax return.
There is some work needed at the outset, to get to grips with investing, and building a portfolio that’s right for you. You can pay a financial adviser to guide you with this, or you can read articles and guides and build the knowledge yourself.
Often the easiest approach is to get started with regular small sums drip fed into a diverse fund, and build your portfolio and your knowledge as you go along.
Plus, at this time of year, it’s the sort of thing you can do while sitting on a sun lounger.
Sarah Coles is a personal finance analyst at Hargreaves Lansdown and co-presents Switch Your Money On podcast.
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